Performance Bonds Required of Subcontractors More than Ever

As the economy begins to improve one would think there would be some stability in the subcontractor world.  When we talk to General Contractors, almost all of them start talking about how difficult it is to get through a job without one or more subcontractors having significant problems.  Many general contractors already have added a bonding requirement on subcontractors. Those that still are not requiring performance and payment bonds of subcontractors should re-visit this very important tool.  All subcontractors should be prepared to bond, even for those that have never been required to post bonds in the past.  Many GC’s and even some owners are requiring bonds on subcontractors.

“We don’t bond our subs because we only use established subs, we have used before”.  Does this sound familiar?  In my 25 year career as a surety bond underwriter, I have heard this argument more than any other of why not to bond sub-contractors.  The fact is, no really knows what is going on behind closed doors.  There have been may instances of  established contractors that were unwilling or unable to successfully navigate the current economic landscape.   Many contractors are literally a hung receivable; a mistake in a bid; or a nervous banker away from bankruptcy.

“We joint check all our subs”.  This is probably the second most common reason we hear of why not to bond sub contractors.  While I applaud this control measure, it is not a substitute for sub bonding.   The most obvious flaw in this strategy is there is no performance guarantees.  The cost of bringing in another subcontractor to complete the work can be substantial.  Also, no competent contractor is going to warranty the work all ready in place.  Joint checks do not cover payroll, payroll taxes and benefits required of prevailing wage jobs.  While I am sure all generals require copies of the certified payrolls, we have recently seen a marked rise in wage claims.  Finally, while you may be issuing joint checks, not all generals are doing so.  This means your sub contractor’s supplier may decide to stop supplying your sub contractor, hence disrupting your job.

Pre Qualification is the real job of the surety company.  To assume a bonded subcontractor means that if that sub goes broke the General will not have any impact on the flow and profitability of the job would an erroneous conclusion.  Bonded or not, the loss of a sub contractor on a project is going to disrupt the job and probably is going to cost the General Contractor some dollars.   The surety companies do a fair job of prequalifying contractors.  By requiring the bond, you know a surety company has thoroughly evaluated the subcontractor and is willing to put its capital at risk to support that contractor.

Bondability letters are useless.  It seems like every day our surety bond agency receives a request for a letter of bondability.  Often times the contractor tells us that no performance bond will ever be required but they need the letter to prequalify with the GC or owner. While the surety bond company may put some thought into a letter of bondability, there is no way, a surety has put the same level of due diligence into a letter (no liability) as they would into providing a final or bid bond.  Sureties (and surety agents) do not make any money issuing prequalification letters.  As such, not much time is going into the underwriting of the account that just needs a letter and the letter will always contain enough disclaimers that they really are of little value.

The old way of doing business just does not work work as well as it used to.  We are in a hyper competitive environment creating many danger zones where none existed just a few short years ago.  So take a conservative approach to your future jobs.  Continue to prequalify your subs, and if they are a large part of the project or on the critical path, definitely require a sub bond.