Contractor License Bond

Generally all states require contractor license bonds. Most new contractors know they need to secure a bond to maintain a successful business. However, many people don't know what being bonded actually means. Understanding how bonds work and what purposes they serve is imperative knowledge to master.

A surety bond is a three-party agreement among the contractor — the person who purchases the bond, the obligee — the person who requires the bond, and the surety — the company who issues the bond.

The primary purpose of contractor license bonds is to protect the consumer from any wrongdoing on the part of the contractor. Parties who require these bonds are usually local or state regulatory offices and other consumer protection offices.

Protection Misconception

Surety bonds actually do no protect the contractor, but rather the customer. In fact, if a claim is ever made against the contractor, he or she is responsible for paying the claim. Contractor license bonds are a form of credit, not insurance, and protect the obligee. Claims on the bond can be made for a variety of reasons, including if the contractor commits financial misconduct or if the contractor does not follow local and state laws and regulations.

Getting the Bond

Since surety bonds are a form of credit, the approval process to get one is very similar to other credit approval procedures. Contractors must undergo an application process, pass a credit check, and prove they are financially stable enough to maintain the bond.

The bond approval process includes establishing a bonding capacity for the contractor. There are two types of bonding capacity, each of which sets its own limits that a contractor must follow:

• A single bond capacity sets a limit on individual jobs—every job the contractor receives must be under a certain preset dollar limit.
• An aggregate bond capacity sets the limit for the total dollar value of work the contractor can perform at once and can potentially be spread over many jobs.

Rates

Rates for contractor license bonds vary widely between companies and are highly dependent on the contractor's credit score and overall credit worth. If, for some reason, the contractor has poor or no credit, he or she will need to pursue a bond with a company that specializes in bonding those with sub par credit. The rate on these special bonds will likely be much higher.