There are three parties to a Surety Bond
Surety is defined as a specialized line of insurance. It provides a guarantee, or responsibility for the obligation to fulfill the terms and conditions set forth in the contractual agreement between the parties. A surety bond is not like traditional insurance where the insurance company assumes the risk, accepting the reality that there will be a certain amount of premium that gets paid out in losses. With a surety, the risk remains with the principal. It the principal should default, the Surety Company will take the necessary steps to either replace the principal or financially compensate for the obligee’s losses.
Of surety bonds, there are three types:
A Federal Construction contract with a value that equates to $25,000 or more will have the requirement of a surety bind as a condition of award. That is not to say that other service or supply contracts do not, and most state governments and municipalities, as well as private entities, will have similar requirements.
When applying through the SBA, there will be some paperwork to complete. Some of the information required includes financial status (both personal and professional); banking details, as well as a business plan. These details are important criteria in allowing the surety to ascertain the principle’s capacity and ability to fulfill the contract. Filing this information can be done online or as hard copy. The approval process generally takes three to five days as long as the application is complete.
It is a bit of a hybrid in that a surety bond is considered a form of credit among surety professionals. The benefit (protection) of the bond goes to the obligee, purchased by the principle, whose premiums are exchanged for the use of the surety’s guarantee and, of course, their financial backing.
Much like buying insurance, a surety bond must be applied for through a Surety Company or their authorized representative. The agent for the surety company would certainly have power of attorney to issue the bond. There is an underwriting process for the purpose of evaluating the risk, including such aspects as character, capability and capacity.
Why are such qualifications important? Since it is looked upon as an extension of credit, effort is made to evaluate or gauge the likelihood of a contractor to fulfill the conditions of the contract that is awarded to them.
During the process of underwriting, if it is the finding of a Surety Company or their agents that the small business represents a level of risk that exceeds the limits to which the Company or Agent is willing to go, the SBA is there to cover the gap. Take for example a Company without a proven track record of success or lacking sufficient working capitol. These would be cause for concern
The SBA will guarantee from 70% to 90% of the losses and/or expenses that would be incurred by the bond issuer should the small business fail in completing or default on the contract. This is the government’s guarantee that serves to encourage surety companies to continue issuing bonds that they wouldn’t otherwise. In this way, the SBA Surety Bond Guarantee supports the growth of small business.