Whether you're building a house, an office complex or a subdivision, the last thing you want is the contractor quitting without finishing. A completion bond in construction is a form of insurance. It guarantees the project will get finished on time, in accordance with the contract specifications.
The completion bond definition is that it's a surety bond guaranteeing a project will be completed according to the terms of the contract. It's used for construction projects, but many companies want a completion bond for film or video game projects too.
Surety Bonds In Construction
Hiring a construction company is risky: building projects can run for months or years, which is plenty of time for something to go wrong. Roughly a quarter of projects involve a contractor defaulting for various reasons:
- The contractor has a cash flow problem and can't pay subcontractors or suppliers.
- The contractor falls behind. This can be due to poor performance, subcontractor problems or bad management.
- The contractor overextended themselves and doesn't have the resources to manage all the projects on their plate.
Lots of construction contracts require the builder to take out a surety bond as protection. Unlike an insurer, a performance or completion bond company doesn't expect to pay out: if they issue a bond, they're confident the construction company isn't going to default.
Types of Surety
Besides the completion bond in construction, there are other types of surety bonds:
- Bid bonds guarantee that if you accept a bid, the contractor will take the job.
- A payment bond says the contractor will make all necessary payments to subcontractors and suppliers.
- A performance bond says the project will be finished according to the terms of the contract.
- A payment and performance bond combines two types into one.
With these bonds, the surety company will either resolve the problems or reimburse you for your losses. A completion bond in construction guarantees the project will be finished on time. This poses a bigger risk for the completion bond company, so it typically receives a percentage of the contractor's fees.
Completion Bond In Construction
If a contractor on a completion bond construction project defaults, the surety company will first investigate the circumstances. If, for instance, the client hasn't made payments on time or changed the original plans significantly, the completion bond company may claim to be off the hook.
If the contractor is at fault, the completion bond company has several options:
- If the project is almost finished, the bond company may step in and take over the rest. It hires a new contractor to finish whatever remains to be done.
- The completion bond company recommends a new contractor for the client's approval. This may take time, so the bond company pays for any losses the client suffers due to the delay.
- If the completion bond company knows and trusts the contractor, they may offer technical or financial help so that the contractor can get back on track.
- The company lets the client handle the selection of a new contractor and negotiating a new contract. This usually requires reimbursing the owner for losses and added expenses.
Contractors and Bonds
Construction is a demanding business and contractors often work with tight profit margins. Paying for a bond adds to the cost of doing business, so many contractors prefer not to. If you want surety bond protection, you should bring it up when setting terms for project bids or negotiating the contract.
A completion bond in construction is the most expensive option, so contractors may charge more. Some clients may opt for a performance bond as adequate protection.
Always be very clear what the construction contract actually commits the contractor to. If you're not sure what bonding the contract promises, have your lawyer explain it to you clearly.