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Our next article: Secrets of Bonding #79: Personal Indemnity, How to Avoid it.
These were among caveman’s greatest inventions. But unfortunately, bond rates have changed little since the Paleolithic Era!
That may be a slight exaggeration, but it is true that bond rates and rating methods are not revised often. Here are some of the peculiarities worth knowing, primarily in the area of contract surety:
Now here is my favorite crazy bond rule.
Situation: You have a $1,000,000 private contract on which a P&P bond is optional. The project owner asks the contractor to price an “alternate” to include a bond.
Let’s say the bond rate is 2% of the contract amount. So what is the bond price?
I know you love #1. It just looks so right.
But alas, that is not the answer, which is why this wins the wacky award!
#3. is the correct answer. The reason is that the bond fee is actually calculated on itself. When determining the bond fee, it is not correct to remove the bond cost from the contract amount. Like the cost of insurance and all costs related to the project, the bond cost is included in the contract amount.
Therefore, the correct basis for the calculation is $1,020,000 x 2% = $20,400.
Q. So what about the additional $400? Should the calculation actually be $1,020,400 x 2%? (Then, wouldn’t you have to recalculate it again, and again, and again…)
Q. And who pays the extra $400? It’s not in the $1,020,000 contract amount.
A. Beats me. You better ask that Neanderthal in the corner office!
FIA Surety is a NJ based bonding company (carrier) that has specialized in Site and Subdivision Bonds since 1979 – we’re good at it! Call us with your next one, Bid and Performance bonds, too.
Steve Golia: 856-304-7348
First Indemnity of America Ins. Co.
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November 12, 2014 to Bonding Pros:
“Steve, Good to see it came thru OK. We would like to offer our sincere appreciation and gratitude for your efforts. Thanks so much! Talk soon, (Contractor)”
Frankly, we even impressed ourselves on this one!
The client had a series of obstacles in their file, any one of which could have caused a declination. With their good cooperation we crafted a file that brought out the key elements of their strength, and effectively addressed issues we knew could be deal killers.
We got them capacity with a highly rated, T-listed surety… with NO COLLATERAL.
This is where our long experience as bonding specialists pays off.
You know insurance, but we know bonds. Use us as you agency bond department. We’re problem solvers and our markets are the best. When you need a bond, talk to the Pros!
We protect our brokers, pay a commission on every bond fee and keep you in the loop. Try us!
856-304-7348 www.BondingPros.com
We have been dedicated exclusively to providing bonds for contractors for 40 years, and we’ve heard this question at least 40 times!
It’s frustrating for contractors. Everyone knows surety bonds are hard to get, but it is really maddening when your less capable competitors are bidding public work and you can’t get across the goal line. What is the missing ingredient? Can we name the secret that answers this question?
The process of qualifying for bid and performance bonds is based on people and paper. The contractor is interviewed and evaluated. That’s the people part. A file is gathered and the paperwork is reviewed. What can cause a perfectly capable contractor to not qualify for bonding? The answer may be the paperwork.
Secret #5 was “The Three C’s of Bonding – Plus One!” It touched on this important point. In our experience, the most common area where capable and bond worthy contractors fall down is in the creation of their file.
The people part of the process is obviously important. If the underwriter is uncomfortable with the applicant, guess what: No bonds. The paperwork doesn’t matter if the human element fails.
However, it is equally true that the paperwork must achieve its goal. And what is that goal? It is CREDIBILITY. The difference between two equally capable contractors, where only one is bonded, may be the failure to present a convincing file.
When reviewing a new account, bond underwriters know what is normal and believable. Contractors who fail to meet these expectations will be rejected. Think of an extreme example: If you were evaluating the file, would you be more likely to believe an applicant’s self-serving comment that they have $100,000 in the bank, or an independent CPA firm that issued a report confirming they verified such an asset? HOW the info is presented can make all the difference.
It’s just that simple. The purpose of the file is to establish the contractor’s CREDIBILITY for all who read it, including those who will not actually meet the applicant. For them, their decision-making is based solely on the credibility and content of the file.
What are some of the most common paperwork deficiencies that derail contractors?
