Surety Corner: Surety bonds, are they worth it?
It’s no secret that a few in the construction community have some skepticism about the value proposition of construction bonds. Contractors, owners and consultants sometimes question if bonds are actually worth the cost. When does the surety bond actually pay out and why didn’t it respond in a particular situation? How do surety bonds work, and what should you do if you need to place a bond claim, or react to one?
Surety bonds went through a real test in 2017/2018 when the Ontario government looked into revamping the Construction Act and prompt payment. Part of this review was a determination of whether or not to make surety bonds mandatory on government projects. As part of this review, the prompt payment task force looked at the economic value of contract surety bonds.
As part of the process, the Canadian Centre for Economic Analysis (CANCEA) provided an independent review on the value of bonds. CANCEA looked at over 150,000 bonded projects over the last 20 years completed by over 10,000 different construction firms.
The findings of this report determined with certainty bonds have significant economic value. Some of the key findings were as follows:
- Non-bonded contractors are 10 times more likely to become insolvent compared to bonded contractors.
- Surety bonds protect a minimum $3.5 million worth of GDP for every $1 million spent on contract surety bond premiums.
- Surety bonds protect $1.5 million in wages or the equivalent of 25 employees for every $1 million spent on surety premiums.
- It also noted when projects are bonded, some or all of the bond premium paid by government entities can be recovered from tax revenue savings generated due to timely project completion.
Bonds are a very useful tool, not only for governments but for stakeholders throughout the construction pyramid. It is worth noting that in 2020, the surety industry paid claims of over $260 million in Canada.
Ultimately, what bonds are not, is a blank cheque. These are instruments tied to the default under a contract for either performance or payment. As a result, to ensure an effective claim against or provide a proper defence to a bond claim, the parties involved must ensure they have followed the provisions of their contracts.
From a project owner’s perspective this includes things like providing formal notice of default and allowing the contractor to remedy the default within the defined contractual provisions, providing notice of non-payment with corresponding rationale and ensuring that when a claim is happening the surety is involved from the beginning, not after the project owner has replaced the contractor.
Stuart Detsky, vice-president of surety and warranty claims at Trisura Guarantee, notes, “In my experience, parties in a dispute which may potentially involve a surety bond should look to reach out to the surety at an early stage in the dispute as often the surety can assist with resolving the dispute or narrowing the issues. Even if the dispute cannot be resolved, having the surety involved early will expedite the surety’s investigation of any surety bond claim.”
This also means when placing or defending a bid bond, performance bond or labour and material payment bond claim, your ability to produce the proper paperwork that both confirms a default has occurred and that you’ve followed the provisions of your contract is critical.
This is now even more important in the context of the new Construction Act and the new bond forms that were developed. The new bond forms in Ontario provide for enhanced responsiveness by sureties when reacting to claims, so whether you are an owner placing a bond claim or a contractor defending one, being able to provide accurate, complete and timely documentation will only better serve you regardless of which side of the dispute you are on.
Lastly, many bond forms now provide an option for a pre-default meeting with the surety. This option can be used to get ahead of any project issues. When all parties including the surety company can get together to discuss the issue, there is often resolution to be found that doesn’t lead to a costly project default.
Mark Skanes the VP of surety at Western Surety notes, “More than ever, governments and private companies are reviewing the bond forms they are using to ensure they still represent the current construction dynamic. The Surety Association of Canada has spent considerable time reviewing bond forms and released new versions of bid, performance and labour and material bonds that introduce improvements and updates. Most of the new forms being drafted bring certainty to the claims process and allow for more collaboration and communication between owners and sureties.
“Surety bonds should assist the construction dynamic, and bond wordings that unfairly support one party over another is not in the best interest of anyone in the construction pyramid.”
Ultimately, the value of bonds in the industry has been proven. What our industry needs to continue to do is educate contractors, owners and consultants about the benefits of bonds and how they work.