Skilled Labor Shortages Prompt Subcontractors to Provide Performance Guaranty

Author, Andy Roberts, Account Executive, Surety Division, Rancho Mesa Insurance Services, Inc.

The construction industry is currently booming. According to a survey conducted by the AGC of America, and a recent article written by Rancho Mesa’s Kevin Howard, the industry shows no signs of slowing down, as 80% of contractors predict growth in 2020. While that’s great news for the industry, we are starting to see some trends that can cause some issues for contractors.   

With an abundance of work, contractors are finding it more difficult to find the skilled labors required to complete a project on schedule. This is causing more and more general contractors, who historically didn’t require their subcontractors to provide a bond, to now require their subcontractors to bond back to them on contracts over a certain amount. 

Bonding back is when a general contractor requires a subcontractor to obtain a performance and payment bond, even though the general contractor is already carrying a bond for the entire project. The bonds from the subcontractor operate in the same way as the bonds that the general contractor provided to the project owner, but now the general contractor has a performance guaranty from the subcontractor. This gives the general contractor an avenue to pursue recourse, should the subcontractor default or fail to perform up to the standards required by the contract, which is something that can happen if the subcontractor is having issues finding enough skilled labor.

Furthermore, this can present a problem for subcontractors who aren’t accustomed to bonding. They would need to get a bonding program put into place in order to work with a general contractor that they may have a long relationship with, who they previously never required a bond back. This makes it very important for subcontractors to have the discussion with the general contractor about potential bond requirements. An upfront conversation with the general contractor can help you avoid getting into a situation where you win a bid, but don’t have the ability to meet the bond requirement.

Fortunately, for contractors that are new to bonds or maybe don’t bond frequently, there are a variety of programs that the different sureties offer, whether it be credit-based, or a more traditional program. We can help navigate those programs and find the solution that works best for their company’s bonding needs. 

If you have additional questions or would like to explore all the different options that each surety offers, please contact Andy Roberts at (619) 937-0166.

What is an LLC Employee/Worker Bond?

Author, Andy Roberts, Account Executive, Surety Division, Rancho Mesa Insurance Services, Inc.

In California, when a contractor opts to organize their business as a Limited Liability Company (LLC) they are required to maintain an LLC Employee/Worker Bond in the amount of $100,000 in order to obtain their Contractors License, per the California Business and Professions Code, Section 7071.6.5. After our clients receive notice of this requirement, we are often asked why this bond is required and what does it protect against.

LLCs are a very popular type of business structure, as they provide the owners, or members, a high level of protection from a liability standpoint because only the LLC, not the owners personally, will be held liable for the debts and liabilities incurred by the business. While this type of protection is good for the owners, California wants to ensure that the LLC’s employees/workers are protected from certain types of monetary damage they may suffer at the hands of the LLC, and they accomplish this by requiring the LLC to have this bond executed by an admitted surety company. 

By issuing the bond, the surety company is providing the Contractors State License Board (CSLB) a guarantee that the workers employed by the LLC will receive payment of their wages, up to a limit of $100,000. Additionally, the bond covers interest on wages, fringe benefits, welfare fund contributions, and apprentice program contributions. Should an LLC fail to provide any of the guarantees listed above, a claim may be filed against the bond, which the surety company will pay in order to settle the claim. Once the claim has been settled, the surety will look to the LLC to reimburse them for any money paid out.

Please note, due to the high risk associated with these bonds, they aren’t written as easily or freely as the $15,000 Contractors License Bond, which a lot of sureties provide instant quotes on just based on the owners credit score. In order to qualify for an LLC Employee/Worker bond, sureties will require a completed commercial bond application, Indemnity Agreement executed by all owners and their spouses, company financials, and personal financial statements for all owners.

Should you have any questions regarding LLC Employee/Worker bonds or need one quoted or placed for your business, please give me a call at (619) 937-0166.  

Surety Bonds: What Are They, What Do They Do, and Why Am I Required to Get Them?

Author, Andy Roberts, Account Executive, Surety Division, Rancho Mesa Insurance Services, Inc.

When we have clients that are required to bond for the first time, often their first questions are what is a surety bond, how do they work, and why am I being required to provide one.  

In its basic form, a surety bond is a three party agreement between the contractor, called the principal, the project owner, called the obligee, and the surety company. The surety company provides a financial guarantee to the obligee that the principal is both qualified and capable of performing the contracted job.

