Surety Bond for Startup Businesses: How Important Is It?
When a startup business purchases a surety bond, it’s a way for them to ensure that they will complete the work for which they were hired.
Investing in surety bonds is an excellent way for startup businesses to establish credibility in their field. This is useful because startups often don’t have the trustworthiness and reputation that are required to get new customers and to do business.
When a startup business purchases a surety bond, it’s a way for them to ensure that they will complete the work for which they were hired. And if they don’t complete the work properly, the client will be compensated for their time and loss.
Now, let me give you a brief overview of what a surety bond is, how it works, the different types, and how to get one. Keep reading to discover more!
What Is a Surety Bond?
A surety bond, in simple terms, is a written agreement that guarantees the performance and fulfillment of services or tasks as promised. Being a three-party agreement makes it a unique type of insurance. The parties are as follows:
Principal: The principal is the party who purchases the bond and agrees to perform the act as promised. The business buying the bond is the principal.
Surety: A surety company is actually the insurance company that assures the obligee that the commitment will be fulfilled. The surety is contractually accountable for losses incurred if the principal fails to complete the act as promised.
It is the company that underwrites surety bonds.
Obligee: The party who requests surety from the principal and benefits from the surety bond is the obligee in the contract. Any client can be an obligee.
How Does a Surety Bond Work?
For example, say your startup business (principal) is a digital marketing company that works on contract. And now you have bagged a client. But the client (obligee) is requesting a guarantee that you will complete the work within the promised time frame and generate the promised outcome.
So you go to a surety (a third party) and request them to underwrite an agreement guaranteeing that the job will be completed under the bond’s terms.
The role of the surety is to ensure your client that you will carry out the assigned work as agreed, otherwise, the surety will compensate the obligee.
That means the surety will be financially accountable to the client if you don’t complete the project properly. However, the surety will then recover its expenses from you.
If you know how to begin a contractual business, you will know the importance of surety bonds.
Types of Surety Bonds
The three most common types of surety bonds are as follows:
- A bid bond guarantees the project owner that the best bidder on the project will enter the contract. Otherwise, the surety will cover the project owner.
- A performance bond assures the client (obligee) that the principal will perform according to the agreed terms and conditions. Otherwise, it’s the job of surety to find a new contractor to ensure that the work is being carried out following the contract.
- A payment bond assures a client (obligee) that the contractor (principal) will pay labor and materials expenses, as well as invoices to suppliers and subcontractors.
The Cost of Surety Bonds
The cost of the surety bond is the premium paid by a business (principal) which is a percentage of the surety bond’s coverage amount.
Several factors influence the final amount of the premium, including:
- The type of surety bond
- The total value of the bond
- A financial history of the applicant
- The credit score of the applicant
How to Get a Surety Bond
Many different construction business insurance providers sell surety bonds, including:
According to the Surety and Fidelity Association of America, in the first half of 2021, travelers was the largest underwriter of surety and fidelity bonds by premium value.
- The Hartford
It has a bond specialist section that can issue both construction and commercial surety bonds.
It also provides construction, commercial, fidelity bonds, as well as court surety bonds.
To buy a surety bond from an insurance company, you will need to get help from an independent and local insurance broker or agent.
The Small Business Administration also underwrites some surety bonds. Through this, SBA lessens the risk and allows surety companies to sell more bonds to small firms. For performance and payment bond guarantees, the SBA charges a nominal fee of 0.6 percent of the contract amount.
Surety Bond Requirements
You will need the following to get a surety bond:
- Technical Expertise and Proper Management: A surety will examine previous projects, as well as internal management and accounting documents. Your previous work demonstrates your ability to finish new jobs.
- Financial Reports: A surety will look at the net worth and profitability of your small business.
- Credit: Individual business owners’ credit records will be reviewed by a surety.
Surety bonds help you to build your reputation and protect your customers. You may never have to use a surety bond; you may be able to provide the best service in the field you work in, but having a surety bond shows that you are prepared, and even though you are new in business, you care for your customers.
When clients notice that your business is looking out for customer concerns, they will be able to do more business with you in the future and won’t be hesitant to put their trust in you.
So if you are a startup business, go and invest in your surety bond already.