What are the benefits of a performance bond?
Gives the Owner More Than Cash to Fix the Problem Created by a Default
A Letter of Credit (LOC) will provide an owner with money to fix the problems created by a default by the contractor, but it will not give them a completed project. A performance bond gives an owner peace of mind that despite a default by the contractor, the owner will still end up with a completed project in accordance with the terms and conditions of the original contract.
Responds from the First Dollar
A performance bond provides complete protection from the first dollar of loss. An owner does not have to assume responsibilities for deductibles or co-payments.
Provide Sufficient Protection
LOCs are typically called for in the amount of 10 to 25% of the contract amount which typically means a shortfall of funds (usually 40% of the contract price) which leaves the owner in a very difficult position that not only do they not have the funds to cover the shortfall, but the owner must now find another qualified contractor to pick up and complete the project.
An LOC or certified cheque tie up a contractor’s borrowing line or cash reserves and deny them access to their money especially in times of financial stress. Ironically, by calling for liquid security of this nature, an owner can inadvertently bring on the very problem it is seeking to protect itself against.
Performance Bonds & Service Contracts
Sureties often receive requests from their clients to issue bonds for contracts that provide ongoing services such as waste collection, recycling, and snow removal which can extend for periods five years or more. A growing trend toward longer terms for such service and maintenance contracts prompted the surety industry to develop multi-year performance and payment bonds that would contain a renewable feature. Many governments and agencies across the country have adopted these new bond forms as their standard security requirement on long term service contracts.
Multi-year bonds aren’t only for long term service contracts. Construction contractors are often called upon to provide extended warranty protection against defective workmanship and materials and to furnish bonds which guarantee this obligation. To address this risk, the Surety Association of Canada has developed two versions of a multi-year renewable maintenance bond. One version is used in circumstances where the Principal has posted a performance bond on the project and the bond only responds to maintenance/warranty claims that do not fall under the performance bond’s umbrella. The second version is for stand-alone warranty obligations where no performance security has been issued.
The multi-year renewal bonds acknowledge the overall contract term, but also stipulate an ‘initial term’ period for the bond as well as the ‘renewal term’ periods. The initial term will typically run for a period of one to three years; following which the surety and principal have the option of extending the protection by a Continuation Certificate for a series of renewal terms, typically of one or two years in duration.
It should be noted that if the surety or contractor chooses not to extend the protection for the coming renewal term, this does not constitute a default that could trigger a claim under the bond.