Construction bonds are surety bonds that protect construction projects from risks resulting in financial loss and disruptions. Construction businesses like other businesses are prone to risks and challenges. The only exception is that the challenges and risks are higher than other businesses.
The bond is an agreement between the project owner, the contractor, and the guarantor issuing the bond. It’s not the same as contractor liability insurance, because it does not protect the project against damages but only gives a guide how the work will commence after an event has occurred.
Guarantors normally set obligations for the bond that includes:
- The use of specific materials
- Working hours
- Adherence to certain workspaces and storage
- Using certain waste disposal practices
What risks do construction projects face?
In addition to usual risks like scaling issues, funding problems, downtime, they face circumstantial risks like fires, natural disasters, vandalism etc. Plus, on-site workers’ injuries are common. A construction contractor has two main responsibilities, to protect the project and to protect the workers.
What can a construction bond do?
The bond ensures the contractor has peace of mind and is comprised of two parts; protection from legal problems and hefty costs. Essentially, it protects the project from unintentional damage to equipment and physical property besides securing satisfactory project completion.
1. Protection from construction mishaps
As earlier mentioned, there are many risks in the construction site. Sometimes workers fail to follow safety guidelines due to discomfort or being irresponsible. These are unusual circumstances that happen like large machinery accidents. Having a construction bond covers copyright claims, compensations, damage claims, medical expenses etc. The bonds help the contractor settle issues hassle-free.
2. Protection from financial losses arising from negligence
Circumstances include misinterpretation, good faith violation causing the project financial hardships. The bond protects the project from falling into a financial pit.
3. Protection from on-site lawsuits
The construction environment is full of risks and accidents do happen that damages other nearby properties. Such losses attract lawsuits. The bond offers financial safeguards from these lawsuits including injuries arising from the workplace environment.
4. Covers property damages
The damages include machinery, commercial vehicles, and other equipment used in the construction project. The bond settles the damages.
Why do construction projects use the construction bonds?
It’s the desire to get more financial protection in case of anything. Most contracts for construction projects have provisions for what happens when the contractor doesn’t complete the project. However, the project owner has no financial protection in such a situation. In most cases, this increases the overall project costs.
The construction bond protects the project owner from financial losses or additional costs should a contractor default.
Types of construction bonds
Mechanic’s lien bond
The bond removes a mechanic’s lien claim from the construction property, instead placing it on the bond. The cost is roughly 1-5 percent of the bond amount.
Payment bond
The bond protects the project from claims against it for non-payment or mechanic’s lien claims. Plus, it protects suppliers and subcontractors thereby ensuring they receive payment for the work. The bond costs 3% of the project value and depends on the contractor’s financial standing and credit history.
Performance bond
It’s a guarantee that the contractor will do the project according to set requirements and conditions of that construction contract. It protects the project owner from the failure of the contractor to complete the work and pays a different contractor to complete the project.
A performance bond offers the owner protections from substandard work. It costs 1-3 percent of the full contract cost.
Bid bond
It’s a guarantee to the project owner that the contractor will not only follow through with the bid but sign the contract for that bid amount should they get the contract. It basically prevents the contractor from backing off the deal after knowing the amount other contractors bid for the same project. Failure of the contractor to complete that contract as per the bid means the bond settles the difference.
Construction license bond
It’s needed by the state licensing board. It’s a guarantee to the project owner that the construction contractor will remain compliant with the state laws. The consumer is protected from any financial loss should the contractor do substandard work or fails to complete the project. The bond’s cost is set by the state contractor licensing board.
Subdivision bond
This bond offers an assurance that the contractor makes land improvements as per the agreement with local authorities such as electrical upgrades, maintaining sidewalks and grading changes.
Supply bond
It guarantees that construction materials are supplied and the supplier doesn’t default.
Warranty and maintenance bond
It’s a guarantee to local authorities that the project will not cause defects on public infrastructure like sewer lines, water mains, or storm pipes for a specific time-frame. If there are faults, and the contractor doesn’t make replacements or repairs, then the local authority files a claim for incurred expenses.
Completion bond
Offers assurance that the construction project is completed on time. Free of liens and within budget. It covers the entire project unlike performance bonds. The project owner can file a claim if the timeline is not respected.
Retention bond
It guarantees the subcontractor that the work is completed when the project ends.
Public works bond
Guarantee that construction workers receive fair wages. The bond is specifically for public works projects sponsored by states or the federal government.
Bottom line
Construction projects come with risks. The bonds are a safeguard from unpredictable uncertainties and cover financial losses. The goal is to shift momentum to a successful project completion.
