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Secrets of Bonding #155: The Double Bonding Conundrum

This is America. Everyone is entitled to their opinion. But on the subject of Double Bonding (Contract Surety) we will not all agree.

So here are the facts. You will decide if this is a great idea or just a waste.

What is Double Bonding?

Also called “back bonding” or “subcontract bonding” an example would be when both a subcontract and a prime (directly with the project owner) construction contract are bonded. The prime contractor is the General Contractor (GC).

The GC gives some of the work to trade contractors such as the plumbing, electrical and HVAC. These firms may be required to give a subcontract bond to the GC guaranteeing their work. In turn, the GC provides a bond that covers everything. In other words, it too covers the plumbing, electrical and HVAC. That’s the “double” part. Sounds pretty dopey so far, right? Why would anybody do that?

Turns out this occurs often. Depending on your viewpoint, it may seem helpful / essential, or just a waste of money. Let’s evaluate it and you decide.

Why Love It:

  • Owner: Subs that have been approved by a surety may perform better.
  • GCs: May have a policy to automatically bond subs over a certain dollar value. This is intended to prevent delays and unpaid bill problems.  In addition, the GC / prime contractor is the direct beneficiary, and the potential claimant against such bonds.
  • Subcontractors: With a surety backing them, they may have an advantage when pursuing new work. These are important credentials that prove they have passed the underwriters scrutiny and have the backing of a professional guarantor.
  • Sureties:  May find it easier to support the GC bond if major subs are bonded. A portion of the risk is then covered by *another bonding company.
  • Third tier subs and material suppliers: May not be protected by a payment bond unless double bonding is in place. The GC’s bond may not go down to the third tier (sub of a sub or third tier suppliers.)
  • The most important reason: It is possible that the GC’s surety may insist that major subs be bonded as a condition of supporting the GC. This can be the key to acquiring the contract.

Why Hate It:

  • Owner: Doesn’t need sub bonds because the GC’s bond already covers all the work.  They may be forced to bear the related premium costs if the sub bonds were anticipated. If they were not, the charges may come out of the GC’s profits.
  • GC: In a competitive situation, the related costs could cause them to lose the project. Sub bonds may help GC with their surety, but they do not reduce the cost or dollar value of the GC’s bond.

Bonus Conundrum

Love it or hate it, double bonding is sometimes done voluntarily, or it may be stipulated by the GC’s surety. There is no denying that the concept is important – so important that in some cases both the GC bond and the sub bonds are written by the *same surety. Why would they do that?!

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KIS Surety Bonds, LLC is the exclusive underwriting department for Great Midwest Insurance Company an “A – 8” carrier licensed in all states plus D.C.

We have in-house authority for Bid and Performance Bonds up to $10 million each.

Contact us for creative solutions and a same day response: 856-304-7348.

Secrets of Bonding #154: Be A Bean Counter (The Importance of Bid Results)

It’s not sexy.  Nobody has it on their business cards.  It may not be in your “official” job description.  But this article is the start of your new vocation as an official Bean Counter!

A major area of surety bonding is “Contract Surety.”  This refers to bid and performance bonds for construction contracts.  When we set up a new account, an amount of bonding capacity is established and the individual bond requests are processed within that line.  It is possible for a client to use up the full capacity of their line, then our underwriting department could consider granting an exception to support additional work.

Efficient management of the line can minimize instances where an exception is needed.  Here’s where the bean counting comes in.

We manage bonding capacity the way a bank runs a credit line.  A series of individual transactions (bonds) can equal the full capacity amount (referred to as the “aggregate”).  Bank credit lines work the same way.  For the bond or bank customer, it is advantageous to maximize the available credit.  Prompt reporting of bid results helps accomplish this objective.

