Bid, performance and payment bonds: the three guarantees behind a construction contract

A bid bond backs your offer, a performance bond backs the work, and a payment bond backs your subs and suppliers. How surety bonds work, and what the SBA guarantee program covers.

Public owners and sophisticated private clients don't take a contractor's word — they take a surety's. A surety bond is a three-party guarantee: the surety company stands behind the contractor's obligation to the owner, and if the contractor fails, the surety completes or pays. Three bonds cover the life of a contract, and the U.S. Small Business Administration's Surety Bond Guarantee program describes them by function.

One bond per promise

• Bid bond: guarantees the owner that the bidder will honor its price and sign the contract if awarded — and, as the SBA puts it, ensures full payment and performance bonding from the contract bidder.
• Performance bond: guarantees the work gets completed per the contract.
• Payment bond: guarantees subcontractors and suppliers get paid — the public-work cousin of private-job lien rights.

What the SBA guarantee costs and covers

For small businesses that can't obtain bonding on their own, the SBA guarantees bonds issued by participating sureties. The numbers, per the SBA: all performance and payment bond guarantees require the small business to pay SBA a fee of 0.6% of the contract price — refunded if the bond is cancelled or not issued — and SBA charges no fee for bid bond guarantees. Coverage reaches up to $9 million for non-federal contracts and up to $14 million for federal contracts.

Bonding capacity is built between bids

A surety's first question is financial: work in progress, backlog, job costs, collections. The contractor who can produce clean per-job numbers — current costs, retainage held, cash position — negotiates capacity with evidence instead of promises. Bonding stops being a ceiling on growth and becomes a credential. That financial discipline per job is what an ERP for construction companies runs for a contractor, implemented around the way each company works.