Bonding Company: What is it?

When signing a contract or hiring a business to work with, most customers will want to know whether your company will deliver the agreed-upon services. Many contractors make this assurance by indicating as part of their credentials that their business is ‘licensed, insured, and bonded.’ The first two terms are easy to understand, but the last one – bonding – can cause some confusion.

‘Licensed’ informs the customer that you have the necessary permits to provide certain services. ‘Insured’ confirms the protection you have against liability in the event of an accident. ‘Bonded,’ on the other hand, assures the customer that they can be compensated if you don’t perform as promised. It is a valuable tool in building trust for your business, which is why you should learn more about it.

What Is a Bonding Company?

A Bonding Company is also often referred to as a surety bond company or surety bond insurance company and is an organization that provides surety bonds to contractors and businesses. These bonds are very similar to insurance policies, but unlike insurance covers, they protect the customer from the financial harm they might suffer if a contractor fails to provide promised services. Simply put, it is a company that offers protection not to the insured but to the insured’s customers.

What Is a Notary Bond?

A notary bond is an alternative name for a surety bond. Surety bonds are issued by bonding companies through bonding agencies (bonding companies don’t work directly with the public). Initially, they were implemented centuries ago to act as security for long-distance trade. Today they are most common in the construction industry though they can be used by other businesses.

Most surety bonds come with a penal sum. This is the maximum amount the bonding company is willing to pay if the contractor fails to meet their contractual obligations. Similar to insurance companies, notary bonds can only be sold by licensed bonding agents.

How a Bonding Company Works

Bonding companies provide surety bonds to contractors. Surety bonds are contracts among three parties: the bonding company (surety), the contractor (principal), and the customer. Under the agreement, the principal commits to providing services to the customer, and the surety agrees to meet the contractor’s assurances if the contractor fails to do so.

For example, if a contractor signs a contract to build a two-story house for a customer but only builds one, the customer can file a claim with the contractor’s Bonding Company. The bonding company will then pay the damages (if the claim is valid) then seek redress from the contractor.

The principal usually pays the bonding company a premium for protection in the form of a surety bond. If they fail to uphold a contract, the bonding company investigates the claim made by the customer and pays out the damages if it is legitimate. The company then pursues repayment from the principal.

This means that even though your surety bond protects you, you will still be held responsible for any legal damages paid by the bonding company on your behalf.

If you are looking for a bonding company for a job (especially in public construction), it is crucial that you look at their grade. Many customers require that boding companies have at least a B+ grade from an institution that analyzes bonding companies’ financial strengths. A lower rating could get your bond rejected, leaving you to look for a new one without receiving a refund.

E & O Insurance

E&O Insurance, or Errors and Omissions Insurance, is a term closely connected to surety bonds. However, rather than protect the customer, this insurance covers the contractor (principal) in the event of a bonding mistake or a claim from a dissatisfied customer. If a customer files a claim and the bonding company determines it is legitimate and pays it, they will look to you for reimbursement. E&O Insurance is your protection from this move.

Outgrowing a Bonding Company

As mentioned, surety bonds usually come with penal sums or limits for the maximum dollar amount a bonding company can give you, otherwise called a single bond limit. Most companies also have an aggregate bond limit that dictates the maximum number of bonds you can get from the same provider (e.g., four bonds). If you exceed this amount and still need bonding, you are said to have outgrown the bonding company.

Outgrowing a bonding company is common when a contractor needs a large bond for a government construction contract or requires bonds in multiple states. The situation can be inconvenient because then you will need to apply for bonds from several companies. Fortunately, you can save yourself the headache by working with a reputable bonding agency.

Can Anyone Be a Bonding Agent?

Bonding companies never deal with the public directly, and a bonding agent or agency is a professional or company that handles bonding agreements. You can think of them as the intermediary between you and the bonding company. Like insurance agents, bonding agents must be accredited and licensed to practice in that state.

Besides accreditation, bonding companies are also subject the strict regulations imposed on insurance companies. When offering bonds to the public through bonding agencies, bonding companies:

  • Must disclose every item and price on an offer package to potential customers. Failure to disclose this information is a statute violation.
  • Cannot mislead customers into believing that the bonding company is affiliated with the state as they are private entities.
  • Must not offer any items for free to entice customers to buy from them.
  • Cannot change the state fee set by the state or price bonds at rates different from those set by the state.

Being aware of these requirements can help protect your interests if you come across an unscrupulous bonding agency.

Final Thoughts

Getting protection from a Bonding Company can inspire trust among your clients, making them more likely to get into contracts with you. In the event you are unable to uphold the terms of such an agreement, the company will cover the damages caused to your customer up to the penal sum or face value of your bond. However, you will have to reimburse the company for all legal costs met.

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