It is important to note, that while surety is an insurance product, it doesn’t function in the same way that traditional insurance does. Unlike insurance, which protects who obtains it, surety bonds are put in place for the benefit, or protection, of the obligee. As mentioned previously, the bond provides financial assurance to the obligee that the contractor is qualified and capable of completing the job per the terms stipulated in the contract. If the contractor were to default, the surety would be responsible for stepping in and making sure the project gets finished.

When and Why Are Surety Bonds Required?   

Surety bonds are required on most public works projects that are led by federal, state, or local government agencies due to the Miller Act, which was passed in 1935. The Miller Act is designed to protect tax payer dollars, by requiring performance and payment bonds on all federal projects in excess of $150,000 and payment bonds for federal contracts between $35,000 and $150,000. Most states have similar legislation, known as “Little Miller Acts,” although the bond threshold varies from state to state.  In addition to these jobs that require bonding, an increasing number of private owners and construction lenders are requiring surety bonds as well, in order to provide protection on their private jobs.

This article serves as a basic overview of performance and payment bonds, what they do, and why they are required on certain jobs. For additional information about these topics or additional information about the process of getting bonding for a job, please contact us at (619) 937-0166.

Additionally, we will be hosting a webinar, “Surety 101: Bond Basics” on August 27, 2019. I will dive deeper into the different types of contract and commercial bonds that are often required of contractors, and also the process of what is needed in order to get a surety bond program established with a surety. 

What is the General Indemnity Agreement & Who Has to Sign It?

Author, Andy Roberts, Account Executive, Surety, Rancho Mesa Insurance Services, Inc.

Most questions that we receive from contractors new to the industry or new to bonded work usually center around what is a General Indemnity Agreement (GIA) and why do they (ownership) and spouse(s) have to sign personally.

A GIA is a contract between the surety and the contractor (principal), where the surety agrees to provide bonds for the contractor. This is a standard document in the construction and surety industries. Its basic purpose is to protect the surety company from any loss or expense that the surety sustains as a result of having issued bonds on behalf of the principal.

Through the protections in the GIA contract, the principal will be required to reimburse the surety for any losses that they incur as a result of the principal not fulfilling their obligations identified in the job contract. This is why the GIA is signed both for the company and personally.

When executing this document, the surety will almost always require that it be signed by all owners, both for the company and personally, and their spouses, which can alarm some people. In the surety’s case, they need seek a complete indemnity package, with all owners and spouses, in order to protect themselves against a situation where one spouse may transfer assets to another spouse to prevent the surety from having access to them in the event of a loss. 

This article was designed to be a basic overview of a GIA and its purpose within the relationship between the contractor and the Surety. If you have any questions about this article or General Indemnity Agreements, please contact Rancho Mesa Insurance Services at 619-937-0166.

The Benefits and Risks of Third Party Indemnity

Author, Andy Roberts, Account Executive, Surety Division, Rancho Mesa Insurance Services, Inc.

For a contractor that is wanting to bid a job, or has won a job that requires a bond they are not able to qualify for on their own, one option to increase their bond capacity and ability to qualify would be to have a third party indemnify to their surety. While there are definite risks, this type of agreement can be very beneficial to both parties.   

For the contractor, the main benefit is the additional financial backing provided by the third party that will help alleviate concerns of a surety that might lead to the contractor running out of money, therefore, not being able to complete the job as contracted. For the third party, they can negotiate what their compensation will be through the contractor, since they are taking on a financial risk by signing the indemnity agreement. This type of agreement should not be entered into lightly because there are risks for both the contractor and the third party.

A Surety Bond Indemnity Agreement is a signed agreement which states the principal will indemnify the surety company, should a claim occur. When a third party also signs this agreement, they are opening themselves up to the risk of having to indemnify the surety should the contractor that is doing the work fail to complete it, forcing the surety to step in to complete the job. This becomes even more likely if the contractor becomes insolvent, making the third party next in line for indemnity purposes. While there is risk associated with this type of agreement, there are ways to mitigate that risk and that is for both the contractor and the prospective third party to thoroughly review each other’s businesses.   

When a third party is providing indemnity to support another businesses project, it is vitally important that they have a firm grasp of that company’s current capacity, capital and character, and this is the same for the contractor. The contractor needs to know that if they do get into trouble on the job, the third party does in fact have the ability to help them out of the situation.

