What is a bid bond?
A bid bond guarantees compensation to the bond owner if the bidder fails to begin a project. Bid bonds are often used for construction jobs or projects with similar bid-based selection processes.
The bid bond’s function is to guarantee the project owner that the bidder will complete the work if selected. A bid bond assures the owner that the bidder has the financial means to accept the job for the price quoted in the bid.
Understanding Bid Bonds
Bid bonds ensure contractors can comply with bid contracts and fulfill their job responsibilities at agreed-upon prices. Most public construction contracts require contractors or subcontractors to secure their bids by providing bonds that serve as legal and financial protection for the client.
Without bid bonds, project owners would have no way of guaranteeing that the bidder they select for a project can complete the job correctly. For example, an underfunded bidder might run into cash flow problems. Bid bonds also help clients avoid frivolous bids, which saves time when analyzing and choosing contractors.
Requirements for Bid Bonds
While most project owners typically require between 5% and 10% of the tender price upfront as a penalty sum, federally funded projects require 20% of the bid. The cost of the bond depends on several factors, including the jurisdiction of the project work, bid amount, and contractual terms.
Writing a Bid Bond
A bid bond can be a written guarantee by a third-party guarantor and submitted to a client or project owner. The bid bond affirms that the contractor has the required funds to complete the project. Typically, contractors submit bid bonds as a cash deposit for a tendered bid. A contractor purchases a bid bond from a surety, which carries out extensive financial and background checks on the contractor before approving the bond. Several factors determine whether a contractor will be issued a bid bond. They include the company’s credit history and the number of years of experience in the field. Financial statements may also be examined to determine the company’s overall financial health.
Parties Involved
A surety bond involves three primary players: the financial guarantor or surety of a construction bond, guaranteeing the obligee that the contractor (called the principal) will act by the terms established by the bond.
- The obligee is the project owner who hires the contractor and requests the bond. This person or other entity sets the terms and conditions of the bond and will file a claim if the contractor fails to perform or violates the contract.
- The principal is the contractor purchasing the bond. If the contractor fails to perform, they will be liable based on the terms and conditions outlined in the contract and bond.
- Surety companies will evaluate the financial merits of the principal builder and charge a premium according to their calculated likelihood that an adverse event will occur.
Bid Bonds vs. Performance Bonds
When accepted, a performance bond replaces a bid bond, and the contractor proceeds to work on the project.
A performance bond protects a client from a contractor’s failure to perform according to the contractual terms. If the work done by a contractor is poor or defective, a project owner can claim the performance bond. The bond provides compensation for the cost of redoing or correcting the job.
Failure to Meet Obligations
If the contractor does not meet the obligations of the bid bond, the contractor and the surety are held jointly and severally liable for the bond. A client will usually opt for the lowest bidder since it will mean reduced costs for the company.
If a contractor wins the bid but decides not to execute the contract for one reason or another, the client will be forced to award the contract to the second-lowest bidder and pay more. In this instance, the project owner can claim against the bid bond’s total or partial amount. A bid bond is thus an indemnity bond that protects a client if a winning bidder fails to execute the contract or provide the required performance bonds.
Bid Bond Liability
The amount claimed against a bid bond typically covers the difference between the lowest bid and the next lowest bid. This difference will be paid by the bonding company or surety, which may sue the contractor to recover the costs. Whether the surety can sue the contractor depends on the terms of the bid bond.
Frequently Asked Questions
What is a contract bid?
A contract bid is most commonly associated with a proposal and price submitted by a contractor or service provider to a soliciting firm for a business opportunity involving construction or renovation projects.
Can you get a bid bond with poor credit?
While having good credit is always helpful in matters like these, those with poor credit may still be able to obtain bid bonds from companies that agree to do so, but these will often be more costly.
Conclusion
- A bid bond is a legal agreement that ensures contractors fulfill their stated obligations on a project.
- This form of assurance provides financial and legal recourse to the project’s owner.
- Bid bonds are usually submitted in conjunction with the project’s contract.
- Bid bonds are backed by specialized surety companies that guarantee the payments will be made if the contractor fails to uphold their end of the bargain.
- The other main types of construction bonds are performance and payment bonds.