We don’t want to over simplify the process. Each company is different, and there are nuances to developing each applicant to assure their strengths and capabilities are showcased. We are not intending to explain HOW to establish credibility. Out point is that unless it is established, there are no bonds – regardless of how capable the contractor may be!
FIA Surety is a NJ based bonding company (carrier) that has specialized in Site and Subdivision Bonds since 1979 – we’re good at it! Call us with your next one, Bid and Performance bonds, too.
Steve Golia: 856-304-7348
First Indemnity of America Ins. Co.
Don’t miss our next exciting surety article: “Follow” this blog in the top right hand corner.
On the subject of Bid and Performance / Payment Bonds, the process of obtaining one always includes a Bond Request Form. This document is required by surety company decision makers (bond underwriters), who need to view a summary of the relevant details.
They also use this form to document the approval of the bond, and may make note of special conditions they are requiring, the bond rate and execution / shipping instructions.
The bond request form contains general info identifying the client and the beneficiary of the new bond (the obligee), plus specific details about the project.
For example, it will ask for the description and location of the work, the start and end date, and details about the performance. Subcontractors will be described. There will be a question about other projects the contractor is performing. There will also be a question about labor on the project.
The labor question is usually part of a group like this:
Est. Materials:___% Est. Labor___% Est Overhead / Profit___%
(It’s worth noting that the sum of the three should equal 100%!)
The answer to the labor question has certain implications for the underwriter. There is no “normal” scenario, but let’s use this for illustration:
Materials: 30% Labor: 60% Overhead/Profit: 10%
If 30-60-10 is a response within the range of normal, how would you interpret this?
Materials: 90% Labor: 0% Overhead/Profit: 10%
This looks like a material supply contract. The client has a product they are selling. They have no “on-site labor.” They are not assembling or incurring any labor costs at the project location. When evaluating the relative degree of risk associated with bonding this contract, is there more or less risk than normal?
You may run into the opposite situation:
Materials: 0% Labor: 90% Overhead/Profit: 10%
This is a “labor contract.” Maybe a general contractor needs carpenters on a project so they give out a labor only subcontract. Would underwriters consider this factor a plus?
The answer is that labor is considered more unpredictable than materials. You know the exact cost of materials, but how much for installation? There are variable factors that can influence the ultimate cost of project labor (human productivity, worker morale, quality of supervision, design deficiencies, weather, other contractors, etc.)
Conclusion:
A material “supply contract” is easier to bond than a labor and material contract or a labor contract.
What about this?
Materials: 40% Labor: 60% Overhead/Profit: 0%
Sounds like the subject of a future “Secret!”
FIA Surety / First Indemnity of America Insurance Company
2740 Rt. 10 West, Suite 205
Morris Plains, NJ 07950
Office: 973-541-3417
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“If you are a bonding company, why won’t you bond subcontractors?”
It might seem odd, but some Sureties do not embrace the opportunity to serve subcontractors. So what’s different
about subcontractors and subcontracts? Why do some sureties red line this entire segment of the market?
The Food Chain
One complaint underwriters may have about subcontractors is that they are farther down the food chain than General Contractors. GCs have a “prime” contract, meaning they work directly for the project owner, and are the first recipient of monetary payments. The subcontractors are subsequently paid by the GC. Subs may face delays and sometimes even harassment at the hands of GCs. Remember, subcontracts are all private contracts not regulated by governmental rules even if the prime contract is public. Put simply, subs have a harder time collecting their money.
Other Issues for Subs and Their Sureties
Conclusion
Subcontractors literally perform the majority of all construction work. They are the backbone of the construction industry and cannot be ignored by sureties.
When it comes to bonding, subcontractors need to demonstrate that they are well-managed companies that reflect the same attributes as a successful GC.
Secrets #5 and #15 contain important guidance to help agents get subcontractors approved.
Start by choosing a surety that is actively seeking to support subcontractor accounts without requiring collateral.
Steve Golia
First Indemnity of America Insurance Company
2740 Rt. 10 West, Suite 205
Morris Plains, NJ 07950
Office: 973-541-3417
“Follow” this BLOG in the upper right hand corner for more exciting surety bond stuff!