Advantages Of Reporting Bid Results Promptly

  • When a bid bond is approved / issued, the underwriter debits the amount against the aggregate capacity. However, the full contract amount is used, not the dollar value of the bid bond.  For example, a 10% bid bond for $100,000 actually uses $1 million of aggregate capacity.  Therefore, when it is known that the bid is not likely to result in a contract award (the client is not “apparent low bidder”), this fact should be reported so we can restore the capacity.
  • Detailed bid results are needed on low bids in order to process final bonds. Example: Our guy has a low bid for $5,000,000. The second bidder is at $5,400,000.  Third bidder submitted $5,550,000. Because our bid is less than 10% below the second bidder, the adequacy of the contract amount is supported.  If our client is more than 10% below the second bidder, there will be an additional evaluation before proceeding with the P&P bond.
  • Bid Spreads – in cases where the bid spread is excessive, it is important to have a prompt discussion with us. If there is a bid calculation error, and the contract price is inadequate, there is a limited amount of time to withdraw the bid without penalty (such as a bid bond default / claim).  Learn more about bid spreads:  Click!
  • Low bids may be for lesser amounts than the original bid approval. Example: We approve a bid for an estimated contract amount of $9 million, but the actual bid goes in at $8,500,000 due to last minute changes and reductions. Therefore, when the low bid results are reported, $500,000 in capacity is restored to the aggregate.
  • Postponements – sometimes bids are postponed at the last minute, with no immediate reschedule date. The bid approval may never be used. If it dies on the vine we will restore the capacity immediately.
  • Withdrawal – clients may decide not to bid a project after ordering the bid bond. They may have determined that the plans are unclear or unacceptable.  Advise us so capacity can be restored.

If you are now sufficiently impressed with the importance of minding these small details, you may don your green eye shade and declare yourself an Official Bean Counter.  It’s not glamorous, but it is necessary for proper management of the bond account.  (Actually, we think it is glamorous!)

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KIS Surety Bonds, LLC is the exclusive underwriting department for Great Midwest Insurance Company an A – 8 carrier licensed in all states plus D.C.  

We have in-house authority for Bid and Performance Bonds up to $10 million each.

Contact us for creative solutions and a same day response: 856-304-7348.

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Secrets of Bonding #148: The Greatest Impediment to Bonding

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Need a bond?  Talk to the Pros!  856-304-7348  www.BondingPros.com

Brokers protected.  Contractors welcomed.

Surety bonds are hard to get. Contractors and their insurance agents know that underwriters are conservative. They ask lots of questions. Then they ask more questions. Then they say they can’t help you. It’s a fun-filled process.

Some contractors can’t get bonded because they have a poor credit history. Others have weak or insufficient financial statements. There are plenty of reasons for an unhappy ending, but what is the single biggest reason – and what can you do about it?

Crappy credit: This is a very common problem. The company may be struggling to get enough work, resulting in a weak credit report. So they decide to move into public work for additional revenues – but the bad credit report makes this impossible. Sometimes the report can be improved by correcting errors and updating the info. This is not the greatest impediment contractors and their agents face.

Weak or insufficient financial statement: There are innumerable potential problems. No financial statement, only an internal statement, only a compilation, an interim FS, a net loss, no working capital – the pitfalls are endless! It’s not the biggest impediment though.

Unsavory circumstances: Excessive bid spreads, inadequate prior experience, bad bond forms, harsh contract terms, too much other work. They are all bad, but they are not the king.

The Greatest Impediment

Picture how the process starts. When the contractor decides to go after bonding, a list of information is requested. The underwriter wants business and personal financial statements. A current work in process schedule is needed. Prior tax returns, resumes of key people and a bank reference letter are desired.

The contractor wants to pursue this, but MAN, that’s a lot of stuff!

He has not needed to make company financial statements, so how to come up with them now?

The company owner never needed to make a resume, always been self-employed. How do I write that up?

The WIP schedule: I don’t have that info available. I know where I am on all my jobs. Why would I take the time to fill out a bunch of forms anyway?

I can get the bank reference letter completed and make copies of prior tax returns (they want the WHOLE THING?!) But if I do that, who’s gonna do the estimating so we don’t run out of work? And I have to visit the projects or everything will grind to a halt. The workers want to milk every job like it’s their last. They’ll suck the profits out of everything if I give them the chance.

Conclusion 

The greatest impediment is the applicant themselves! In my 40+ years of surety bond underwriting, I have concluded that MOST contractors deserve to be bonded, but many fail to acquire surety support. It is because they stop trying, or never really start.

People must make choices. They have to put bread on the table. If they can succeed by doing what they know, why try some experiment that may fail? Sometimes it’s just easier to keep doing the same thing – even if you are discontent.

Our observation is that bonding takes perseverance and patience. It is a journey, a path with unexpected twists. There can be obstacles, but we have solutions! If contractors or agents expect it to be fast and easy… they may be disappointed.

Applicants for bonding must plan to devote some time and energy to achieve a goal they know is worthy. It says a lot to have a surety backing you. They are vouching for your ability, and putting up their own money to prove it. It’s a big deal and not always easy, but always worth it in the end.

Insurance Agents and Contractors: Love the “Secrets” articles? You’ll really love it when we solve your tough bonding problem! We have the markets and the know-how to succeed even when others have failed.  Call us with your next surety bond need.  We guarantee a same day response.  856-304-7348

Not available in all states.

