Surety & Counter Bank Guarantee
What is Surety?
Surety is a contract between three or more parties: a supplier of some kind, their client and an insurance company. It is a financial arrangement where the insurer provides 'Financial Bridging' between you and your client.
Surety bonds guarantee that suppliers can meet financial obligations when contracted performance targets are missed. Many major projects are impossible without them. Howden consultants take the stress out of the entire process, from successfully aligning with the terms of contract, to managing the claims process and advocating for you.
While technically not insurance, the insurance markets are the main source of flexible, cost-effective surety bonds. Bank-offered guarantees demand 100% collateral upfront, requiring clients to pay the full contracted guarantee amount before a project can be covered. Surety, or a Counter Bank Guarantee, requires a much smaller percentage as collateral. So you get the same protection, and still have funds to run other projects at the same time.
Bonds can apply to any supplier/client contract, but are most common in the construction and real estate sectors.
The three parties involved in the contract are:
- The Principal (bond holder)
- The Obligee (bond holder’s client)
- The Surety (the insurance company).
It is the Howden risk consultant’s job to make sure the wording of the surety tightly meets the performance requirements laid out in the contract – and ensure a timely turnaround of all required actions.
A surety bond is not an insurance policy; the surety will seek to reclaim the funds, plus any legal fees, from the principal.
The principal will pay a premium (once for the whole contract period) in exchange for the bonding company's financial strength to extend surety credit.
Types of Surety bond
Common type of bonds are:
- Bid/Tender Bond – to provide security against a contractors’ inability or unwillingness to proceed with an awarded contract.
- Advance Payment Bond – to secure funds that have been advanced to a contractor for the pre-purchase of materials or the early mobilisation of plant and equipment under a contract.
- Performance Bond – to provide protection against non-performance of the conditions of contract, or security against abandoning the contract.
- Surety Bond – to guarantee the debts, obligations or conduct of a contractor or seller involved in a construction, manufacturing or trade contract.
- Customs Bond – to guarantee compliance with customs requirements and regulations in respect of imports/exports.
- License Bond – lodged with regulatory/licensing authorities to provide consumer protection for the services of the licensee company (i.e. it will provide potential reimbursement to a prejudiced consumer in the event of the licensees’ default under the conditions of the license).
How are premiums worked out?
Premiums are assessed according to:
- The requirements found in the contract, service agreement, purchase order, notice to proceed etc.
- The financial health of the principal (solvency must be verified)
- The loss/claims history of the principal.
- The total sum that the surety could potentially be liable for, in the event that the principle defaults on the obligations.
Howden work with you to ensure your business is presented in the best possible light, in order to secure the most favourable terms.
What happens in the event of a claim?
- In the event of a default, the surety will investigate.
- If the claim is valid, the surety will pay the obligee what they are due.
- The surety then looks to the principal, seeking reimbursement for the amount paid (plus any legal fees).
- In cases where the principal is blaming a third party for causing the default, the surety will investigate and have a right on subrogation. In this way, they can ‘step into the shoes’ of the principal and seek to recover damages to recover their losses.
Do surety bonds function like traditional insurance policies?
A surety bond is not a typical insurance policy. While the surety backs the performance of the principal and will pay the penalties resulting from non-performance or under-performance, they do seek to reclaim the funds from the principal. That is why it is called 'Financial Bridging' from you to your client.
A surety bond helps make the deal happen, obligees can enter into a contract knowing that performance is guaranteed or the penalties will definitely be paid.
What happens in a dispute?
The surety is not usually best placed to resolve legal disputes between the principal and the obligee. Sometimes, they will try to mediate disagreements before they formally become disputes and breaches of contract. Ultimately, everyone involved in the deal wants to avoid that.
In the event of a dispute, Howden’s claims advocacy service will help you present your case to the insurer in the best possible light. As we know what they are looking for, and we can help fight your corner.
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