The Basics of Performance Bond Insurance

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In simple terms, a performance bond is a type of insurance that ensures you complete a project regardless of incurred setbacks. Performance bonds are commonly referred to as contract and surety bonds as well. As a project owner, it can put your mind at ease to have performance bond insurance because it can protect you from losing lots of money. Projects are already expensive enough, there’s no need to pay more money than necessary! 

To learn more about performance bond insurance, the pros and cons and what you’ll need to apply, continue reading below. Keep in mind that planning the costs of a project is an important step of the performance bond insurance process. Don’t forget to estimate the cost of performance bond insurance!

What is Performance Bond Insurance? 

A guarantee for the adequate completion of a particular project is known as a performance bond. A performance bond usually requires collateral to back up something known as a surety. A surety is an individual or group that takes responsibility for another party’s performance of a particular task. Usually an insurance company would act as a surety, but a bank could also take on this role. 

Generally speaking, government bodies and private sectors require performance bond insurance to protect the tax payer’s investment on a big project. Common examples of these projects include the construction of roads, bridges and public subway systems. However, there are many projects that could benefit from having performance bond insurance outside of these examples.  

In the event that the contractor doesn’t finish the project, performance bond insurance will either hire a new contracting company to finish the project or pay for the completion of the project. In other words, performance bond insurance protects the owner against possible losses in the event that the contractor fails to complete the work they originally agreed to do. 

If an owner needs to make a claim using their performance bond insurance, compensation can only be claimed by the owner of the project. Nobody else can make claims against the performance bond insurance. It’s important that the work is clearly defined in project contracts in order for a person to make a claim. If the contract terms are vague, it will be challenging to determine whether the contractor failed to complete their duties. 

Advantages and Disadvantages of Performance Bond Insurance

To better understand the purpose of performance bond insurance, it helps to consider the advantages and disadvantages. The pros and cons can also help determine whether or not you need performance bond insurance for your project. 

Advantages

  • Assurance of the Project’s Completion. The project owner can find comfort in the fact that the project will be completed with or without the contractor they’ve hired. 
  • No Additional Costs. If something goes awry during the project, the owner won’t incur additional costs because the performance bond insurance will cover them. 

Disadvantages

  • Unclear Contracts. If the contract made between the owner and the contractor has an unclear scope of work, there can be challenges to secure compensation from performance bond insurance. Before performance bond insurance payments can be made, it must be proven that the contractor did not complete the work they agreed to do. This can be tricky business. 
  • Proof of Losses. In order to receive a performance bond insurance payment, owners must provide a numerical loss they might incur when a contractor fails to execute their work. The loss must be supported by financial analyses, usually prepared by an accountant. There is an additional risk that the actual incurred loss is greater than the estimated loss as well.  

Performance Bond Insurance and You

Performance bond insurance often puts your mind at ease when working on large projects that have a risk of losing money or being incomplete. Even if you have full trust that your contractor will finish the job, there is always a risk that the worst will happen, unfortunately. 

In general, performance bond insurance costs around 1% of the contract’s value. This means if you have a contract worth $500,000, your performance bond would cost $5,000. While this may seem like a lot, it is a fair price to pay to ensure that your project is completed without significant delays or additional costs. 

To apply with an insurance company, you will need to provide some documentation about your project. You will need financial statements, a copy of the project contract and an application of the surety. The process can be accelerated if you have collateral, such as real estate.