For any questions regarding third party indemnity, please contact Rancho Mesa Insurance Services at (619) 937-0164.

How Credit-Based Bond Programs Benefit New Contractors

Author, Andy Roberts, Account Executive, Surety Division, Rancho Mesa Insurance Services, Inc.

For small or new contractors that are looking to break into the world of government contract work, the process of getting a surety bond program in place can seem like an onerous one. It requires the contractor to compile a lot of paperwork and detailed financial reports, which can be a daunting task for any contractor, regardless of size or experience. However, there are now several “A” rated sureties that provide credit-based programs for writing smaller bonds.

The owner or owners will provide their financial information via a one or two page application, often referred to as a “fast track application.” These let you and your company apply for smaller bonds, usually $500,000 or less, depending on the surety, without requiring all the typical underwriting information that is needed to put together a formal surety program. And, so long as the owner(s) credit is good, the surety will approve the bond(s) to be issued.

These programs are great for contractors that don’t bond very often or contractors that are just starting to bid on bonded jobs. In addition, these programs also provide the contractor an opportunity to begin a relationship with a surety company, which will be very beneficial as the contractor grows and begins to bid larger bonded jobs that fall outside of the credit program, and will require a formal program with the surety.

If you have additional questions or would like to explore all the different options that each surety offers, please contact Rancho Mesa Insurance Services, Inc. at (619) 937-0166.

How Warranty Periods Can Impact Bonding

Author, Andy Roberts, Account Executive, Surety, Rancho Mesa Insurance Services, Inc.

When we review contracts that require bonding, one area that we need to understand is the warranty obligation. I would expect that over 90% of the contracts that we review for our contractor clients contain a standard one-year warranty term. Since Performance & Payment Bonds respond to the contract, the surety company is also on the hook for this one-year obligation. Premium rates for bonding already include the cost for this one-year warranty in the cost of the performance & payment bond.

What if the warranty period exceeds 12 months?

Depending on the warranty wording of the contract, both the contractor and the surety company can be liable for multiple years of warranty obligation. Anytime that the warranty is going to exceed one year, the surety will charge additional rate for each extra year, which increases the cost of the bond, thereby increasing costs for the principle and ultimately the obligee or owner. Second, and most importantly, increased warranty periods could make it more difficult for a contractor to qualify for a bond for that specific job. The longer the warranty period that the bond will be covering, the longer the surety has to try and project how a contractor or company will be doing at that time. Since they have no real way of doing this, it increases their liability for that particular job and could ultimately lead to a declination for the bond.

One option to consider - for a warranty period of longer than one year (but not specifically stated if the bond will respond to the longer warranty period), the contractor should ask for clarification from the obligee for a couple of different reasons. The owner may confirm that the bond does not have to cover the warranty after the initial one-year period. This will make it easier for the contractor to obtain the bond, because the surety will not be required to respond to a warranty claim several years after a job has been completed. It should be noted that this does not mean the contractor is not bound by the full warranty length stated in the contract.

If your company is interested in working on jobs that require bonding, or you are a contractor with an established surety program but have questions about warranty periods, please contact me at Rancho Mesa Insurance Services 619-937-0164 as I can assist with any questions you may have.

How a Bank Line of Credit Can Affect Your Surety Bonding

Author, Andy Roberts, Account Executive, Surety, Rancho Mesa Insurance Services, Inc.

When a surety carrier is evaluating a bonding program for a contractor, they use many different underwriting factors to determine an acceptable amount of bond capacity. They will consider a contractor’s working capital, net worth and work in progress schedules, to name a few. Another important factor that can help increase a contractor's bonding capacity is a bank line of credit. 

The construction industry is very unpredictable and unforeseen issues can arise that may interrupt jobs and cash flow. Surety carriers place such a high value on a bank line because it provides access to cash that may be critical to continuing the day to day operations and survival of the contractor's business. 

While bank lines are an important factor that underwriters use, the lines should not be depended upon for frequent use. Dependency on a line can be a sign that the contractor may have some deeper financial issues. Contractors should try to have at least 30 consecutive days during the course of the year, where they do not use their bank line at all.  

If your company is interested in working on jobs that require bonding, or you are a contractor with an established surety program but interested in ways to increase the programs limits, please contact me or Matt Gaynor at Rancho Mesa Insurance Services 619-937-0164 as we can assist with any questions you may have.