Free surety bonds. Is there anything better? Actually we can think of a couple of things right off BUT… are they good? Sure they are.
Everybody likes free stuff. Trouble is, they’re not always breezy free or easy. Sometimes they’re a huge P.I.A. So let’s get into maintenance bonds and learn the issues.
The most common Maintenance Bond situation is a bonded public or private contract. The specification stipulates there must be a 100% (of the contract amount) Performance and Payment Bond plus a Maintenance Bond, which is often for a lesser amount, maybe 20% of the contract price. The maintenance bond covers the completed work for defective materials and workmanship, for a specified period of time.
The P&P bond is issued when the project commences, and the Maintenance Bond comes when the completed work is accepted. It is common for the project owner (obligee) to write an acceptance letter regarding the proper completion of the contract, and stating that the Maintenance Bond must now be issued.
For the surety, this bond is an easy decision. They already got paid for the P&P bond. They already faced the risk of claim due to faulty workmanship or materials. Now the contractor (Principal) will pay an additional premium to obtain another bond on the same work.
In some cases the surety doesn’t even charge for this bond following their P&P obligation – breezy free and easy! If they do charge, the rate may be less than for a P&P bond. So when is it not breezy free and easy… and why?
Maintenance bonds are normally required after the contract has been accepted (work completed). However, in some cases, the owner requires issuance concurrently – at the inception of the project. This is difficult for the surety to support because the approval of maintenance bonds may be relatively easy, but it is not automatic. The surety must decide if they want to accept the risk associated with the maintenance obligation. In part, this is predicated on the smooth performance / completion of the contract. If the job was fraught with problems and difficult to complete, they may not want to support the such an obligation.
Requiring the underwriter to issue the bond at the beginning takes away the opportunity to make an informed decision.
General Underwriting Concerns
There is a time factor involved in each of these bonds. The surety must be confident that for the one or two-year period, the principal will be willing and able to respond to any call-backs (things that crack, malfunction, etc.).
If the applicant has recently deteriorated, such as declining credit scores or a poor financial statement, the underwriter may refuse to support their request.
The duration of the maintenance obligation can present an underwriting issue. A one-year obligation is normal. Two years may be possible.
What about five years or ten? Probably not.
No P&P Bond
Sometimes a Maintenance Bond is requested, but there was no Performance Bond. Or, another surety may have issued the P&P bond.
If there was another surety involved in the project, it will be very difficult to gain a new underwriter’s support – the thought being “this risk belongs to anther surety.”
If there was no P&P bond, the maintenance bond underwriter will require an Obligee’s Contract Status Report. This is the obligees written statement that the contract has been completed in a satisfactory manner, and related bills paid. A clean bill of health is needed to gain the underwriters support.
You wont get a maintenance request on every project. But when you do, it may be very easy and cheap – but not always. Now you know why.
KIS Surety is the national contract bond underwriting department for Great Midwest Insurance Company, a national, corporate surety with an A-8 rating. We throw all this underwriting talent at your bond opportunities and support contracts up to $10,000,000.
If you have a contract surety case that needs a fast, creative response, call us: 856-304-7348
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