If your small business involves contracts with clients, you may be required to have a surety bond, which protects your client for if you do shoddy work. A surety bond can also cover fraud and allegations of theft committed by your employees. There are several different types of bonds that apply to various types of small businesses, such as janitorial bonds, bid bonds, performance bonds and payment bonds.
While not technically insurance, a bond also covers your client if they claim your business did not fulfill its contractual obligations. For example, if your client says your work was incomplete and insufficient, they can file a claim with the surety company for the cost to hire another company to finish the work properly.
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How Does Bond Insurance Work?
A surety bond is a contract between three parties:
- Principal: The business purchasing the bond.
- Obligee: The client requesting the bond.
- Surety: The company that underwrites the bond.
If your client files a claim (such as one for poor workmanship), the surety company will reimburse your client and your business must pay back the surety company.
For example, if your painting business buys a surety bond at the request of your client and the client claims your work was insufficient and shoddy, the client can file a claim with the surety company for the cost of hiring another painting company to re-do and finish the work. Your painting business will need to pay back the surety company.
What’s the Difference Between Insurance and a Bond?
While a bond is not an insurance policy, you may hear the term “bonded and insured.” That’s referring to two separate things:
- Insured means that you purchased business liability insurance. It’s a form of small business insurance that covers your business for accidental property damage and injuries to others. General liability insurance claims cover costs, such as medical expenses, repairs for damaged property and your legal costs if you get sued over a problem that’s covered by your insurance.
- Bonded means that you purchased a surety bond to cover your business against claims, such as fraud, theft and incomplete or poor workmanship. Bond claims are paid to your client.
Many large clients require their business partners to be bonded and insured.
What Does Bond Insurance Not Cover?
Bonds are designed to cover your client for problems like incomplete or poor workmanship. Here are examples of claims that aren’t covered by bonds:
- Accidental injuries and property damage to others. That’s covered by your general liability insurance.
- A worker gets hurt or injured during a project. That’s covered by your workers’ compensation insurance.
Benefits of Bond Insurance
A bond can help boost legitimacy if you have a small business that does work for others. It assures customers that the work will be completed, and if your work is insufficient, your clients won’t be left holding a large bill for poor work.
Some clients require a bond before they’ll do business with you. Without one, you might lose out on a job.
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Categories of License and Permit Bonds
A license and permit bond is a type of bond that guarantees a business adheres to federal, state and local regulations and industry standards. There are four categories of license and permit bonds:
- Compliance bonds guarantee your business will perform work in accordance with the law. For example, a municipality that requires an electrician to comply with local building codes.
- Financial guarantee bonds guarantee payment of fees or taxes. For example, an alcohol tax bond guarantees that state taxes for the sale of alcoholic beverages will be paid.
- Public protection bonds cover the public from financial losses due to fraud and unfair dealings. For example, a mortgage broker bond will repay a client if their mortgage company fails to provide accurate information about a loan.
- Public safety bonds cover the public from financial loss due to physical damage, such as a post-road bond in case an oversized or heavy load causes road damage. These types of bonds are also called indemnity bonds.
When Do Small Businesses Need Bond Insurance?
Small businesses may need bond insurance for reasons such as:
- A client requires a bond.
- Your industry requires it.
- You must comply with federal, state or local laws.
For example, if you own a cleaning business, a client may require you to have a janitorial bond in addition to your cleaning business insurance. Another example would be a license and permit bond in addition to contractors insurance.
Where to Get an Insurance Bond
You can buy an insurance bond for a small business from:
- Business insurance companies. For example, Travelers insurance sells several types of bonds, including bid, performance and payment bonds, and license and permit bonds.
- Surety bond companies. The Small Business Administration provided this list of surety bond companies. You can also check this list of certified companies from the U.S. Bureau of the Fiscal Service.
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