Your Guide to the Types of Contract Bonds

A contractor walks away from a half-finished municipal building. Suppliers go unpaid on a highway project. A low bidder wins a contract but lacks the financial strength to deliver. These scenarios play out across the construction industry, and they explain why contract bonds exist. Understanding the different types can protect your business whether you’re bidding on your first government contract or managing a portfolio of commercial projects.

Contract bonds create a three-party agreement in which a surety company guarantees that a contractor will fulfill their obligations to a project owner. When contractors fail to perform, these bonds provide the financial resources to complete the work or compensate those left unpaid. Federal construction contracts exceeding $150,000 require performance and payment bonds under regulations that have protected government projects since 1935.

Understanding How Contract Bonds Work

Think of contract bonds as a financial qualification tool rather than insurance. A contractor purchases a bond from a surety company to demonstrate they have the capacity to complete a specific project. The surety evaluates the contractor’s financial strength, experience and creditworthiness before extending this guarantee. If the contractor defaults, the surety steps in to remedy the situation, then seeks reimbursement from the contractor.

The cost of contract bonds typically ranges from 1.5% to 3.5% of the bond value based on the factors outlined above. A contractor with excellent credit and strong financials might pay considerably less than one with credit challenges or limited experience. Factors driving these costs include your credit score, financial statements, industry experience, project complexity and contract duration.

Bid Bonds Prove Your Commitment

Bid bonds protect project owners from contractors who submit low bids but can’t follow through. When you submit a bid on a public project, you include a bid bond that guarantees the accuracy of your bid and your ability to obtain a performance bond if awarded the contract. This demonstrates you’re serious about the project and have the financial backing to perform.

If you withdraw your bid or fail to execute the contract, the project owner can claim against your bid bond to cover the cost difference between your bid and the next lowest bidder. Many surety companies provide bid bonds at no additional cost once they’ve approved your bonding program. This allows contractors to pursue multiple opportunities without tying up capital for each bid.

Getting approved for bid bonds requires the same financial scrutiny as other contract bonds. Surety companies want assurance you can perform if you win. They review your balance sheet, work in progress, backlog and past performance. Strong financial reporting and clean books become your competitive advantage in securing bonding capacity.

Performance Bonds Guarantee Completion

Once you win a contract, performance bonds take over. These bonds guarantee you’ll complete the project according to the contract terms and specifications. Federal regulations require performance bonds for construction projects exceeding $150,000 under the Miller Act, with bond amounts typically equal to 100% of the contract price.

If you default on the project, the surety has several options. They might hire another contractor to finish the work, provide funds to the owner to complete it themselves or compensate the owner up to the bond amount. The surety then pursues you for reimbursement of all costs, plus interest and fees.

Performance bonds protect project owners from financial losses due to contractor failure, but they also benefit contractors. Having bonding capacity signals financial stability to potential clients. Many private project owners now require performance bonds even when they’re not legally mandated, especially on larger commercial projects.

Payment Bonds Protect the Supply Chain

Payment bonds work alongside performance bonds to ensure subcontractors, suppliers and laborers get paid. These bonds typically equal 100% of the contract value and cover everyone who provides labor or materials for the project.

On federal projects, payment bonds protect first-tier subcontractors who contract directly with the general contractor and second-tier subcontractors who work for those first-tier subs. Lower-tier parties don’t have bond protection, which is why understanding your position in the contractual chain matters.

Payment bonds serve as a substitute for mechanic’s liens on public projects. Since you can’t file a lien against government property, the payment bond provides the financial recourse suppliers and subcontractors need. Claimants must follow specific notice and timing requirements, typically filing within 90 days of their last work and bringing suit within one year.

Maintenance Bonds Extend Protection

Maintenance bonds, often called warranty bonds, guarantee your workmanship for a specified period after project completion. Standard warranty periods run 12 months, but project owners can require longer coverage. These bonds protect against defects in materials or workmanship that surface after you’ve finished.

The cost for maintenance bonds adds to your base bond premium when warranty periods extend beyond 12 months. A project with a 24-month warranty period might see bond costs increase by a fraction of a percent compared to standard coverage. Many sureties include the first year at no additional charge when issuing performance and payment bonds together.

If defects appear during the maintenance period and you fail to correct them, the project owner files a claim against the maintenance bond. The surety investigates and, if the claim is valid, pays for repairs. As with all contract bonds, you remain ultimately responsible for reimbursing the surety.

Build Your Bonding Strategy

Securing adequate bonding capacity requires careful financial management. Surety companies want to see CPA-prepared financial statements, strong working capital, manageable debt levels and a track record of completed projects. The quality of your financial reporting directly impacts your bonding capacity and the rates you’ll pay.

Construction companies often struggle to maintain the precise accounting standards that surety underwriters demand. From accurate job costing to timely financial statements, the details matter when you’re trying to grow your bonding capacity. We work with contractors throughout Florida and the Southeast to build the financial infrastructure that opens doors to larger projects.

Our construction accounting team understands what sureties look for because we’ve helped hundreds of contractors strengthen their financial position. We handle everything from monthly financial statement preparation to job cost analysis, giving you the clean books and accurate reporting that bonding companies trust. When you’re ready to take on bigger projects, having accounting professionals who speak the language of construction and bonding makes all the difference.

Whether you’re pursuing your first bonded project or expanding your bonding program to take on larger contracts, we can help you build the financial foundation that supports your growth. Contact a James Moore professional today to discuss your construction accounting and bonding needs.

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