Account Receivables Impact on Surety Bonds

Accounts Receivables and Surety Bonds - A contractor's desk with hardhat and calculator. The words "Accounts Receivable" and "Impact on Surety Bonds" stamped on it

For many contractors, Accounts Receivables are the largest asset on their balance sheets. Understanding how accounts receivables are viewed by surety bond underwriters is crucial to getting surety bonds and maximizing a company’s surety bond capacity.

What Are Accounts Receivable?

Accounts Receivables are monies owed to a company for services or goods that they have performed or provided to another party. In construction, accounts receivables are created when a contractor has billed for work but has not yet received payment for that work. Accounts Receivable are vital in construction. They allow projects to progress in timely and efficient manner. Owners typically do not want to pay for work until it is complete and paying contractor daily as work progresses would be slow and inefficient for all parties. In modern construction, most companies can only bill project Owners once per month and the unpaid amount will show up on a contractor’s balance sheet as a current asset as shown below.

Surety Bonds Accounts Receivable - Sample Balance Sheet showing Accounts Receivable as a Current Asset

The expectation is that accounts receivables will eventually be paid by the contractor’s customers and then converted to cash. That cash can be used to pay the contractor’s Accounts Payables and other operating expenses and hopefully add profit to the construction company.

Accounts Receivable - This shows how an account receivable is created between a contractor and a project owner. The background is a construction blue print and the picture is in blue tint.

Accounts Receivables are a huge risk to Contractors and Surety Bond Companies

Although accounts receivables are considered an asset, they represent one of the riskiest parts of any business, but particularly construction. This is because the contractor is providing financing for the owner, usually interest free. The contractor has performed the work and likely incurred costs such as labor, material, equipment use, and overhead. If the Owner does not or can not pay the Contractor, it may have a devastating impact on the Contractor. In the construction industry, accounts receivable that a contractor cannot collect are often referred to as “Hung Receivables”. Hung receivables are a leading cause of performance bond claims and payment bond claims.

Even if a contractor can collect all their account receivables, it is important to do so in a timely manner. A contractor will have to finance their accounts receivables either through internal cash, or though bank or supplier financing. The longer it takes the contractor to collect their accounts receivables, the more it costs the contractor in either direct interest, or opportunity costs on their own cash. Some contractors successfully negotiate favorable terms with their subcontractors and suppliers to avoid these costs. Payments in construction are vitally important and careful consideration should be given to these terms before signing any contract. You can read more about payment clauses that contractors should be aware of here.

Surety Bond Treatment of Accounts Receivables

Surety Bond underwriters understand that account receivables are a normal part of operations for most businesses and contractors. They are also a big component of working capital which is one of the most important factors that surety bond companies use for determining a contractor’s surety bonding capacity. Working capital is calculated as Current Assets – Current Liabilities.

Surety Bonds and Working Capital - This is the calculation formula for a contractor's working capital in a blue text box. The background is several contractors in hard hats looking at a project

As mentioned earlier, accounts receivables are a current asset. Therefore, in theory, more accounts receivables could mean more working capital and more surety bond capacity. However, that may not always be the case.

Old Accounts Receivables are Not Allowed

As part of their underwriting, surety bond companies will ask contractors for an Aging of Accounts Receivables to go along with their balance sheet. An Aging of Accounts Receivables shows how long a company’s accounts receivables have been outstanding and unpaid. Usually these are broken down into thirty-day increments such as 0 -30 Days, 31 – 60 Days, 60 – 90 Days, and 90+ Days. Some systems will continue to 120 Days and beyond. An example of an Accounts Receivable Aging is below:

Surety Bond Accounts Receivable - Sample contractor aging of accounts receivable

Aging of Accounts Receivables are important to monitor because often older receivables become a sign of problems. These receivables may be a sign that the Owner is having difficult paying the Contractor or that a dispute exists. Either conditions may cause the receivable to be “Hung” and uncollectible. Therefore, surety bond underwriters get more nervous as receivables get older. Once a receivable hits 90 days or more, they completely remove it from their underwriting analysis. This can in turn be a big blow to the Contractor and their surety bond capacity. In the chart above, there are $425,000 of receivables over 90 days including $ 300,000 from Late Pay Library, $25,000 from Another Date Center and $100,000 from Pricey University Inc. Most surety bond companies will completely remove these receivables from their analysis. This will significantly reduce working capital and a contractor’s surety bond capacity.  Here is another look at our contractor balance sheet after we subtract the $425,000 in Accounts Receivables over 90 Days.

