Winning a bid on a construction project is a big deal.
And getting started on time is vital to completing the project according to the contract you've signed.
This is why when you bid on a project and secure your bid bond, you also get pre-approved for a performance and payment bond.
In this short post, you'll learn:
- What a performance bond is
- What a payment bond is
- Why these bonds typically go together
- What you'll need to pay as little as possible getting your bonds
What is a Performance And Payment Bond?
Think about any construction project from the project owners perspective.
At a high level, they want a project to be completed:
- On time including project milestones
- At or below budget
- Following building codes and contract specs
They don't want a contractor, in the middle or end of the project, suddenly unable to complete the project.
This is why they require a performance and payment bond before the project can begin.
If the is your first time getting for a job, learn more bout contractor bonding requirements.
It's almost he exact same process as getting your contractor license bond.
The Performance Bond
The performance bond holds you accountable to completing the project according to the contract.
If you fail to complete the project or don't meet the specific requirements of the contract, the project owner can make a claim against the bond for financial compensation.
Examples of how a construction company can fail to complete a project include:
- Mismanagement of project cash flows, running out of cash
- Failing to check environmental regulations and having a project shut down
- Management oversights that lead to equipment issues and ultimately to cash flow issues again
In the event of a default, the underwriting surety would step in to assess the situation and provide the best solution using the funds from the performance bond.
The actions to get a project back on track can include:
- Providing cash to the current contractor to make ends meet and get the project to completion
- Taking over the project and finding a new contractor to finish the project
- Give the money to the project owner so they can find a new contractor to get the project done
Of course construction projects never go according to plan.
There will always be delays and challenges in any project. Most project issues that arise does not mean the project contract is in default. This is no small matter if a project ever get's close to making claims on the performance bond.
Bond claims typically only happen when there is purposeful negligence by the contractor. But in the case of a construction project issues are not always negligence on purpose, rather just poor management.
This is why construction bonds are a little different compared to how all surety bonds work.
Payment Bond
According to Nationwide Insurance, the average residential project uses 22 subcontractors.
Commercial projects can easily use more.
A payment surety bond holds you accountable to paying:
- Subcontractors who complete work on the project
- Any material or suppliers who provide for the project
- Any other third part that provides services to get the project to completion
At a high level, when a payment bond is "in effect" and a subcontractor or supplier is not paid, either the construction business is get them paid or the payment bond will receive a claim.
In reality things can get messy because third parties that are not paid will place a lien on the project. But if the project is a government owned project, it's not possible to place a lien on a project.
What you need to know is, you purchase a payment bond as your guarantee that all subcontractors and third parties will be paid for the work they do.
Keep in mind, depending on the project, subcontractors may be required to purchase their own performance and payment bond.
Just remember, these bonds are used to hold each party accountable to do what they said they would do to complete the project.
How Are Performance and Payment Bonds Priced?
The good news is you're pre-approved for the performance and payment bonds while when you get approved for your bid bond.
The performance and payment bond are typically bundled together (with the bid bond) because most projects require them.
You can almost think of purchasing each bond as a bundle deal.
The reason you do not purchase they separately is they are an assessment of risk on the same project.
Here the steps:
Step 1: Personal Credit Check and Construction History
A surety is a specialized insurance company that specializes in underwriting different types of construction bonds.
To evaluate any risk associated with bonding your construction company the surety assess these factors:
- The primary credit of the owner and/or owners
- Your past construction experience including job sizes
- The bond history of the owners on previous jobs including license bonds
From these factors, the surety determines a rate.
This rate multiplied by the bond amount for your job (your winning bid amount) is the price you'll pay for both the performance and payment bonds.
Typical Rates For Performance and Payment Bonds
Most rates come back within the 2.5% to 4% range. A 4% rate is very rare.
- As an emerging construction business you'll likely pay 3% in almost every case
- As you build a resume of successful projects, your rate should come down
You would then multiple this rate by the job total to get the bond price.
The bond amount (being equal to the project projected total cost) is the maximum amount a claim can be if a valid claim is filed against you.
Step 2: Purchase The Bond
Once you're approved all you have to do is purchase your bond.
This is why we get you approved for your performance and payment bond during the bid bond process.
You'll know the pricing well in advance.
And if you win the bid for the job you can immediately purchase your performance and payment bonds to not miss a step getting started on your project.
Work The Price Into Your Bid
As you can imagine, based on the project, these bond amounts can be very large. And the price in turn can be staggering.
That's why it's common practice to work the bond cost into your project bid.
You accomplish this by taking your current bid amount and dividing that by 0.97.
This will give you your new bid amount.
- 0.97 for a 3% bond rate
- 0.98 for a 2% bond rate
- 0.99 for a 1% bond rate
Keep in mind, you will do this for project change orders as well.
Step 3: Have Your Bond Issued
Issuing your bond is a fast process.
Again, because we have you already approved, it only takes one day at most to have your bond issued.
Some construction jobs require a custom bond form. If this is the case, you'll be informed and we'll get that form during the bid bond process.
If there is no required form, we use an AIA (American Institute of Architects) performance bond form. This is a widely accepted form.
Once your bond is complete, we'll email you a copy and mail you a physical as well.
Learn more pricing details with examples and submit your performance bond quote request.
Get Your Bid, Performance, and Payment Bond Today
We love to build lasting relationships with our contractor customers to be your go-to source for your bonding needs.
Reach out today by starting a quote request. You'll immediately be assigned a bond specialist you can work with through multiple projects.
If you would prefer to call 1-800-608-9950 and ask for a bond specialist today.
Get Pre-Approved For a Construction Bond Capacity
As an emerging construction company, you're likely evaluating multiple projects and bidding on potentially more than one.
This is why you need to work with a construction surety bond producer like Surety Bonds Direct.
We will help get you setup with your first surety bond program. This includes getting pre-approved for up to $3 million in aggregate construction bond capacity with nothing more than a credit check of business ownership.
This means personal credit will not be a factor in getting approved for the construction bonds you need. You only need to get the project approved by the underwriting surety. Project approval is a very straightforward process.
Click here and tell us about your business or call a construction bond specialist today at 1-800-608-9950.
Keep in mind you don't need to request approval for $3 million. Choose an amount that fits your current business and project size capacity.
