Performance Bonds for Private Owners – Theft of Services

Thanks to the Miller Act, all public projects above $100,000 requires the contractor post a performance and payment bond.  In fact, many states have a lower threshold on bond requirements, called Little Miller Acts.  It’s essentially because of this act that the surety industry thrives.

Understanding the benefit of performance and payment bonds, many private sector owners ranging from private and publicly held companies, home owners associations, lending institutions, landlords, to homeowners require bonds.  After the recent downturn in the economy many private owners had contractors go out of business midway through projects and have turned to performance and payment bonds to protect itself from contractor’s performance.  Other than residential homeowners, bonding these projects are pretty easy and usually just require the private owner verify financing to ensure funds are available to pay the contractor.

But every so often we come across an owner that requires a bond, only to waive the requirement after the contractor is able to secure the bonds.  There is really only one reason they do this – they want a bondable, creditworthy contractor but they do not want to pay for the premium.  The old saying, time is money, is true across many industries but ever present in the bond business.  That “premium” that is charged on a bond is the fee for the underwriting process which takes time.  And it takes the same amount of time to underwrite a $1.5 million project whether or not the bond is approved or declined, but our industry only charges a fee when a bond is issued. So it goes without saying, when an owner waives the bond AFTER a contractor presents the bond, it is a waste of everyone’s time – except for the owner who essentially receives a free prequalification of its hired contractor.  It’s bad business.

This recently happened at Surety 1.  While the surety industry has little recourse when this happens, what we can and should do as surety professionals is to flag the owner that waives bonds, and the next time that owner has a bond requirement, take a retainer fee to be applied to the bond premium upon issuance.  If the owner decides to waive the bond requirement then the fee is forfeited.  It seems ridiculous that as an industry we need to have this discussion, but happens more often than it should.