What’s the point of a performance bond?
When we hear the term “performance bond,” we think of amazing works of art such as paintings and sculptures, as well as contracts for show business and other entertainment-related endeavors. Everything is very glitzy. Performance bonds are actually very frequent in many types of construction projects that you wouldn’t generally identify with such a bond (and certainly wouldn’t expect to require one).
Subcontractors are typically required by general contractors to provide an acceptable type of security that guarantees their capacity to complete a project if they fail before it is completed. An Indemnity Agreement or a Performance Bond is the most common form of this requirement.
What guarantees does a performance bond provide?
A performance bond ensures that if a contractor fails to fulfill his or her contractual obligations, an insurer will cover any damages directly attributable to the faulty work. If litigation is necessary to recuperate these damages, the insurance company is also required to pay the claimant’s legal fees.
Because they guarantee payment for work done on building projects, performance bonds are also known as bid or payment bonds. Typically, they insure $1000 for $100. So, if you have a $500,000 contract and need a $50,000 payment bond, you should anticipate paying around $2700 (since the bond is 5% of the contract amount). The good news is that if you’re getting several bonds or bonding large contracts, many businesses will give you a discount, which can help you save a lot of money on your performance bond.
Subcontractors, suppliers, and lenders that do business with a contractor are frequently asked to post performance bonds. They’re requested by the owner (the person with whom you’re working) or the general contractor, who uses an “itemized list” of subcontractors on the job. If you’re not sure if your contract calls for one, check with your general contractor. This is crucial due diligence that you must perform in order to complete your task.
What are the ramifications of failing to provide a performance bond?
The general contractor may bring a claim against your performance bond insurance if you’re a subcontractor, supplier, or lender who has promised to deliver products or services for a construction project and fails to complete the work or meet your obligations on time. If you (the sub, supplier, or lender) fail to post a payment bond, you may be personally liable for the difference between what the contractor loses as a result of your failure.
You should also be aware that if you insist that the owner put a performance bond on his or her contract with you (often referred to as “piggybacking”) and they refuse, they may not have sufficient finances to pay for any work you accomplish AND thus be in breach themselves… This gives you the right to sue them for the money you spent trying to make their initiative a success.
This is why “good faith deposits” are frequently required of contractors: the owner/general contractor knows that if he defaults on his contract with you, he’ll likely be sued, so they’ll try to protect themselves by requiring your good faith deposit – the amount of money you must pay them into an escrow account to ensure that they’ll complete their end of the deal.
In the end, if you’ve been asked to submit a performance bond, it’s because there’s a good likelihood that your failure to fulfill your contractual obligations will result in a financial loss to the party who requested it.
Who should be required to post a performance bond?
It is recommended that you obtain some type of payment or indemnity bond if you are any of the following:
- On a construction project, a subcontractor. A vendor who provides items or equipment for a project. A financial institution that lends money to a project.
- Always talk to your insurance broker or agent about what’s best for your company and how you can protect yourself from financial loss on projects where you’re selling goods or services.
Failure to provide a required performance bond may result in an owner terminating your contract, thereby halting all development on your project. This could result in you losing any progress you’ve made thus far, as well as potential losses. As a result, it’s best to seek the assistance of a performance bond provider.
Are all proposals subject to performance bonds?
No. If a performance bond is necessary on their contract with you, you should consult your client or contact at the project site. Performance bonds are typically required when a subcontractor, supplier, or lender has promised to execute work for a predetermined fee or premium, but they are not always required.
When you start working with a new client, find out if they require a payment bond as part of your contractual agreement before you begin working on their project. This will help you get started faster and provide you peace of mind that you’ve covered all of your bases on both ends.
Performance bonding requirements can fluctuate significantly from state to state, and even within states. For this reason, it’s advisable to check with your client or a contact at the project site before beginning to provide goods and services to them; this way, there won’t be any delays.
