If you’re in the business world, you know there are many ins and outs that are very specific to each part that every successful businessman should be aware of. The legal side of any business is one of those specifics that are crucial to be fully aware of to avoid any possible liabilities. One of the important legal aspects you need to know about is performance bonds, and we’re here to tell you all about them and why they’re useful.

What Are Performance Bonds?

Performance bonds are a type of contract or surety bond that guarantees the completion of a contractor of a certain project under the terms of the project owner. The owner of the project can be an individual, city, state, private developer, or any local government. Performance bonds are requested along with the contractor’s license bond and they aim to ensure their financial and professional capability to complete the requested project. This concept goes back to 2750 BC and by now, it’s considered a safety net and an integral part of industries like real estate or construction.

How Does It Work?

There are many parties involved in a performance bond; the principal, the contractor hired to do a certain job, the obligee, the client receiving the service, and the surety, the company that guarantees efficient performance from the principal by providing the bond. Performance bonds are issued by a financial institution like insurance companies or banks and it’s paid for by the party offering service under the agreement. Once the bond is official, and the contractor fails to deliver his part of the terms drafted, the obligee has the right to make a claim to collect financial damages. Once the surety ensures the claim is valid, they will compensate the obligee of the bond amount. Performance bonds are totally secure, so contractors should know there’s no way out of paying the full bond amount along with expenses.

Why Are They Useful?

1. Protection of Parties Involved

The whole point of performance bonds is to provide protection for all parties involved. It eliminates concerns such as contractors not being able to pay for their service before finishing the contract. In these cases, the amount given as compensation to the party who drafted the performance bond should cover all damages and financial struggles caused. Performance bonds can be accompanied by payment bonds which ensure the project owner pays all parties involved in a certain project. Setting up these two bonds together guarantees all parties receive their full rights.

2. Useful For Construction

Performance bonds are most common with construction work, also known as a contract bond; it also has the function of ensuring a contractor completes a certain project. Any delay in the construction process will result in unlikely circumstance the benefit of having a bond for a construction project is that it guarantees the contract will be completed within the agreed-upon time and scope. Simply put, the bond will serve as your project guideline. For the cost, construction performance bonds usually cost up to 10% of the contract value.

Types of Construction Performance Bonds

There are two types of construction performance bonds that can be issued; on-demand bonds and conditional bonds. On-demand bonds imply that a certain amount of money is set on the spot without any preconditions such as the contractor’s liability. Conditional bonds, on the other hand, entail that the client has evidence that the contractor didn’t meet their end of the contract, causing loss or suffering of any kind.

How To Get A Performance Bond?

To get yourself a performance bond, you need to first find a surety that determines if you qualify for a bond through collaborating with their broker and get a letter of bondability. This letter is the maximum size of one or more projects that a surety would be willing to bond for you depending on several factors such as your financial situation, your experience, credit, etc. That’s why the documents needed to issue a bond are a Work In Progress (WIP) type document, for experience, bank statements, and the surety application form. After giving all documents to a bond provider, you get to choose and assess the available quotes before you finally pay and issue the bond.

Now that you know all about performance bonds, what they are, when they are used, and why they are important, it’s important you pay attention to issuing them for your coming projects. If you’re a project owner about to embark on your vision and want to properly realize it, you need to make sure the construction company you involve is competent enough to get the job done right. That’s why you need to do your fair share of preliminary research on matters specific to your project and related to using a performance bond.