What is a surety bond?

4 minute read

Surety bonds serve an important purpose, but that purpose isn’t widely understood. How do you define a surety bond? Is it a form of insurance? Will it protect your company better than another type of policy? In the end, who really benefits from surety products?

It’s time to clear up some of the confusion surrounding surety bonding, especially since Canada’s thriving construction and contracting industry could mean greater surety needs down the line. While a variety of industries can make use of surety bonds, contract surety for construction and contracting projects is a principal surety product. Here, you’ll learn just what is a surety bond, how it’s used, and what it may be able to do for you.

What is a surety bond? Not business insurance!

In simple terms, a surety bond is an agreement between three parties, while a traditional insurance policy is an agreement between two. A surety agreement involves the principal, the surety, and the obligee. In this arrangement, you (the business owner) are the principal, and the obligee is your client.

Credit for contractors

Large and complex commercial construction projects (such as those where the government is the client) often need a safety net – someone who can guarantee the client that the contractor will fulfill their obligations as laid out in the contract. This is where contract surety comes in.

If you (the principal) aren’t able to fulfill the terms and conditions of your contract, a surety provider can make sure that your client isn’t left in the lurch; the remaining and consequential costs of the project will be paid on your behalf, so the financial loss doesn’t fall on your client.

In the event of such a default, the surety comes to the rescue with two types of bonds: first, they employ a Performance Bond to complete the work you had started, and then a Labour and Material Payment Bond is used to pay the subcontractors who had been hired. Although these bonds take care of your costs, you’re not out of the woods yet – unlike insurance, you’ll eventually have to pay back the entire amount of the bond to the surety provider.

Security for your client

It’s important to remember that a surety bond isn’t the same as – or a replacement for – insurance for your business. Instead, surety acts somewhat like insurance for the customer. And when the customer in a surety agreement is the government, surety can also be considered insurance for the tax-paying public.

Regardless of whether or not you need a surety bond, you do need insurance, and it’s worth investigating your policy options. You’ll want to make sure you have appropriate coverage for contractors to protect your company from common claims and losses, regardless of your surety needs.

Does your contracting and construction business need surety?

While surety bonds are used for a wide range of public and private projects, no legislation calls for all contractors to use them. However, things have recently changed for contractors in Ontario. The province’s recently tabled Bill 142 to amend the Construction Lien Act has passed into law, and now surety bonds will be required for public projects above a certain dollar amount.

The idea behind the surety bond mandate is to protect subcontractors – the people who support the project on the ground – from losing out on their prompt payment. The Construction Lien Act was created in 1983, and critics argue it’s time for a change, especially considering payment processes for construction projects are becoming more complex and late payments are on the rise.¹

So, what place do surety products have in your protection strategy? While not every Canadian contracting project will require a surety bond, some public sector projects typically make use of surety bonds for financial protection. The three most common types of contracts secured by surety are:

  • Project security for construction contracts
  • Performance security for service contracts
  • P3 contracts

There are different kinds of bonds designed for different circumstances; contract surety bonds are typically used for construction projects, and can be used by everyone from general contractors to manufacturers and suppliers. The bottom line is that your client needs to be sure their project will be completed according to their expectations – and they may demand you get a surety bond in case those expectations aren’t met.

How to get a surety bond?

When it comes to surety products, it’s in every party’s best interest to work with a reputable company that can demonstrate financial solvency and inspire confidence.

Northbridge has worked with thousands of businesses in a variety of industries, crafting customized insurance plans to keep their operations safe and strong. Our surety team can help you find the bonding solution that suits your business and your project – contact us today to get started.

¹ Legislation would mandate surety bonds on public sector construction projects in Ontario, Canadian Underwriter. September 12, 2017.