Surety Bond Basics for New Entrepreneurs

Today we have a guest post from Kristen Bradley of SuretyBonds.com. She shares information on how surety bonds work and how to purchase a bond if it’s required in your industry:

Simply having a great idea isn’t enough to succeed given the current struggling economy and competitive business market. To have a real chance of succeeding, entrepreneurs need to do their research and gain a thorough understanding of the industry they plan to enter. Entrepreneurs need to recognize and respect industry regulations to help get their businesses started off on the right foot. Unfortunately many industry regulations seem mysterious to inexperienced entrepreneurs.

Surety bond requirements are among the most confounding government regulations out there. Although the term “license and bonded” has infiltrated professions within a number of industries, few really know what the term actually means. Even those required by law to purchase surety bonds struggle to understand how exactly they work. And, surprisingly, finding comprehensive information about them can be challenging; oftentimes even the government agencies that require them have a limited understanding of surety bonds.

How surety bonds work

Essentially, surety bonds guarantee that business owners will follow industry guidelines, comply with their contracts, and avoid fraud and other forms of misconduct. When a professional or business gets bonded, a contract between three parties is established.

1. The principal is the individual or business that purchases and maintains the bond to guarantee the quality of their work.
2. The obligee is the entity—usually a government agency—that requires the bond to regulate an industry and protect its consumers.
3. The surety is the agency that issues the bond and thus becomes an intermediary between the principal and obligee.

If the principal somehow wrongs the obligee and a valid claim is made against the bond, then the surety agency is legally obligated to provide compensation up to the full bond amount (or penal sum). The surety then expects reimbursement from the principal. In some situations, however, principals are unable to pay for their mistakes, which means the surety can lose money. For this reason sureties conduct thorough background checks of all applicants before agreeing to issue a surety bond.

Buying a surety bond

Business owners who need a surety bond can find a local insurance provider or even a nationally certified surety bond producer online. No matter what kind of surety specialist you work with, you should expect to undergo an extensive financial review. Applicants with a poor credit score or unstable financial history might have find a surety bond company that offers subpar bonds.
Surety bond premiums vary based on the industry and state for which the bond will be executed. The bond’s obligee typically determines the needed penal sum. Principals who have a credit score higher than 700 will pay a fee that’s about 1 to 5% of the penal sum. Those with a credit score that’s less than 700 will pay a much higher fee for their bond and could pay up to 25% of the penal sum. Surety providers sometimes require additional upfront collateral if a principal demonstrates an especially unstable financial history.

No matter the price, legal regulations often have strict expectations regarding the purchase and maintenance of surety bonds. In the end, surety bonds are a non-negotiable part of doing business in many of today’s regulated industries. However, rest assured that the more information you have, the better prepared you will be for the entire process.

This article was provided by Kristen Bradley at SuretyBonds.com, an agency that issues surety bonds to entrepreneurs and other professionals nationwide. SuretyBonds.com works to help small business owners fulfill surety bond requirements in a timely manner so they can open for business as quickly as possible.