Do The Right Thing / Get Screwed Anyway: Secrets of Bonding #144

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Need a bond?  Talk to the Pros!  856-304-7348  www.BondingPros.com

Brokers protected.  Contractors welcomed.

You performed professional quality construction work, billed the general contractor and got paid.  Done deal. Now, three years later you get a letter from some attorney demanding that you return the funds!  Are they insane?  This is a horrible threat that you cannot avoid.

Situation:

  • Spiffy Construction, Inc. was a subcontractor on an unbonded project. They billed their client “Gigantic General Construction” for work completed: $262,800.
  • The invoice was reviewed and approved. Gigantic sends Spiffy a check for $262,800. Awesome!
  • Spiffy deposits the check. All the funds are used to pay bills and upgrade equipment.
  • The next monthly requisition is held up and eventually never paid. Gigantic then declares bankruptcy.
  • After incurring legal expenses, Spiffy is ultimately forced to write off this receivable. It has a severe impact on the company – but they manage to survive.
  • Three years later Spiffy receives a letter from an attorney demanding that they return the last payment. The attorney says failure to return the funds can result in a “preferential lawsuit.”  What the heck is going on?!

This is not an imaginary scenario.  It is based on true facts.  This happens all the time and can be very bad for the defendant (Spiffy aka the creditor.)

What is a Preferential Payment?

When a business declares bankruptcy, the court reviews payments made to creditors of the company in the period immediately preceding the bankruptcy to determine if any were (in the court’s opinion) inappropriate. They want to determine if any creditors were given extra favorable “preferential” treatment at the expense of others.

In our example, Spiffy was paid less than 90 days prior to the BK declaration, so the trustee is attempting to claw back the funds to be distributed as THEY see fit.  Keep in mind, everything that happened prior to the demand letter was normal and legal.  Spiffy did the work, billed the GC and got paid.  Period, end of story. However, it’s not be the end of the story…

The trustee will attempt to prove that the payment received was more than would have been allowed if made through the bankruptcy proceedings. That’s bad because Spiffy collected the full amount they were owned, but in a BK, creditors are typically paid less than 100%.

Spiffy is now forced to pay a second round of legal fees to defend this claim. If they lose, they may be required to return the last payment they received. Add this to the final payment they never received and had to write off.  This situation keeps getting worse. 

What are some remedies available to companies caught in this untenable position?

Examples of Defenses to a Preferential Payment Claim

  • Substantially Contemporaneous Exchange – this means the payment and delivery of product or services happened at the same time, such as a COD payment. A payment by check may also be included in this category if it cleared promptly.
  • New Value – If a $100 account receivable was collected during the preference period, then an additional $75 AR was billed but not received, the preference amount could be claimed to be only $25, not $100.
  • Floating Lien – This is a creditors security interest in present or acquired assets such as accounts receivable. The creditor would need to show that their collateral position has not improved during the preference period.
  • De Minimus – Means debts that are too small to include in the BK analysis.
  • Ordinary Course of Business – There is a history of accounts receivable showing invoices and payments with that debtor / client. The amount owed was in line with prior transactions.

Conclusion

The last example, “Ordinary Course of Business” may be the most natural response for Spiffy Construction and other contractors.  However, in order to raise this defense, the creditor must have appropriate records.  Copies of contracts, invoices, AR schedules and bank statements are critical documents.  Good record  keeping is needed with an efficient means of storing and retrieving the data, in this case three years after the original transaction.  Without it, defendants like Spiffy have little chance of defending such claims.

Sometimes you do the right thing, but you get screwed anyway.  At least now you know about the danger, protective actions you can take and potential legal defenses.

Reminder: We are not attorneys and are not intending to give legal advice.  For that, call your ATTORNEY.  For a bond, call us!  856-304-7348

Insurance Agents and Contractors: Love the “Secrets” articles? You’ll really love it when we solve your tough bonding problem! We have the markets and the know-how to succeed even when others have failed.  Call us with your next surety bond need.  We guarantee a same day response.  856-304-7348

Not available in all states.

Secrets of Bonding #135: Surety Bond Challenge Question!

 Brought to you by…Secrets of Bonding is brought to you by Bonding Pros

Need a bond?  Talk to the Pros!  856-304-7348  www.BondingPros.com

Brokers protected.  Contractors welcomed.

What kind of surety bond can be written with another bond as it’s subject?