Surety Bond and Accounts Receivable - Sample Balance Sheet showing how a surety bond company will remove over 90 day receivables from bond capacity

You will notice that because Accounts Receivable are a current asset, our total current assets are now only $1,675,000 instead of the reported $2,100,000 in the eyes of a surety bond underwriter. This has also changed our working capital because the Total Current Assets of $1,675,000 minus Total Current Liabilities of $1,050,000, gives us analyzed working capital of only $625,000 instead of the previously reported working capital of $1,050,000. Given that most surety bond companies base a contractor’s bond capacity on working capital, this has significantly reduced the contractor’s surety bond capacity.

Break Out Retainage

Retainage is common in construction contracts. It helps owners and Upstream Contractors make sure that projects are closed out by retaining a portion of the project funds owed to a contractor. Retainage laws very by state. An excellent resource on each state can be found here. Retainage shows up as Accounts Receivable and may stay on the books for a long time. Fortunately, surety bond underwriters understand this and will count retainage in their analysis, even though it may be well over 90 days old. A big mistake many contractors make, however, is that they do not break out retainage on their Aging of Accounts Receivable. If the surety bond underwriter does not know it is retainage, they can not give the contractor credit for it. Here we add a Retainage Column to our Aging of Accounts Receivable from earlier.

Surety Bonds and Aging of Accounts Receivable - This aging of accounts receivables show how surety bond companies treat retainage for contractors


As a result of breaking out the retainage from the rest of the accounts receivables, we see that $325,000 of our over 90 day old receivables are retainage. That means that only the $100,000 receivable from Late Pay Library will be disallowed by the surety bond company. As a result, we just picked up $325,000 in additional working capital that we had lost earlier. This would equate to significant surety bond capacity for this contractor. You can see the different results on the balance sheet below.

Sample balance sheet showing how surety bond underwriter treat retainage on a contractors balance sheet

Comparing Accounts Receivables to Accounts Payables

Another important consideration for surety bond underwriter when analyzing a contractor’s Accounts Receivables is how they relate to the contractor’s Account’s Payables. Accounts Payables are monies owed by a company for services or goods that were provided to another party. Account Payables are a Current Liability that goes on a contractor’s balance sheet. Because they are a current liability, Account Payables also affect working capital and a contractor’s surety bond capacity.

Accounts Payable - this shows how an account payable is created between a contractor and a material supplier or subcontractor

Surety Bond Underwriter will look closely at how a contractor’s accounts payables compare to their accounts receivables and cash positions. A General Contractor may have more accounts payable than accounts receivables if they have good collection practices and have negotiated favorable payment terms with their subcontractors. However, that should be offset by large cash positions that are strong enough to satisfy their accounts payable down the line. On the other hand, Subcontractors may have significant accounts receivables compared to their accounts payables. Their suppliers may require payment before they can collect from the General Contractor and they will need to use cash or bank financing to make up the difference until they can collect. However, in general, most companies Accounts Receivables should exceed their accounts payable. Otherwise, the surety bond underwriter will be concerned about the contractor’s future cash flow.

Related Party Receivables

To this point, we have discussed “Trade Accounts Receivables”. Trade Accounts receivables are the receivables owed to a Contractor by the Owner or other contractors in the operation of their business. However, there are other types of accounts receivables including “Related Party Accounts Receivables”. These receivables show up on a contractor’s balance sheet when the contractor is owed money by another “related” company. For example, a contractor may have set up other entities to own property or equipment. The contractor could also have a separate company for service work.

For the surety bond company to allow these assets for surety bond consideration, they need to analyze the financial statement for the related party as well. If the related party has tangible assets, it is likely that these receivables can be considered and allowed by the surety bond underwriter.

However, if the related company does not have liquid assets or the assets are intangible such as “Goodwill” or “Amortization”, the receivable will likely not be counted at all by the surety bond underwriter. This is often the case when contractor’s start a new entity and loan money from the construction company. They only later realize that this new receivable is not counted by the surety bond company and their bond capacity is reduced.

Normally, an additional requirement of considering a related party receivable, is that the bond company will also want the indemnity of the related party. After all, if a Principal is going to be trading assets between two companies, it makes sense for them both to indemnify. You can learn more about indemnity here.

Shareholder Receivables

Another type of receivable that can show up on a balance sheet is a Shareholder Receivable. A Shareholder Receivable is when an owner of the company borrows money from the company. Regardless of what the money is used for, most surety bond companies will not count Shareholder Receivables AT ALL. This is because, if a company gets into financial trouble, the likelihood of getting the company owner to repay this amount is very small. Usually if the shareholder is borrowing money from the company, they do not have other avenues of paying this money back other than from the company itself.

Accounts Receivables can be complicated, especially regarding their impact on surety bonding. As a rule, the best run companies collect receivables quickly, and do not have receivables from shareholder and related parties. Otherwise, a contractor’s surety bond capacity may be significantly affected and reduced. We are experts at Surety Bonding and construction. Contact us anytime to discuss how your accounts  receivable may impact your company. You can also view our Frequently Asked Questions on Performance Bonds or read our case study.