Service contractors have a tough time when it comes to surety bonding. They fall into a gray area for most surety bond companies. Are they contract surety or are they commercial surety? How do they go about getting a bond?
What is a Service Contractor?
This is a wide term for many fields and could include any of the following groups:
|School Bus Companies
This is by no means a comprehensive list. A service contractor is typically any company that is obligated to sign a contract providing service that is not a construction contractor. Service contractors still fall under the rules of The Miller Act and Little Miller Acts meaning that they need to provide performance bonds and payments bonds if public funds are involved.
What Does a Service Contract Guarantee?
Service contract surety bonds typically guarantee a service at a fixed price for a certain period. That price could be based on the total contract amount or a unit price amount over a given period. From a bond company perspective, the unit price is preferable. For example, let us say a snow removal contractor provides a one-year bid to a city to clear all streets. The city would likely prefer a fixed price contract for the year no matter how many times snow removal is required. This option would provide more risk and reward opportunity for the contractor. However, the contractor and surety bond company would likely prefer a unit price contractor for one year. In that instance, the contractor would get paid a dollar amount each time snow is cleared. They know exactly what their costs and profits would be for each given snow fall. Usually, the contracts are fixed price.
Therefore, the surety bond company will want to make sure that the contractor has the adequate manpower, profit and equipment to perform the work. It can be very difficult and usually very costly if the surety bond company must find a replacement contractor on a service contract.
Another important underwriting factor in service contracts is the length of time in the contract. In the example above, we used one year. However, service contracts can last many years. This is a challenge for surety bond companies because even strong companies can come across hardships and suffer problems over long periods. Nobody knows what the economy, labor market, materials or anything else will be 3, 5 or 10 years down the road. The longer the contract, the more financially strong the contractor will need to be to get bonded. Most surety bond companies are uncomfortable going past 3 years for even the strongest contractors. One way around this is to have a contract and surety bond that are mutually renewable after some set period. For example, the performance bond may guarantee a contract for 3 years and be renewable annually after that by the mutual agreement of both parties including the surety bond company.
Service contractors need to qualify for surety bonding like construction contractors. This can be a challenge as they may not be used to providing underwriting information. Like construction bonds, most service contractors can now get bonding on good credit alone for bonds under $500,000 and less than 2 years of guarantees. However, larger bonds and longer terms will require financial statements on the company, owner or both. To learn more about underwriting requirements, visit our 3 C’s page here.
Cost of Surety Bonds for Service Contractors
Because a performance bond and/or payment bond will ultimately be issued for the service contract, that is how these bonds are priced. You can read more about that here. However, service contracts often renew yearly, which means the premium renews annually as well. Contractors performing service work should make sure they have the annual cost of the surety bonds in their bid.
Having the ability to provide performance and payment bonds can really set up service contractors to pick up more profitable work and separate themselves from the competition. At MG Surety Bonds, we have numerous bond companies to find the best solution. We want to be your bond broker for life! Contact us anytime.