Most people assume that because surety bonds are offered through an insurance company that a surety bond is a type of insurance policy. This however is untrue. Even though surety bonds and insurance policies have a few insignificant likenesses they are not the same thing at all. In this installment we will discuss the differences between surety bonds and insurance.
The first difference between surety bonds and insurance is the number of individuals involved in the agreement. With a surety bond there is a three-party agreement that connects the bond issuer, who is known as the surety, with the second party, who is the principal, into a financial guarantee to the third party, who is known as the obligee. The agreement states that principal fulfills the obligations set forth in the contract. The principal relies on the monetary power of the surety in order to acquire a contract with the obligee.
The difference with insurance is that the agreement between two parties; the two parties being the insurance company and the insured. This arrangement is in place to guarantee that if the insured has a loss or is damaged the insurance company agrees to pay an amount set forth in the original policy.
Another distinction between surety bonds and insurance is that losses are not to be expected under a surety bond. The contracting company to which the bond is issued needs to be financially stout and secure to be eligible for bonding. The surety company carries out a thorough background check into the contractor’s character, their credit worthiness, the talent and capability to finish a project as contracted.
It is also important that they meet the specific check points in place within the contract. A surety bond is sought out because the contractor is asked to provide one because the project owner mandates it. The surety bond amount decreases as certain check points, which are stated in the contract, are met. Less surety is needed as the job gets closer to the agreed upon end. As each stage is completed the contractor is required to carry less surety to meet their obligation to the project owner.
An insurance policy is purchased because a loss is eventually expected. The insurance policy rates are always changing and need to be adjusted based on the law of averages, expenses and losses. A perfect example is when purchasing car insurance. The rates are high at first because the expense is greater to cover the amount owed on the car loan. If the car is in an accident a large amount of money is needed to cover the expense of repair or to cover the payoff on the loan. As time passes the amount owed becomes less and less, the expense to repair the car decreases and because of all of these factors the insurance policy costs decrease.
In our next installment we will look at more comparisons between surety bonds and insurance companies. These two very different industries and products have qualities that are similar but they are indeed two very different things when side by side comparisons are completed.