Our articles have covered some of the oddities of the surety world: Seemingly crazy bond forms and rating procedures.  Out of all of them, one is the strangest. An agent colleague called us on one this week, so let’s talk about this ugly baby.

Characteristics:

  • Inexpensive, but hard to get.  Often collateral for more than the bond amount plus full indemnity is required.
  • The bond penalty (dollar amount) may not be fixed.
  • Banks and insurance companies can be both the applicant and beneficiary of such bonds.
  • This bond “renews” for free – for years.
  • It is a surety bond that can have another bond as it’s subject.

Sounds pretty weird? Raise your hand if you know.

It is a Lost Instrument Bond.

So what do these do? No, you don’t get one when you can’t find your tuba.tuba

These bonds are required when an instrument such as a cashier’s check or stock certificate has been lost, and a replacement is desired.  The bond protects the interests of the issuer, and is subject to claim if both the original and the duplicate are cashed.  The bond applicant would be responsible for the financial loss – thus the common need for collateral.

The subject of the surety bond can be a government issued investment bond.  So this is the one surety bond that covers another bond!

Bonding companies are not fond of these because they make a one-time annual premium charge, but the bond must remain in effect for a statutory term, typically years (ugh!)

drummerUnderwriters may refuse to provide a bond immediately after the instrument is lost.  The concern is that the original may be found and the bond returned for a refund.  The surety may require a cooling off period to see if the original is located (90 days?)

Instruments with a changing dollar value, such as shares of stock, are covered with an Open Penalty bond.  This means the dollar value will automatically increase to cover the current value of the instrument, in the event of a claim. This is one more reason to make underwriters reluctant – and require more than 100% of the initial value in collateral.

Lost Instrument Bonds: The ugly babies of the surety world.  So now you know.  They aren’t ugly, they’re just “different!”

(BTW, the author thinks ALL babies are beautiful!)

Secrets of Bonding #134: How to AVOID the T-List

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Need a bond?  Talk to the Pros!  856-304-7348  www.BondingPros.com

Brokers protected.  Contractors welcomed.

cat-hiding-in-snowFamiliar with this?  “T-List” is the bond vernacular for the Treasury List or more formally: Circular 570. The document is produced annually and maintained by the Bureau of Fiscal Service, US Department of Treasury.  Why do some contractors want to avoid it?

Their web page says it is the Treasury’s “Listing of Certified Companies”  https://www.fiscal.treasury.gov/fsreports/ref/suretyBnd/c570_a-z.htm

The purpose of the list is to establish a pool of surety companies that the government finds acceptable to bond federal projects.  Having this group established in advance avoids the need for federal contracting officers to vet the bonding company during each contract award process.  It helps speed things up except for one problem: Not all bonding companies are on the list.

Why is this?  Does it mean they are not strong or ethical?  Does it mean their bonds are no good?  Not necessarily.

Remember, when it comes to corporate sureties, they are subject to state regulation even if they are not on the T-List. So not being on the list could mean:

  • The surety has applied for approval and is still being processed
  • They applied and were declined or deferred to a future date.
  • They have chosen to not apply to be on the list.

Point is – it does necessarily mean anything bad.

For some contractors, they may have a surety relationship in place, but when they go after a federal job, they learn that their surety is not T-Listed.  Must they avoid federal work or find a new surety that is on the approved list?

dog-hiding-in-a-drawerNo…. It turns out there are situations in which the federal government does not require a T-Listed surety.

For construction contracts from $35,000 to $150,000, the government can accept alternative methods of payment protection other than a surety bond. These are:

  • Irrevocable Letter of Credit issued by a commercial bank
  • Tripartite Agreement managed by a federally insured bank
  • Certificate of Deposit
  • Deposit of acceptable securities (Reference F.A.R. section 28.102-1)

For work performed in a foreign country, the bond can be waived entirely if the contracting officer concludes it is impracticable for the contractor to provide a surety bond. (Reference F.A.R. section 28.102-1)

Individual Surety bonds are an alternative to corporate sureties and they are never on the T-List. (Reference F.A.R. section 28.201)

Other forms of security may be used such as

  • United States Bonds or notes
  • Certified or Cashier’s Checks
  • Bank Drafts
  • Money Orders
  • Currency
  • Irrevocable Letter of Credit

Conclusionhiding

Being T-Listed is not always mandatory for federal contracts, although it is in the majority of cases.  Nevertheless, it is interesting to note that there are a series of exceptions, and these are always in play.

Armed with this info, contractors can go after federal work while avoiding the need for a T-Listed surety, or (heaven forbid!) any surety at all.