This may be one of the most challenging aspects when you’re dealing with Surety Bonds.
These are some of the questions and objections. But the fact remains: Sureties require indemnity, and routinely require “full personal indemnity.” So let’s look briefly at why this is the case, and then move on to the Tips and Tricks.
“Secret #1” explained that Bonds Are Not Insurance. They are more like a lending relationship with a bank. Unlike insurance, there is no risk transfer and the surety expects to be protected from financial loss (like a bank on a loan). The General Indemnity Agreement (GIA) accomplishes all of this.
The company indemnity of the firm that has applied for the bond is needed, and the personal indemnity of the company’s owners and spouses. When we say “full indemnity” we mean the applicant company (the “Principal”), its affiliates and subsidiaries, plus all owners and spouses.
Why do sureties demand this? It is because the parties that own / control the Principal benefit from the issuance of the bond, and are expected to complete the project without causing a bond loss. The surety’s loss ratio, and very survival, depends on this. The first effect of personal indemnity is that it impresses upon the indemnitors the importance of completing the bonded work and avoiding a bond loss. Ultimately, the GIA gives the surety the right to seek recovery if a loss does occur.
Tips
GIAs are generally similar from one surety to the next. It is also common for the language in the document to not be negotiable. Keep in mind, the document is intended to be one-sided, so don’t expect the Principal’s attorney to like it.
In addition to the Principal, the indemnity of companies owned / controlled by the people will be expected. Such companies (Affiliates) are identified by reviewing financial statements, tax returns, the Contractors Questionnaire, and the prior surety’s GIA.
The indemnity of foreign companies and non-U.S. citizens carries little weight with sureties. Can you guess why? (Answer at the end *)
The General Indemnity Agreement must be executed before the first bid or performance bond. It is called “general” because it automatically applied to all bonds issued after execution of the GIA, without naming them specifically.
A Corporate Resolution is needed when a company indemnifies on behalf of another. It reaffirms that the indemnity was intentionally / properly given and signed by a duly authorized person.
Spousal Indemnity is required, even if the person is not active in the business. The ownership in the company is usually considered marital property – owned equally by the spouse. Therefore both spouses benefit equally from the issuance of the bonds. Being active in the company has nothing to do with the need for spousal indemnity! Also note, if the active spouse dies, the inactive spouse automatically becomes the new active company owner whose decisions will directly affect the surety.
Regarding personal signatures, a “signature guarantee” by a bank is stronger (for the benefit of the surety) than a notary public.
“Obviously,” signers of the GIA cannot witness or notarize their own signatures. It is also expected that the witness to a signature will not also act as notary.
Tricks
Indemnity can be terminated at any time by following the notification procedure stated in the GIA. However, it remains in effect for bonds issued while the indemnity was in force.
When open or silent Joint Venture Partners and affiliates indemnify, they can help the Principal qualify for a bond. To accomplish this, their financial info will be needed.
Major subcontractors / suppliers that cannot bond their work can instead provide indemnity and financial info. (Keep the next point in mind.)
Company and personal indemnity can have a maximum dollar value stated which caps the liability. This would not be available, however, for the Principal.
Non-profit organizations may offer indemnity of limited value since they are not intended to accumulate profits or net worth. However, in some cases there may be individuals who personally will support the case – such as a church elder / benefactor who gives personal indemnity on behalf of the entity.
Trusts can give their indemnity if you obtain proof that the trust document allows this, and that an authorized person is signing the GIA.
Trigger Indemnity is only activated if stated circumstances occur, such as company net worth falling below a certain level or ratios that have declined.
Personal indemnity may be waived in the following cases:
Painful as they are, one good thing about GIA’s is that they may not need re-execution for years unless the Principal has changes in ownership or entities. Back in the year “1” when I started in the business, we obtained a specific indemnity agreement for every P&P bond. What a pain! Eventually everyone moved over to the “once and done,” GIA.
You love GIAs even more – now that you know some of the Tips and Tricks!
FIA Surety is a bonding company that has specialized in Site, Subdivision, Performance and Payment bonds since 1979. We get them done!
Call us with your next Surety Bond.
