Performance Bond Frequently Asked Questions

Performace Bond Frequently Asked Questions - A Contractor looking up at a thought cloud that says Performance Bonds FAQs

In this article, we tackle Performance Bond frequently asked questions. Performance Bonds don’t have to be confusing and we are always available to educate anyone on the process.

What is a Performance Bond?

A Performance Bond is a type of contract (construction) surety bond. It is a three-way guarantee where the third-party bond company guarantees the performance of a contract by a Principal (Company providing the bond) to an Obligee (Receives the bond). If the Principal fails to perform the contract, the surety bond company is to either pay the Obligee or complete the obligation. You can read more about performance bond claims and options here.

Here is an animation showing the relationships between an Obligee, Prinicpal and Surety Bond Company for a Performance Bond:

Can a Performance Bond Be Cancelled?

No. Performance Bonds are non-cancellable once written. Performance Bonds guarantee an underlying contract. Therefore, the contact must be completed, cancelled or terminated and the performance bond will follow suit.

Can Performance Bonds Be Transferred?

No. Surety bond underwriters issue performance bonds based of the worthiness of the Principal and Indemnitors. Although the Principal can have others complete the obligation, the performance bond cannot be transferred to others. The Principal and Indemnitors are responsible for the obligation until the contract is complete and any warranty or maintenance period has expired.

When Are Performance Bonds Released?

A Performance Bond guarantees an underlying contract. A performance bond is not released like a letter of credit. Once the contract is complete and any warranty or maintenance period has passed, the performance bond’s obligation is finished. There is no need to get the performance bond back from the Obligee or close it out. Generally, a surety bond underwriter will send Contract Status Report requests to the Obligee to know when the contract has been completed and when the maintenance period has started.

What Do Performance Bonds Cost?

Generally, between 0.5% and 3%. Most Performance Bonds are rated on a sliding scale so the overall cost decreases as the contract gets larger. You can see a detailed breakdown of how performance bonds are rated here.

How Long Does It Take to Get a Performance Bond?

Small bonds under $500,000 can be approved and issued in a matter of minutes for those Principals with good credit. For larger performance bonds or bond programs, we need to collect underwriting information including financial statements on the company, personal financial statements on the owners, a completed application, bank information, etc. Once we receive this information, we can typically have a Contract Bond Program or approval set up within 24 hours. More difficult circumstances may require longer lead times. For example, a contractor utilizing the SBA Bond Guarantee Program should expect a few days for approval.

Where Do You Find Performance Bonds?

In the United States, Performance Bonds can only be written by licensed property and casualty insurance agents. Agents then must be appointed with licensed surety bond companies. Although most insurance agents can sell performance bonds, most probably should not as they are not insurance. Surety bonds are more closely related to a credit product. A good place to find reputable surety bond experts is NASBP.org.

How Do You Get A Performance Bond?

Small Performance Bonds under $500,000 are easily written through a personal credit check. Larger performance bonds are underwritten through a process known as “The 3C’s”. Contractors typically must provide financial information on both the company and its owners. They will also be asked about the company’s experience, banking, equipment, and internal controls

Why Am I Being Asked for A Performance Bond?

Performance Bonds are required on Federal contracting projects of $150,000 and up. This is required through The Miller Act. Most states and municipalities have similar bonding requirements through what are known as “Little Miller Acts.” Private owners and General Contractors may also ask for Performance Bonds as part of their strategy for managing project risk.

What is a Power of Attorney and Seal on a Performance Bond?

Performance Bonds are original, legal documents. Instead of having to get every performance bond directly from the surety bond company which would take time, they give us, the broker, a Power of Attorney to execute performance bonds on their behalf. We put the surety bond company’s seal on them, sign them as “Attorney in Fact” and attach our power of attorney from the surety bond company.

Does the SBA Write Performance Bonds?

The SBA does not directly write Performance Bonds. Instead, they provide guarantees to surety bond companies. The surety bond company gets reimbursed by the SBA if the bond company suffers a loss on the guaranteed account. These guarantees range from 80%-90%. By providing a guarantee against a large portion of the loss, the SBA encourages surety bond companies to write performance bonds for contractors that would not qualify otherwise. The SBA does collect a fee for this guarantee. Read more about the SBA Bond Guarantee Program here.

Can I Get a Performance Bond After a Bankruptcy?

Typically, yes if the bankruptcy is completed and discharged. A contractor that has filed a recent bankruptcy may have to use the SBA Surety Bond Guarantee Program discussed above. The contractor should also expect to pay a higher bond rate.

