Anyone in the construction industry knows how essential surety bonds are. Widely used in construction, Contract Surety Bonds guarantee contractors can fulfill their contractual obligations, providing security for all parties involved.
Understanding the key elements of a surety bond contract can help contractors secure major projects and manage them with confidence. In this blog, we’ll break down the four key elements of a surety bond that every contractor should know—helping you make informed decisions for your business.
1. Parties Involved in a Contract Surety Bond
Many confuse surety bonds with insurance policies, but they have different purposes. Surety bonds have three parties—the principal, the obligee, and the surety—unlike insurance policies that only have two. Let’s examine the role each party plays.
The Principal
The Principal is the contractor purchasing the contract surety. They’re responsible for fulfilling the terms of the construction contract. Should the Principal fail to meet their legal obligations the Surety will step in to cover any financial losses.
The Obligee
The Obligee is the party requesting the surety contract from the contractor. This would typically be a project owner, a government agency, or any other client that requires a project to be bonded. The contract surety bond protects the Obligee since it ensures that the Principal will meet their contractual requirements. Otherwise, the latter does as the contract stipulates.
The Surety
The Surety is the Insurance Company that issues the contract of surety. They guarantee and vet for the Principal, ensuring they can meet their obligations as presented in the commercial surety bonds.
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2. Indemnification Agreements
The Indemnification Agreements in contract surety are crucial for protecting the surety company. These agreements require the principal to reimburse the surety for any claims or losses it covers if the contractor principal fails to complete the project.
In a surety bond arrangement, the surety provides a financial guarantee to the obligee but expects the principal to repay any incurred losses. Additionally, Indemnification Agreements don’t only apply to the surety company—municipal governments and subcontractors may also hold the principal personally liable.
3. Bond Term
Once you have your projects secured and have your surety bond, it’s crucial to review what the bond term specifies. Since the surety guarantees contract performance, most contract surety bonds are continuous and non-cancellable. However, bond terms can vary depending on the type of bonds that you have, since the terms may differ:
- Bid Bond—Typically valid for 30-60 days from the tender closing date
- Performance Bond—Covers the duration of the project
- Labour & Materials Bond—Remains in effect for the project’s duration
- Maintenance Bond—Extends for one to five years beyond the project completion
Contractors must keep their contract bonds active throughout the project’s life cycle, and in some cases, even after completion.
4. Claims Process
Claims in contract surety are rare, but contractors should proactively understand the claims process to maintain a strong relationship with their surety company. Here’s how the contract surety claims process typically unfolds:
- Obligee Notification: The Obligee informs the surety of a default
- Surety Investigation: The Surety investigates the claim to its validity
- Resolution Options: If the Surety finds the contract surety has been breached, they may:
- Pay up to the bond’s penalty sum to cover financial losses
- Find and appoint another contractor to complete the project
- Negotiate with all parties to reach a resolution and minimize financial losses
If the surety pays a claim, the Indemnification Agreement requires the principal to reimburse the surety for any funds paid due to the principal’s failure to meet obligations within service contracts. Some cases lead to legal proceedings if disputes arise over the surety contract.
By understanding this process, contractors can mitigate risk, resolve disputes efficiently, and ensure smoother project execution.
🔎 Learn more: The Ultimate Guide to Surety Bonds in Canada
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Secure Contract Surety Bonds Through KASE Insurance
Stepping into a large project—whether as a contractor or project owner—comes with financial risks. Contract surety products help mitigate these risks for both parties. The Obligee gains protection through the surety bond, while the Principal can move confidently, knowing that the Surety has assessed and approved their ability to succeed.
Successfully managing your contractual obligations requires a strong understanding of these four key elements—but even the most experienced professionals benefit from expert guidance. That’s where KASE Insurance comes in.
With over two decades in the insurance industry, KASE Insurance brings deep expertise in surety contracts. From project tender to completion, we’re here to support you every step of the way. Contact us today and let’s make your construction project a success.