Steve Golia, Marketing Mgr. 856-304-7348
FIA Surety / First Indemnity of America Insurance Company, Morris Plains, NJ
*Subrogation by the claims department is unlikely in a foreign jurisdiction
“For the want of a nail…”
This often quoted proverb reminds us that if left unresolved, small problems may become catastrophes. Construction liens fall into this category.
If you are a contractor or insurance agent with construction clients, this is a subject worth knowing about.
It all starts with a small problem: A money dispute. It could be a performance issue a general contractor (GC) has with their subcontractor or defective materials received from a supplier. This could happen on ANY project. The sub or supplier files a lien against the property to protect their interests until the matter is decided.
A Release of Lien Bond removes effect of the lien and restores the property owner’s right to sell or deal with the property as they wish. It does so by acting as the replacement security to assure the lien claimant will receive any payment that is eventually due them.
That’s all pretty simple. There is a money dispute and the Release of Lien Bond becomes the replacement security for the claimant until there is an actual decision in the matter.
Here’s where it gets exciting. Assume the project is not bonded. If there WAS, the claimant could have gone against the Payment Bond – then there would be no lien. Also assume the GC’s contract requires that they protect the owner from liens, which is a common requirement. Owners want to avoid having to pay twice if they pay the GC but the money doesn’t flow down to suppliers and subcontractors. So the GC (or prime contractor) may be charged with the task of removing the lien against the owner’s property.
From the surety’s side, a release of lien bond is difficult; it is a financial guarantee. It promises that money will be paid at a future date. Because of the immediacy of claim payment (if the matter is decided in favor of the plaintiff), the surety needs funds (collateral) in hand. This means the GC (bond applicant) has to come up with cash for possibly twice the lien amount, because that’s how the bond amounts are set.
It gets worse: The GC faces three bad options.
We think the P&P bond is just for the protection of the owner, but the GC would have benefited if the project was bonded. There would have been a Payment Bond claim. With their sureties support the GC would deal with the matter and not involve the owner.
FIA Surety is a NJ based bonding company (carrier) that has specialized in Site, Subdivision, Bid and Performance Bonds since 1979 – we’re good at it! Call us with your next one.
Steve Golia, Marketing Mgr.: 856-304-7348
First Indemnity of America Ins. Co.
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Students of the industry are familiar with the “3Cs of Bonding” which are intended to describe the key elements of decision making in surety bond underwriting:
To understand why these are relevant, let’s take a step back and review the premise under which surety bonds, such as Performance Bonds for construction contracts, are given.
If you read our previous issues of “Secrets of Bonding,” you will recall that bonds are not insurance and sureties do not anticipate claims or losses the way insurers do. Therefore, the underwriting process is intended to reveal if the bond applicant is likely to succeed without involving the surety.
Surety underwriters dig deep, ask questions, and require proof. As far as humanly possible, their goal is to have certainty that the Principal can fulfill the obligations that are covered by the bond.
At the end of the underwriting process, the underwriter should arrive at what we’ll call the “4th C of Bonding.” It is the most important one of all because no applicant has ever gotten a bond without it.
It is CONFIDENCE. When the 3 Cs are evaluated, if the underwriter is confident in the principal’s ability to perform, the bond is approved and issued.
With this in mind, applicants must work through a sometimes arduous underwriting process where information must be gathered, submitted and sometimes re-submitted. Banking records, references, and supporting documents may be requested. It can go on for weeks. If you like paperwork, raise your hand!
However, the underwriting process must be viewed as an opportunity for the applicant, not a burden. The mind of the underwriter is like a blank canvas on which the applicant will portray their bond worthiness. It must be a picture of Confidence.
The 3Cs are all important. But now you know about the critical 4th C. Without it, no bond was ever written.
FIA Surety is a NJ based bonding company (carrier) that has specialized in Site, Subdivision, Bid and Performance Bonds since 1979 – we’re good at it! We get to know our agents and bond applicants to maximize Confidence.
Call us with your next Site, Bid or Performance Bond.
Steve Golia 856-304-7348
First Indemnity of America Ins. Co.
(Don’t miss our next exciting article. Click the “Follow” button at the top right.)