What Are Performance Bonds And Why They Are Important

A project owner needs some level of guarantee from the contractor for situations where the project doesn’t get completed. This guarantee is what is known as performance bonds. 

No project owner should have to suffer financially or go bankrupt because the contractor failed on his part to execute or complete the project. 

Our focus with this article is to shed light on what surety bonds or performance bonds are and their importance. You should keep reading to understand why it is a vital part of any project. 

What are the requirements to get a performance bond? 

It is important to note that you would have to meet certain levels of requirements before being granted a performance bond. First of all, you would have to qualify in a process called underwriting. So, without wasting further time, below are the necessary information one must possess before applying: 

  • A bank reference letter must be provided. 
  • The main holder’s personal financial statement must be made available 
  • A chartered accountant must prepare the year-end financial statement 
  • A portfolio to showcase previous completed jobs 

Listed above are some of the requirements before applying to get a performance bond. Now, the next step is to focus on the value of performance bonds. 

Performance bond: What is the cost? 

It would interest you to know that the cost of the performance bond hinders the history of bonds and the applicant’s credit. 

An applicant would have to pay a higher percentage if they have a low credit score or their financial record isn’t convincing enough. On the other hand, an applicant with a good credit score wouldn’t have to pay a higher percentage, but instead, pay a lower percentage. Aside from credit scores affecting the cost of performance bonds, also known as contract bonds, one factor that plays a role in determining the performance bond cost is the type of work your company performs. Complicated work would lead to a higher percentage and vice versa.

The importance of performance bonds

The following are the importance of the performance bonds: 

  • Guarantee that the project would not only be completed on the agreed contract price but also the terms of the contract 
  • Limit the chances of the contractor using the funds of the project for something else
  • To have an intermediary in place so that the owner can have someone to lay complaints to
  • Guarantee that workers, laborers, and even subcontractors would still receive their pay irrespective of the contractor defaulting at some point. 

Since having a performance bond in place cannot be overemphasized, what is the cost of the performance bond? 

Who pays for a performance bond? 

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There are three parties involved: The owner, the contractor, and the surety. The person responsible for paying a performance bond is the contractor. The beneficiary happens to be the owner or the employer. 

The only time the contractor is the beneficiary is when there is a sub-contractor involved. In that case, the principal contractor would be the beneficiary while the performance bond would be paid by the sub-contractor. 

A lot of times, people do not understand what a performance bond is all about. It is important to know that a performance bond isn’t one of the following: 

  • Not a dispute resolution tool: The main importance of a performance bond is to ensure the owner is financially protected if the contractor defaults on the contractual obligation. It is not meant to resolve disputes between the project owner and the contractor 
  • It is not a source of quick cash: Performance bonds are not a source of quick cash. Instead, it is a form of ensuring the terms of the contract are being followed. 
  • It is not a quick fix: A performance bond can aid in solving complex problems, but it doesn’t make it a quick fix. If there happens to be a hiccup on the project, it is almost inevitable that there won’t be a delay on the project. Sometimes this delay might be lengthy while another contractor is arranged to take over from the project to ensure it is completed. 

In every construction project, it is vital to have some level of assurance that the project would be completed even if a delay might occur. A performance bond benefits the project owner. 

Here, we have been able to highlight the requirements, the importance, the cost, and the person responsible for paying the performance bond. So, the next time you are thinking of embarking on a construction project, you can simply refer to this article for factual information on a performance bond.

Written by Eric

37-year-old who enjoys ferret racing, binge-watching boxed sets and praying. He is exciting and entertaining, but can also be very boring and a bit grumpy.

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