Are Performance Bonds Insurance?

No. Although they are often written by insurance companies and insurance agents, Performance Bonds are very different from insurance. Performance Bond underwriting assumes that the surety bond company will not suffer a loss. Performance Bonds always require indemnity. This means that if the surety bond company suffers a loss, they will seek reimbursement from the Principal and Indemnitors. On the other hand, insurance is written with the expectation of losses. The insured is only responsible for portion of the loss through deductibles and co-insurance.

Do I Have to Personally Guarantee a Performance Bond?

That depends. Most surety bond companies require personal indemnity on all shareholders with more than 15% ownership. However, they are often willing to waive personal indemnity for companies with strong balance sheets and good experience. The requirements for these waivers vary by surety bond company.

Why Does My Spouse Have to Sign for Performance Bonds?

This is common in credit relationships. If there was a claim, a surety bond company does not want to argue over which assets belong to the Owner and which belong to their spouse. This is also a means of ensuring that Corporate assets are not shielded by transferring them to the spouse. It is very uncommon for a surety bond company to provide a spousal waiver.

Performance Bonds vs Letters of Credit and Bank Guarantees

Performance Bonds are typically unsecured credit. Most surety bond companies do not file liens against assets unless the contractor is in a claim situation. Also, surety bond companies must investigate performance bond claims and be careful to pay only if the claim is found to be valid. On the other hand, letters of credit are typically secured by assets and receivables. They are also usually “irrevocable”, meaning that once committed, there is very little protection for the person posting the letter.

Can I Get A Performance Bond with Bad Credit?

Yes. Companies with solid financial strength and experience can still get performance bonds with bad credit. Be ready to explain the reasoning for the bad credit and a plan to correct it moving forward. Even without strong financial strength, there are tools to help get performance bonds. These include the SBA Surety Bond Guarantee Program, funds control, collateral and other tools to make getting performance bonds easier.

How Do I Get a Refund on a Performance Bond?

Typically to get your premium refunded, you need to return the original performance bond to us. Performance bonds premium cannot be refunded off copies alone because they are legal documents that are by nature non-cancellable. Also, the performance bond must be returned before the project starts or at least very early on in the project before much work has taken place.

What is a Performance Bond Overrun?

Performance Bonds guarantee a contract and are billed based off the contract amount. However, contract values can change during the project. An increase in the contract amount will lead to an overrun which means the surety bond company is entitled to additional premium. A project decrease would result in an underrun which means the surety bond company owes you a refund of some of the bond premium.

Performance Bond vs a Payment Bond?

A Performance Bond guarantees that project will be completed according to the contract. A Payment Bond guarantees that subcontractors and suppliers will be paid on the project and therefore be lien free. A Performance Bond can be written by itself but is often written with a Payment Bond. There is no additional charge when the two surety bonds are written together.

Are There Differences in Performance Bond Companies?

Yes. There are many different companies that write Performance Bonds. Each company has their own underwriting appetite. Some companies prefer working capital, while some prefer net worth. Some concentrate on Fortune 500 companies, while some look for small and mid-market business. Also, different surety bond companies have different financial strengths which determines their capacity to write performance bonds. Having a variety of surety bond companies writing Performance Bonds is a good thing for contractors. It ensures there are solutions and surety bond capacity for all types of situations.

What is a Performance Bond Treasury Listing?

The U.S. Federal Government maintains a list of surety bond companies who they approve of doing business with. This list if the Treasury Department’s 570 Circular. This is sometimes referred to as a “T-Listing”. The is list also gives the largest bond amount each company can write to the Federal Government. Often, surety bond companies have agreements with re-insurers or other surety bond companies if the project is larger than their Treasury Listing, however. You can check your company’s T-Listing here.

What Is Performance Bond Capacity?

Surety Bond Capacity refers to the total credit that a surety bond company extends to the Contractor (Principal). Although many factors are considered, typically surety bond capacity is a multiple of analyzed working capital and/or net worth. There are some tips for increasing bond capacity here and here.

Bid Bond Vs. Performance Bond

Although these are both types of Contract Surety Bonds, they are not the same thing. A bid bond guarantees that a Contractor will enter a contract at the bid price, and if asked, provide a performance and payment bond. A Performance Bond is regularly issued after using a bid bond on a project. However, a bid bond is not required to issue a performance bond.

There are many other questions that could arise regarding performance bonds. We will keep updating our list as questions come in. Our surety bond experts are ready to help any time, even if you are not a customers yet. Please feel free to contact MG Surety Bonds anytime you need us.