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The Art of Stealing Surety

Performance and payment bonds are not a well known concept. Most people, if they have never been asked to provide a surety bond, have never even heard of them. As such, most people do not realize the primary function of the corporate surety is qualification of the principal (principal is the party providing the surety bond). The corporate surety underwriters spend their days analyzing finical statements, looking at the work in progress report, performing due diligence at a level higher than most banks. They do this make sure a contractor is qualified to perform the work the company will bond. The corporate surety will then provide a guarantee to the owner that a project will be completed and the subs and suppliers will be paid.

stealing surety is wrong

     “hand over your surety or I’ll shoot”

On public works projects, this qualification process is put to the test as a statutory regulation; if one wants to build in the public arena, one must provide the corporate surety bond. To make any money, the surety company must be right 99%+ of the time. It’s a case of simple math, if the rate charged by the surety is 1% to 3%, the expense ratio (amount of each dollar that the corporate surety spends on underwriting) is 60%, that means the surety has .5 to 1.5% to pay claims. If a surety has a $1mm loss, it would require the premium from $66mm to $200mm worth of work to pay that one claim. As such, the surety must do a great job of qualifying a conractor if it is to turn a profit.

So how can someone steal surety?

In the case of a private owner, there is no statutory requirement to provide a performance and payment bond.  Also, General contractors hire subcontractors and again, there is no statutory requirement to  require bonds of the subcontractors. As such if you knew for sure that a contractor was able to provide a bond for a particular project, you would know that a great deal of due diligence was done on that contractor. How much due diligence you ask? Based on the above analysis, there is a 99%+ chance that the contractor will complete the project and pay the subs. Again, if you knew for sure that the contractor could bond the project.

Letters of bond-ability are requested quite often of contractors on private works projects and of subcontractors bidding work to GC’s. These letters state that a contractor is theoretically bond-able up to a limit, assuming they “continue to comply with underwriting standards”. The level of underwriting that goes into these letters is far less than what goes into actually providing a bond. That said,  if one has no intention of actually requiring a bond and paying the bond premium, even this is stealing the qualification services of the surety that provides the letter.

Some private works owners and general contractors are more brazen when it comes to stealing surety. The bond-ability letter is very general; however a bid bond is underwritten as if a final bond (the performance and payment bond) will be issued and bid bonds are free.  Some companies (that lack integrity) will actually require bid bonds, even though they have no intention of requiring performance and payment bonds. There is no nice way to say it, requiring a bid bond when there is no intent of requiring a performance and payment bond is stealing. It is theft of services. No different than climbing a pole and tapping into the electric grid.

The highest level of theft of surety I have seen, however, is an owner or general contractor sticking with the ruse that performance and payment bonds are required all the way up to the time the contractor actually provides the bonds. Then the unscrupulous GC or private owner says “we decided to waive the bond requirement”. To get to that point, the corporate surety has spent hours underwriting the bond, the contractor that had to provide the bond, especially if they are not a public works contractor, probably had to spend hours of time and a good deal of money preparing information for the surety.

The qualification services of the surety are a great tool. To take advantage of this service without paying for it is wrong.

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2 thoughts on “The Art of Stealing Surety”

  1. david elsen says:

    4 years and 7 months ago I made the mistake of trusting a contractor and signed as the second person on the performance and payment bond for a small community college job.
    He promised me if I would help him with the paperwork and coordination, not to mention the bonding, he would form a new company and I would be an officier and employee. (I had a credit rating of 815 and his was in the 600’s or less) He finished the job but failed to pay the vendors and suppliers, went bankrupt and now I am having to pay the surety company for the $110,000 bond amount. I am not a professional person, I am a part-time older construction laborer and my income has always been less than $40,000 a year. So I am having to use my life savings to pay this surety company now that their lawyer has contacted me for the first time in 4 years and 7 months.

    My question is why would a surety company be willing to sell a bond to this contractor who was by far the low bidder on the project? Is this bad faith on the part of both the surety company and the college to allow someone with his limited experience and poor credit rating to be bondable ? Should the bonding company have issued this bond ? Do public agencies such as a community college ever turn down contractors and refuse to accept their bonds based on their extremely low bid quote? I feel like the bonding company and college are equally at fault for issuing the bond.
    I do not have a lawyer yet but notice there is a statute of limitations for bonds but it is not clear what type of bond it applies to.

    1. Admin says:

      This is an unfortunate incident. First, if I were you I would definitely hire an attorney or try to reach out to the surety company and negotiate a settlement. More than 4 years later, I have never heard of a surety company going after an indemnitor after such an extended period of time. Also, having payment bond exposure equal to the bond amount is very unusual. Make sure they are not trying to stick you with bills from other jobs and claims expenses.
      It sounds like the surety wrote the performance and payment bond based entirely on your credit and experience. Most sureties will research a large bid spread, however if there were only a few bidders and the contractor had a plausible explanation, would most likely support the bond. Someone should have explained to you what you were signing when you agreed to indemnify. Most bonds have a limit to when you can make a claim on the bond, usually 6 moths to 2 years depending on the juristiction. Unfortunately, that does not extend to the amount of time the surety can pursue its guarantors.

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