When you start a business, you want to take preventative and precautionary measures to ensure that you are also protecting your business. Dually, you will also want to ensure that you are protecting your customers. Becoming bonded and insured (if required) is the best way for businesses to go about this.
1. Check if You Need to Become Bonded
The first step towards getting proper coverage is to ensure that you even need to become bonded in the first place. You should check with the governing branch for your specific industry. For example, if you are becoming a general contractor, check with your state or local governing body for clarification on what you do and do not need for work as a general contractor. There are cases where you do not need a bond for your specific industry or business, though certain clients (especially federal government clients) may require you to be bonded before they will accept bids on a project.
Bonded vs. Insured
“Bonded” and “insured” are two entirely different things, even though the two terms are often strung together mistakenly. The difference can be understood when you break down who is covered financially. Bond insurance, also called a surety bond or a contractor bond, protects the consumer. Being insured protects the employee and the employer. Generally, being insured consists of contractor liability insurance, but you can also obtain additional coverage in specific areas if necessary.
2. Choose a Bond Type
A surety bond is an agreement between three parties:
- Principal (the organization);
- Obligee (the client);
- Surety (the underwriter).
The type of surety bond you need will vary depending on the type of organization and business structure. Almost any contract or obligation can be bonded, but there are four primary categories of surety bonds offered by insurance companies, banks, or bond companies — these include:
- Commercial Surety Bonds: this type of surety bond is used to protect the public and it is generally mandated by government-run agencies. In this scenario, the public is the obligee;
- Contract Surety Bonds: this type of surety bond creates a guarantee for the specifications agreed upon in the contract created by the principal (the contractor/organization) and the obligee (the client);
- Court Surety Bonds: this type of surety bond ensures responsibilities according to law, state, or federal courts;
- Fidelity Surety Bonds: this type of surety bond protects a company against the loss of a customer’s money, equipment, or other personal belongings. This can also protect companies from employee fraudulent activity.
- Bid Bonds: this is essentially an agreement that, if accepted, a contractor will complete the project according to mutually-approved specifications for the original bid price. It protects clients against irresponsible contractors or projects that go over-budget once the work is started.
- Performance Bonds: these are often used in congress with bid bonds as a sort of secured good faith agreement. Performance bonds guarantee that work will be completed according to agreed-upon specifications, and protects the client from contractors who do poor work, abandon the project, or otherwise underdeliver.
3. Check Bond Qualifications
Qualifying for bonding is generally based on the following criteria:
- Financial Stability: this is an assessment of the company assets, cash flow, and credit history. You will want to ensure that you have professional financial statements prepared by a certified public accountant (CPA) prior to reaching out to a surety;
- Company Integrity: this is an assessment of the company’s uprightness. They will generally reach out to employees, various suppliers, and sometimes even customers to get insight into the morality of the organization;
- Longevity/Capacity: this is an assessment of the stability of an organization. They will assess your business history to ensure you are not contracting more work than you are capable of completing.
4. Choose a Bond Company
Although banks and insurance companies offer surety bonds, you will likely want to go with a bond company instead. While banks and general insurance agencies offer surety bonds under property and casualty insurance, and they are less able to assess your liability because of this. Bond companies specialize exclusively in bonds, so they can help you best. There are many bond companies to choose from, and without a general understanding of what to look for in a bond company, it can be difficult to decide. Use the following criteria for evaluating a bond company:
- First and foremost you want to be sure that the company you are in contact with is licensed to provide bonds;
- Confirm the ability to authorize and conduct business within your state;
- Determine whether or not the company offers the type of bond that you need;
- Look for bond companies with established histories. Generally, if a company has been around for a long period of time, they are viable options;
- Ask for clarity behind turnaround times to ensure that the option is viable for your timeline;
- Read through customer reviews to get a look at the business from an outsider’s perspective;
- Ask for a free quote in writing to help you shop around;
- Shop around and compare rates.
5. Apply for a Bond
Once you have done your due diligence shopping around and locating a viable bond company to work with, you want to apply for a bond. The exact parameters for applying will vary from provider to provider, but you can generally apply online, or sometimes in person. You will need to have the following information in most cases:
- Business information (e.g. name, type of business, etc.);
- Professional financial statements prepared by a CPA;
- Specific bonding amount;
- Signed credit release documentation.
6. Review Indemnity Agreement
Once your application is approved by the surety, you will need to sign the indemnity agreement and pay for your bond. It should be noted that the cost of surety bonds varies between providers. The indemnity agreement dictates the things that the surety is liable for, and the aspects that they are not liable for. An indemnity agreement is similar to a certificate of insurance in many ways. You should carefully look over these parameters prior to signing because they can be drafted with language that can confuse many. If you are unclear on the specifics of what is being laid out in the indemnity agreement, reach out to the surety for clarification. If you are unhappy with any of the parameters, contact your surety, and attempt to negotiate something that works for both you and the surety.
7. Sign Agreement and Wait for Approval
After you have come to an agreement with the terms of bonding, you can sign the indemnity agreement and then send the paperwork off to the obligee for approval. Once the bond agreement has been signed by all three parties, your bond is legally recognized and you may begin work on the date(s) agreed upon.