When can a performance bond be called?
Performance bonds are often associated with the building industry. However, under certain types of construction contracts known as “cost reimbursable” contracts, contractors may be required to provide a performance bond that guarantees completion of work or payment for materials and services not paid by the owner up to specified limits.
Under such contracts, the contractor typically submits an application for payment based on bills incurred which are then approved or rejected by the owner. If approved, each invoice is paid at 90% of its value after deduction of retention (usually 10%).
After final payment is made, contractors submit their final report together with all supporting documents like invoices and proof of payments they made during the course of contract implementation. Upon review and verification period, if no discrepancies are found, the contractor is notified by the owner that all final payments and retention monies (if any) will be paid.
After such notice is received, it is mandatory for owners to make payment within 10 days therefrom irrespective of whether or not the contractor has submitted all required documents and supporting information. Failure to do so entitles contractors to call their performance bonds even if they haven’t complied with submission requirements under the contract.
When is a performance bond used?
In the construction industry, a performance bond is used to guarantee that a contractor will complete a project or portion of a project as specified by the owner. In other words, this form of security prevents the owner from incurring financial loss should the contractor fail to complete their contractual obligations.
The most common scenario where a performance bond is required is during building construction projects for public agencies and/or private corporations. The use of performance bonds can be found in many types of public works projects such as transportation, water treatment plants, stadiums, roads, bridges, and even large-scale landscaping efforts.
When would you use a performance bond?
Many construction companies who are awarded projects will need to post a performance bond before they can begin working. A performance bond secures the owner’s interest in the project, by providing financial coverage for all losses if the contractor fails to complete the work according to contract documents or fulfill its contractual obligations, such as the supply of materials or furnishing labor and equipment.
This agreement protects both owners, who spend hard-earned money on projects that may take months or years to complete, and contractors who work diligently to ensure quality craftsmanship in every finished product. There are several reasons why contract documents may require this insurance:
1) To protect trade partners from financial loss in case of default by another trade partner.
2) To protect against damage caused by delay or defective construction resulting from the contractor’s negligence or other reasons.
3) To protect against damage caused by delay to the owner, his tenants, guests, invitees, etc., resulting from defective construction.
4) To establish security on new building projects involving systems that are not readily available in the marketplace (e.g., solar heating systems).
5) Guarantee performance of subcontractors for design-build contracts where compensation is contingent upon each trade completing its work before it moves to the next level.
What is a subcontractor performance bond?
A subcontractor performance bond is a type of insurance policy that guarantees the success of each subcontractor in your project. With payment bonds, the prime contractor promises to pay all subcontractors with their own funds until they have received all payments from you for work performed on the project.
A subcontractor performance bond guarantees that in case of default by one or more prime contractors in completing a construction contract, then there is sufficient money available to enable successful completion of the work.
The principal (the owner) must be notified within fourteen days after notice that one or more sureties may be discharging their obligations under the agreement. As such, this type of bonding is required before bidding on larger projects and can also require bonding for smaller jobs like painting and carpeting.
Each state has different requirements for contractor licensing, subcontractor bonding, and insurance. Bonding is a guarantee of financial resources to complete the work that you have contracted. The bond guarantees that there are funds available in the event that they become necessary. For contractors working within their own trade(s), it is customary to purchase both general liability insurance as well as bonds for particular types of work they may be bidding on, such as painting or remodeling contracting jobs.
Bonds are required by most states before performing certain types of work or getting a license for contracting which vary depending on the type of job being contracted out. Subcontractors must carry performance bonds to ensure payment if they default during the contract period, but contractors do not need to carry bonds.