The following article has been written by guest blogger Danielle Rodabaugh, who has outlined an informative examination of bonding principles in New York construction.
Although surety bonds have been used to regulate New York’s construction industry for decades, many contractors still have a limited understanding of their purpose.
Surety bonds are crucial to New York’s construction industry because they protect local government agencies, project owners and other financiers from losing the investments. To better understand the purpose behind New York surety bond regulations, contractors should acquaint themselves with the following five principles.
- Surety bonds are legally binding contracts. A basic surety bond definition
(http://www.suretybonds.com/surety-bond-definition.html) explains that these risk mitigation tools function as legally enforced contracts that bind three separate entities to one another. When it comes to construction bonds, the three parties include the contractor or construction firms that purchases the bond (known as the bond’s strong principal), the government agency or other project owner that requires the bond (known as the bond’s strong obligee) and the company that sells the bond and acts as the contract mediator (known as the bond’s strong surety).
Each surety bond executed guarantees the principal will act in accordance with certain laws specific to the bond’s contractual language. If the principal fails to meet the bond’s stipulations, the bond will be used to pay for resulting damages or losses.
- New York surety bond requirements vary depending on where contractors work.
Most contractors already know that the federal Miller Act requires separate payment and performance bonds on any publicly funded project whose contract exceeds $100,000. However, state and city governments have the power to enforce additional surety bond regulations per their discretion.
Other than asbestos abatement work, all construction work in New York is regulated at the local level, meaning the state doesn’t set surety bond regulations. For example, before a contractor can get a street and sidewalk construction permit to work in New York City, the contractor must file a street obstruction bond and a plumber’s bond with the city’s Department of Transportation (http://www.nyc.gov/html/dot/html/home/home.shtml). With each new construction project, New York contractors should always check with the government agency that regulates the geographic area to clarify any and all surety bond requirements.
- Some contractors might not qualify for the surety bonds they need.
Since government agencies use surety bonds as a way to keep unqualified individuals from working in the New York construction market, it goes without saying that some contractors will not be able to get the contractor license bonds they need (http://contractorbonds.com/).
Since surety bonds provide a financial guarantee, surety providers have the responsibility to determine who does and does not qualify for certain bonds. As a neutral third party, sureties risk a potential financial loss with every bond they issue, which is why they have such rigid qualifying standards.
- Getting a surety bond might cost more than some contractors can afford.
Surety providers calculate surety bond premiums using a number of criteria. The base premium is determined as a percentage of the surety bond amount. For example, two different construction firms each need a $100,000 surety bond. The owner of the first company has a good credit score, so the bond premium will be calculated as 1% to 5% of the bond amount, which would be $1,000 to $5,000. The owner of the second company has a poor credit score, so the premium could range anywhere from 6% to 30% of the bond amount, which would be $6,000 to $30,000.
The basic nature of surety bonds is to protect consumers and government entities from fraud, malpractice and financial loss. For this reason, surety bonds issued in the construction industry are often written to cover the full amount of the project. Since construction projects can be so expensive, this oftentimes means that smaller construction firms are unable to work on larger projects because they don’t have the capital necessary to front bonds that have high premiums.
- Failing to maintain required surety bonds results in considerable penalties.
When contractors are caught without proper surety bond coverage, a number of different penalties might be implemented. Contractors that fail to maintain surety bonds as required by law face legal action, penalty fines and even license revocation (https://www.liconstructionlaw.com/construction/crucial-surety-bond-principles/). With these penalties on a record, getting additional surety bonds in the future could be more difficult since surety providers are wary of working with contractors who have had past bonding issues.
Danielle Rodabaugh is the editor of the Surety Bonds Insider (http://www.suretybonds.com/blog/), a publication that provides in-depth analyses of developments within the surety industry. The publication is sponsored by SuretyBonds.com (http://www.suretybonds.com/), a nationwide surety bond producer that helps contractors understand the legal implications of the surety bond process.
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This is a general information article and should not be construed as legal advice or a legal opinion. Readers are encouraged to seek counsel from a construction lawyer for advice on a particular circumstance.
John Caravella Esq., is a construction attorney and formerly practicing project architect at The Law Office of John Caravella, P.C., representing architects, engineers, contractors, subcontractors, and owners in all phases of contract preparation, litigation, and arbitration across New York and Florida. He also serves as an arbitrator to the American Arbitration Association Construction Industry Panel. Mr. Caravella can be reached by email: [email protected] or (631) 608-1346.