A Basic Question
Talk to the experts, and you may get different answers to this extremely basic question: “What is the maximum potential loss for the surety on a Performance and Payment Bond?”
If you have experience producing surety bonds, you know that a 100% Performance Bond (equal in amount to the contract) is priced based on the contract amount. If the bond rate is 2.5% of the contract amount on a $100,000 project, the Performance Bond cost would be $2,500.
How much would it be for a Performance and Payment Bond? It seems logical that if you add to the exposure, you must charge more – but the cost is the same. Surety rules typically say that the Payment bond is provided at no additional charge. Is this because the surety is being generous, or is the exposure amount not actually increased?!
We have established that bonding companies do not charge twice as much for a P&P bond.
When it comes to the use of the contractors bonding capacity, they use “1 x” here too. For the contract in our example, $100,000 of capacity is consumed by the P&P bond, not $200,000.
Combined Bond Forms
Look up New Jersey law “N.J.S.A. 2A:44-147” and you will find it stipulates a combined Performance and Payment Bond form for public work in the Garden State. The penal sum (maximum dollar value of the bond) is stated once in support of a two-headed obligation. This may lead the reader to conclude that the single bond penalty is shared by the surety’s two legal obligations. That would justify not making an additional charge when including a Payment obligation with the Performance Bond.
On public work, such a federal, state and municipal contracts, the bonding requirement may indicate “100% Performance Bond and 100% Payment Bond” or “100% Performance and Payment Bond.” In the context of this article, the implications may be obvious, but it appears contract officers use them interchangeably.
Federal contract officers, on other other hand, can be quite specific on this point and expect the surety to assume a 200% exposure for the 1 x bond fee.
Federal bond forms require a separate instrument for Performance and another one for Payment, each with its own penal sum. The Surety may attach them both as a single document and even give them one bond number. But the government clearly is buying a guarantee with a combined value of 200%.
The reality is that, despite the pricing methods and handling procedures used by sureties, the bonding company IS responsible for 200% if they issue two instruments each stating a 100% obligation. This is the twofer that sureties willingly offer. You can have Performance only, or get Performance and Payment, twofer the price of one!
Surprisingly, obligees may not position themselves to obtain maximum value and protection from the bonds they buy, and sureties may give away coverage rather than charge for it.
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