INTRODUCTION
The cost of performance and payment bonds depends on various factors, including the contractor’s financial strength and the type of contract. Many contractors struggle to understand these costs because most sources only provide general estimates, such as 0.5% to 3% of the contract price. This article explains how these costs are calculated and how contractors can reduce their bond expenses.
HOW CONTRACT BOND RATES ARE SET
In the United States, companies that issue surety bonds must file their rates in each state before selling bonds there. The Surety and Fidelity Association of America (SFAA) helps these companies by gathering data and setting loss cost guidelines. Since 98% of surety premiums come from SFAA members, their guidelines play a key role in determining bond rates. Alpha Surety follows these industry standards to ensure competitive and fair pricing for their clients.
TYPES OF WORK AND BOND COSTS
The cost of performance and payment bonds depends on the type of work being done. Contractors are classified into different categories:
- Class B: General construction, utilities, etc.
- Class A: Roofing, bridges, sidewalks, etc.
- Class A-1: Asphalt paving
- Completion Bonds: Subdivision work
Each category has different pricing levels, such as “Standard,” “Preferred,” and “Merit” rates. Bond rates typically decrease as project size increases. For example, a Class B bond may have the following rates:
- First $100,000 of contract: $25 per $1,000 (2.5%)
- Next $400,000: $15 per $1,000 (1.5%)
- Next $2,000,000: $10 per $1,000 (1.0%)
If a project costs $500,000, the bond cost would be calculated as:
- $100,000 x 2.5% = $2,500
- $400,000 x 1.5% = $6,000
- Total bond cost = $8,500
CREDIT BASED PERFORMANCE AND PAYMENT COSTS
Some bond programs use personal credit instead of financial statements to approve bonds for contracts up to $1.5 million. While these bonds are easier to obtain, they usually cost more—often 2.5% to 3% of the contract value. However, competition is increasing, and some companies now offer lower rates for credit-based bonds.
DESIGN BUILD PROJECTS AND HIGHER BOND COSTS
Design-build contracts carry more risk than traditional contracts because the contractor is responsible for design work. As a result, contractors usually pay higher bond rates for these projects. Many bond companies add a surcharge of 20% to 50% on the standard bond premium. For example, if the regular bond cost is $8,500, a 20% surcharge increases it to $10,200.
HOW BOND COMPANIES DETERMINE RATES
Bond rates are influenced by:
- Filed rates
- Type of work
- Experience
- Credit score
- Financial strength
- Quality of financial statements
Some companies use account rating, which allows local underwriters to set bond rates based on individual contractors. Others use class rating, where contractors in the same category get the same rate. Contractors with strong financial statements often receive better rates. Upgrading from a CPA Compiled Statement to a CPA Reviewed or Audited Statement can significantly reduce bond costs.
PERFORMANCE AND PAYMENT BONDS ARE PRICED TOGETHER
Performance bonds and payment bonds are usually issued together for a single price. However, maintenance bonds may cost extra if issued separately. Understanding these details helps contractors manage their bond costs more effectively.
