Surety bonds are three party contracts between the Surety (usually the insurance company), the Obligee (usually the person/entity requiring the bond) and the Principal (usually the person or entity being required to post the bond).
The bond itself is put in place to guarantee that the principal will act in accordance with the terms established by the contract. In order to give a clearer picture of how surety bonds work, let's look at a couple examples of different bonds we work with here at the Ten Eyck Group. Keep in mind there are hundreds of bonds out there, this is just a small sample of what we handle.
The first bond would be a Performance and Payment Bond. These are contract bonds. These bonds are common in the construction industry and are normally required by a municipality or owner that is seeking to build a new building or other construction project.
So let's review who the three parties would be:
- The Obligee would be the municipality.
- The Principal would be the contractor who is going to perform the work.
- The Surety would be the insurance company issuing the bond.
The bond will mirror the construction contract between the owner and contractor. The "performance" part of the bond guarantees that the project will be completed in accordance with the specification outlined in the construction contract. The bond would protect the owner from financial harm should the contractor not complete the project as specified or within the time frames set in the contract. The second part of the bond, the Payment bond, would ensure all subcontractors, suppliers, and employees are paid for their work on the project should the Principal fail to pay those bills.
The second bond for discussion is an Executor or Administrator Bond. These bonds are a specific type of probate bond ensuring estates are handled properly. The three parties involved with this bond are:
- The Obligee would be the deceased person's estate.
- The Principal would be the Executor of the estate.
- The Surety would be the insurance company issuing the bond.
These are bonds where a court will require the estate (the obligee) to have the Executor (the principal) post a bond (the surety) guaranteeing the Executor will perform their duties in conformance with the terms and conditions of a will. If the heirs of the estate claim the Executor was acting in bad faith and/or not adhering to the directions of the will, this could lead to a claim against the bond. In this case, the bond guarantees that the executor will settle the estate in accordance with the will and if they don't, the bond will make it right to the estate.
There are many different forms of Surety bonds. These are just a couple of examples to give you an idea of how they work. The underwriting of Bonds can be very detailed and complex since they often involve significant financial guarantees issued by the insurance company. Hopefully you now have a better understanding of the structure of a Surety Bond. In future blogs, we will expand of the differences between suretyship and insurance and delve into the extensive underwriting of bonds our surety experts at the Ten Eyck Group are here to help our clients with any of their surety questions or needs.
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