Insurance Agents and Contractors: When tough bonding situations arise, we have the markets and the know-how to succeed even when others have failed.

Give us a call today!  856-304-7348

Not available in all states including Idaho.

Secrets of Bonding #132: Inside the Underwriters Skull

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Need a bond?  Talk to the Pros!  856-304-7348  www.BondingPros.com

Brokers protected.  Contractors welcomed.

We’re going on a journey.  We will crawl inside the surety bond underwriter’s skull and see what’s in there: Maybe not much.

To succeed in acquiring bonds, it is helpful to understand the process and motivation of the decision makers.  Here we go.

Agency vs. Bonding Company

When new clients call us to get their bond account resolved, we always ask “Do you currently have a bonding company?”  The answer is often something like “Yes! The Acme Insurance Agency.”

So the first thing to understand is the difference between the agent (or agency) and the bonding company (aka the surety, the carrier, the company). Typically, the agent (and agency) is your local retail salesperson.  Their job is to find new prospective clients, develop their info, analyze and submit it to the underwriters for review, and provide ongoing customer service. They normally are paid by commission and do not hold any of the risk on the bonds.

The Surety (bonding company, the carrier) holds the risk.  They collect the bond premium.  Their employee, the underwriter, is the decision maker who determines if the bond will be approved, and on what terms. 

Now that we have identified who the decision-maker is, let’s talk about process and motivation.

The Process – Underwriting Authorityskull

In order to assure a consistent and controlled decision-making process, bonding companies issue Letters of Authority to each underwriter.  These instructions cover two areas. 

  • #1 prohibited transactions. Don’t do any of this stuff.  It may include types of bonds and different scenarios that are unsupported by reinsurance, or are incompatible with the company’s risk appetite.
  • #2 transaction size. This covers the dollar value of transactions.  It may say “You can issue the following type of bond, up to this maximum amount $_______.”

Motivation

Underwriters are paid a salary and in many cases, a production bonus.  The bonus is based on the volume of profitable business they produce.  They are expected to operate faithfully within the company’s underwriting guidelines.  Annual production goals are set with a reward if they are exceeded.

If you have a feel for it now, let’s put on our underwriter hats and look at some situations.  As an underwriter, will you move these to the top of the stack?

Situation 1: This new applicant does not normally need performance bonds.  In fact, after three years in business this is their first one.  You are told “this shouldn’t be a problem” because the contract / bond amount is only $15,000.

Situation 2: Maintenance Bond request on a completed contract.  A “no brainer?”   The performance bond was issued by another surety, but the client says they don’t want to use them for the Maintenance Bond because of their slow service.

Situation 3: The government is offering a computer services contract.  The vendor must provide a performance bond.  The contract has two optional one-year extensions at the sole discretion of the government.  The surety must file notice of cancellation 30 days prior to anniversary in order to get off the risk.  Failure to bond the extension (with a new surety) can result in a claim against the expiring bond.

Love any of these?  We don’t either.  Why are they undesirable to the underwriter?

Remember the basics:  Underwriters are looking for profitable transactions they can process efficiently.  Case #1 is simply not rewarding enough.  Too hard to set up a new file just to write one very small bond, and maybe that’s the last one for the next three years.

#2, looks like there is a complicated underwriting situation.  Could be a performance bond claim, or bad financial info that is causing the incumbent surety to back away.  People don’t change bonding companies just for fun.

#3, underwriters cannot proceed if their exposure is undefined. Since the potential bond term is undefined (and beyond the underwriter’s control), it would be impossible to comply with the underwriting authority.

Conclusion

Underwriters do not embrace all transactions equally.  So how do get your bonds approved?

  1. Start with a conversation. This can give you an idea of how to proceed efficiently: “Here’s what I got.  Can you help me?”
  2. Good file accessibility: Make the info easy to process.  Does the underwriter want pdfs emailed for review?  Then don’t send a paper file or one big jpg (a picture file).
  3. Proper forms: Does the underwriter require their own application?  Use it!  Answer ALL the questions.
  4. Be Cooperative: “Are you sure you don’t have that already? We sent it on Monday.” That always amazed me. If the underwriter requests info, don’t ask them to justify that they need it.  Provide it – and more than once if necessary.

Remember, even if the process is difficult, underwriters must approve business to remain viable.  Make your bond easy to process and easy to approve. Make it the file they want to work on next.

Insurance Agents and Contractors: When tough bonding situations arise, we have the markets and the know-how to succeed even when others have failed.

Give us a call today!  856-304-7348

Not available in all states including Idaho.