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Surety Bonds and the Principle of Indemnity

Surety Bonds and the Principle of Indemnity

One of the most important and misunderstood terms regarding surety bonds is indemnity. Surety bonds are written on the principle of indemnity. In plain terms, that means that if the bond company suffers a loss, they expect to be reimbursed (indemnified) from the indemnitors. As such, surety is credit product and more related to banking than insurance. In theory, surety bonds are written with the assumption that a loss will not occur at all. This method of underwriting make surety an affordable product for all parties. Of course, losses do occur, and we get back to that principle of indemnity. So, who are these Indemnitors? The answer depends on the GIA.

General Indemnity Agreement

A General Indemnity Agreement is often referred to as GIA for short. Every bond company has one and they will require it to be signed before issuing bonds. The GIA is a contract between the bond company and the Indemnitor outlining their responsibilities to each other. Unfortunately, most people fail to read this agreement until there is a problem. Don’t make that mistake. Each bond company’s GIA is slightly different, but the overall wording is very similar as they have been tested in court many times over the years. The Principal on the bond will always be an indemnitor. In most cases that is the Corporation.

The Principle of Indemnity – Personal Indemnity

Depending on the circumstances, the Owners of the Corporation may also be listed as individual indemnitors. This is typically referred to in the industry as “Personal Indemnity.” Typically, a bond company will ask for personal indemnity for all shareholders owning 15% or more of the company stock. The percentage vary depending on the bond company and the person’s role within the company. For example, the company “President” may be asked to indemnify even if his/her ownership is less than 15%. In most circumstances when personal indemnity is required, the indemnitor’s spouse (if applicable) will also be required to sign. Companies with strong net worth positions are often able to support surety programs without personal indemnity from the Owners.

Capital Retention Agreement

Depending on the bond company, a waiver of personal indemnity often requires the signing of a capital retention agreement. I find that most bonds agents do not explain what this is. In usually says something to the effect of no personal indemnity is in place if tangible net worth stays above a certain limit. There is nothing wrong with a capital retention agreement if you understand it. Just know that typically in a claims situation, the threshold is usually breached and personal indemnity may kick in.

Third Party Indemnity

A GIA may also have Third-Party Indemnitors. A Third-Party Indemnitor is one that does not have an ownership stake in the corporation. This could be an individual or another Corporation. This is an uncommon circumstance and typically used when the Principle and Owners do not have the financial resources to qualify for bond credit on their own.

As I said in the beginning, indemnity in surety bonding is widely misunderstood. Much of that has to do with the fact that surety is often written by insurance companies and agents. Surety is not insurance and should not be treated as such. Insurance expects to have losses and prices their products accordingly. You can be sure that if you have surety bond losses, the bond company will come to your company and indemnitors expecting to be reimbursed. Always work with a surety expert who can help you through these complex issues. At MG Surety Bonds, we want to be your bond broker for life.

If you have any questions about the principle of indemnity don’t hesitate to ask, you can get in touch with us here.