Surety Bonds & Startups: 7 Things Every Business Owner Needs to Know

Ever been called a Jack-of-all-trades? If you’re running a business, there is a good chance you have. After all, it isn’t uncommon for startup owners to take on multiple roles while the company gets off the ground, from CEO to accountant to marketer and everything in between. And commonly, one of those roles involves understanding the legalities related to your business—which may include getting a surety bond.

Whether you’re wondering what is a surety bond? Does my business need one? Or where’s the best place to get a bond? This quick start guide will get you in the know. 

1. Surety Bond Party Definitions

Before diving into what a surety bond is, it is essential to understand who is involved. Even though there are various types of surety bonds, they always have three parties.

PRINCIPAL – whoever is required to obtain the bond (your business)

OBLIGEE – the entity requiring the bond (government agency, regulatory body, etc.)

SURETY a surety bond provider. This can be an independent agency or a specialized division of an insurance company that is backing the bond financially

2. What is a Surety Bond? 

A surety bond is a legally-binding financial guarantee. It acts as a form of customer, supplier and/or government protection. Basically, if you default on any contractual obligations related to your job (failing to complete agreed-upon work, poor project quality, failing to pay suppliers, etc.), then a claim can be made against the bond. If the claim is valid, the surety pays out to whoever filed the claim, and you are then responsible for repaying those costs. 

A surety bond is essentially a line of credit that if you need to have, you never want to use. To know if your business needs a surety bond, look over the rules and regulations related to your industry. 

Businesses that commonly require surety bonds to operate legally include:

  • Construction companies
  • Auto dealerships
  • Auctioneers
  • Mortgage brokers
  • Notary publics
  • Collection agencies
  • Health clubs
  • Travel agencies
  • Medical equipment providers (when covered by Medicare)

3. Surety Bond Cost

Surety bond amounts range from a few hundred dollars to millions. However, the good news is that you will only pay a percentage of the total bond amount at a flat rate, which generally ranges from 1% to 10% of the total bond amount. Therefore, if you are required to get a $50,000 bond for a general contractor license, you will pay anywhere from $500 – $5,000.

The percentage of the bond you pay is based on how much of a risk you are deemed—how likely you are to have a bond claim made against you or your company. This risk-assessment process is done through underwriting, in which they will look at key factors like your credit history, financial records, past bond history, and any other details they feel factor into the risk equation. 

4. Why Get a Surety Bond?

A surety bond is simply the cost of doing business. It is needed to secure certain licenses and permits, enter government contracts, and for some court proceedings. However, you only need to obtain one if an obligee requires it. 

While there are many types of surety bonds, there are three main ones that every business owner should understand.

License and Permit Bonds – needed for a business to secure licensing or permits in order to operate legally. These bonds apply directly to professionals with and without their own business, such as auto dealers, licensed contractors, and freight brokers—to name a few. 

Contractor Bonds – individuals or businesses working on public construction projects are likely required to obtain a contractor bond.

Court Bonds – certain courts require these bonds for various purposes, such as probate or judicial bonds.

5. Benefits of Surety Bonds

Thankfully, if you do need a bond, they do come with some benefits. These include—but aren’t limited to:

  • Framing you as a professional in your industry
  • Giving customers confidence and peace of mind
  • Being a cheaper alternative to a letter of credit
  • Defending you against false claims with their thorough investigation process
  • Not tying up your assets or credit
  • Protecting your business’ financial health

6. Best Place to Get a Surety Bond

While many insurance companies provide bonding services, a designated bonding company comes with extra benefits. Since it is their primary mode of business, they have thorough experience and knowledge to help you not only get the right bond and the best rate but also support and assist you in the event that a claim is made. 

However, keep in mind that not all surety companies are equal. When looking for a reputable surety, take into consideration testimonials from past and current customers. The Better Business Bureau is an excellent place to find reviews, as well as any complaints filed against a company. 

7. Repercussions of Not Obtaining a Surety Bond

In a situation where an obligee requires you to obtain a bond and you don’t comply, there are some serious consequences that can hurt both you as a professional and your business.

For example, suppose a bond is needed to obtain licensing or permits. In that case, a fine will commonly be issued if you are found working illegally without these legal necessities. Additionally, you may also be stripped of the professional licensing you have or be barred from obtaining certain licenses and permits in the future. Have a client or subcontractor file a complaint against you without a bond? You will be personally liable for any damage and court costs upfront, putting financial strain on your company.

Conclusion

Getting a startup off the ground is difficult enough without worrying about non-compliance consequences. Therefore, it is essential to see if a surety bond is needed in your industry. It is simply a cost of doing business. However, it can also benefit your company by offering customers confidence, financial fluidity, and overall, helping to ensure your startup doesn’t fail

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