Secrets of Bonding #77: Fire, the Wheel, Surety Bond Rates

These were among caveman’s greatest inventions.  But unfortunately, bond rates have changed little since the Paleolithic Era!

That may be a slight exaggeration, but it is true that bond rates and rating methods are not revised often.  Here are some of the peculiarities worth knowing, primarily in the area of contract surety:

  1. All sureties are entitled to charge for bid bonds, but most do not.
  2. They may charge for performance bonds in advance, but many wait 45 days for payment even though the instrument is uncancellable.
  3. A performance and payment bond costs the same as just a performance bond.
  4. A 100% performance and 100% payment bond costs the same as a 100% performance and 50% payment bond.
  5. A maintenance bond may be cheaper if the same surety preceded it with a performance bond.
  6. A 20% performance bond may cost the same as a 100% bond even though the surety has 1/5th as much exposure.
  7. In cases where a bid bond or surety consent letter is required, but then the work is awarded without requiring a final bond, the surety is entitled to make a charge for the unissued performance bond.

Now here is my favorite crazy bond rule.

Situation: You have a $1,000,000 private contract on which a P&P bond is optional.  The project owner asks the contractor to price an “alternate” to include a bond.

Let’s say the bond rate is 2% of the contract amount. So what is the bond price?

  1. $20,000
  2. $40,000
  3. $20,400
  4. $40,200

I know you love #1. It just looks so right.

But alas, that is not the answer, which is why this wins the wacky award!

#3. is the correct answer. The reason is that the bond fee is actually calculated on itself.  When determining the bond fee, it is not correct to remove the bond cost from the contract amount.  Like the cost of insurance and all costs related to the project, the bond cost is included in the contract amount.

Therefore, the correct basis for the calculation is $1,020,000 x 2% = $20,400.

Q. So what about the additional $400? Should the calculation actually be $1,020,400 x 2%? (Then, wouldn’t you have to recalculate it again, and again, and again…)

Q. And who pays the extra $400? It’s not in the $1,020,000 contract amount.

A. Beats me. You better ask that Neanderthal in the corner office!

 

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