‘Surety bonds’ and ‘surety insurance’ are sometimes used interchangeably, especially when it comes to bonding. This, however, is a common misconception. The principles that underlie both surety bonds and insurance are similar, and it’s easy to see why people can get them mixed up.
We’re here to clear up the confusion.
In this brief breakdown, we’ll explain what a surety bond is and why people sometimes call it surety bond insurance. Let’s do this.
What is a surety bond?
First and foremost, surety bond insurance (otherwise known as surety insurance) is an inaccurate way to describe a surety bond.
At its core, a surety bond is essentially a sum of money (replace sum of money for “contract” to better understand the principle) that guarantees performance, honesty, and adherence to a certain ruleset between a company and a client, or a company and a local (or state) authority.
A surety bond is an amount paid by a company (principal), to a client or government entity (obligee), which is underwritten by another business (surety provider). Once the principal has paid the amount of the bond, the three parties are bonded. In a nutshell, the three parties involved are:
- The principal: the person or company that needs to post a bond
- The obligee: the government entity or client requiring the principal to be bonded
- The surety: the one that’s backing the financial guarantee that the principal will uphold their quality of work. The surety will cover the costs if things go wrong.
Similar to having a credit line from a bank, your surety vouches for your business, saying that you’re going to be ethical in your work and your performance won’t falter.
This is where insurance comes into play.
How is a surety bond like insurance?
A surety bond is similar to insurance because it’s bought by a first party (the principal), benefits a second party (the obligee), and financed by a third party (the surety).
- Insurance example: If you pay for auto insurance, then the insurance (third party) protects you (first party) and others (second party) in the case of an accident.
- Surety bond example: Let’s say you’re a contractor that’s about to do a massive commercial construction build. The person that’s employing you might ask that you get a surety bond. Why? Because once bonded, this surety provider is ensuring your client that you’re going to do a good job. If you fail to deliver on the work you promised, the surety provider (third party) will often cover the loss to your employer (second party) or pay for any damages caused by you (first party).
In the scenario above, if things were to go wrong, once your client receives their payout you would have to (usually) pay back the full amount of the surety bond. Remember: surety bonds and insurance have similar dynamics, but they are not the same.
How is a surety bond not like insurance?
A common misconception is that a surety bond acts as insurance for a business. But that’s not true. A surety bond is more like insurance for your client or the general public, protecting them if you don’t live up to your word.
But it doesn’t mean a surety bond protects you.
How they’re different – With insurance, you typically pay a deductible (or an amount of money you have to cough up before the insurance covers a claim). Yet, with a surety bond, the surety will pay the obligee for whatever financial damages you’ve caused. Once this payment is issued, they’ll then come back to you and make you pay the full amount of the bond. This is typically in the thousands of dollars.
So, for instance, let’s go back to auto insurance. You pay an insurance premium (an amount per year to keep the insurance active). Let’s say you were to get in an accident and you’re at fault. Now, your insurance company has to pay for the damages of the other car.
If insurance was like a surety body, then once they paid for the damages to the third party, they’d make you pay your entire insurance premium in full and be done with you.
In which case, while a surety bond ensures that, if you do something wrong, the obligee will get reimbursed, it doesn’t really protect you. While both insurance and surety bonds ensure that there will be financial compensation for unforeseen events, surety bonds only provide that for third parties.
Insurance, on the other hand, protects you as well.
Types of surety bonds
When it comes to the various types of surety bonds, they’re put in place for specific purposes. For the sake of explanation, it’s easiest to break them into three brackets:
Commercial bonds – Typically, this type of bond falls beneath the category of a ”license and permit,” or bonds that are required by the government to issue a permit or license. These are needed when starting an auto dealership, constructing a building, starting a medicare company, or becoming a mortgage broker.
Contract bonds – These bonds typically ensure that separate contracts are carried out with full legality. This can be anything from a bid bond, which ensures that contractors actually commit to the work if their bid is selected, performance bonds that ensure a contractor is going to finish the project they’ve started, and payment bonds that ensure a contractor is going to pay the people they hire.
Court bonds – These bonds refer to certain guarantees the government uses to protect people, communities, and businesses in the wake of civil or criminal tort litigation. This includes appeal, custodian, and fiduciary bonds.
Surety bonds and surety bond insurance: the difference
Remember, surety bonds are put in place to ensure that a company acts in good faith. If things go wrong, the surety compensates the second party for any damages incurred. Insurance, on the other hand, (typically) protects the second party and the company or individual insured (first party).
It’s for these reasons that surety bonds can be mistaken for insurance. At the end of the day, the two are quite different, but they work together to help you build a trustworthy business and get more work.
At times, it’s not just a surety bond you need. It’s a surety bond and insurance.
With our game-changing platform, we’ve designed a unique system where you only have to pay for insurance when you’re working. If you’re in the market for a surety bond, then our accompanying policies can go by the hour, day, or month, ensuring that you’re only ever paying for insurance when you need it. (If you need a surety bond for a specific project, we can provide additional small business insurance while you’re on the job.)
Just download the Thimble mobile app, click “Get a quote,” input a few details about your business and you’ll have a quote instantly. From there, you can purchase your policy in less than sixty seconds. It’s that fast.
Our editorial content is intended for informational purposes only and is not written by a licensed insurance agent. Terms and conditions for rate and coverage may vary by class of business and state.