In Secret # 8 we talked about Bid Bonds. Bid specifications often provide alternative forms of security to accompany the contractor’s proposal. Cash, a Certified Check, or a Bid Bond may be permitted.
Let’s take a look at the implications of each and when to use them, or not!
First, a quick primer on bids:
When contractors submit a proposal on bonded public work, bid security must be included. The security assures the bidders sincerity. They will accept the contract if offered or pay a penalty for walking away.
The contract then requires a Performance and Payment Bond or other form of acceptable security equal to the contract amount.
Typical options for Bid Security are Cash, Certified Check, or Bid Bond
Cash is King, but not when it comes to bid security. Bid security amounts are usually thousands of dollars so this method is not realistic for many contractors.
Certified Checks are similar to cash. This means the contractor must estimate the maximum proposal amount and arrange for a check payable to the obligee. Initially, the bid percentage is known but not the bid dollar amount. The specifications require security for amounts ranging from 5-20% of the proposal amount. However the actual proposal amount is often not compiled until close to bid time when all the vendor prices have been received and negotiated. To use a check, the contractor must estimate an amount sufficiently high so it is adequate to cover the bid figure when it is finally known.
Third choice, a Bid Bond issued by the surety. The advantage of it is that the bidder’s money is not tied up (as compared to cash or a check). As a precaution on public work, obligees hold the bid security of the second and third bidders until the contract is awarded – which could take weeks. Their bid security is tied up and the likelihood is that they will not win the contract.
Looking at the three options, a bid bond is the preferred choice. However, a bid bond is not always available when needed. When this happens, the bidder may still have the option to use cash or a check.
Normally there is no requirement to use a bid bond specifically. The bidder also has the latitude to use one surety for the bid bond and a different one for the P&P bond (although many sureties dislike following someone else’s bid bond.)
Why would a bid bond not be available?
1. The contractor does not have a surety.
2. Short notice: Not enough time for the surety to make an underwriting decision.
3. Short notice 2: The surety has approved the bid bond but there is not enough time to issue.
4. Bid bond declination: The surety considered the project but will not support it.
5. Bid bond declination 2: The surety wants to support the project but they are unable to due to their lack of credentials, their insufficient capacity, licensing issues, or other problems on the surety’s part.
6. When contractors are changing bonding agents or sureties, there could be a gap in service where the new surety is not ready.
In all these cases, the contractor can decide to bid with a check. However, there may be a downside to consider. Let’s look at each of the six scenarios described above.
Risks of Bidding with a Check
1. No surety: The contractor could forfeit the bid check if they are awarded the project but are unable to bond the ensuing contract.
2. Short notice: The risk here is the same as #1. Forfeiture could be the result if no bonding can be arranged for the contract.
3. Short notice 2: This is one situation where the check may be a reasonable alternative assuming the surety has provided a written approval to bond the contract.
4. Bid bond declination: This is a particularly troubling situation because the effort to arrange a Performance Bond faces two obstacles:
- Time: Contract awards demand the issuance of the P&P bond by a specified date. There could be insufficient time to set up a new surety relationship.
- The new surety, which hardly knows the contractor, is being asked to bond a project the incumbent surety declined. The incumbent was willing to lose the account over this project. Can the new underwriters be confident they are making a better decision than those who know the account well?
5. Bid bond declination 2: This example isn’t as onerous as #4. The problem is that the surety wants to bond the project but can’t. The new underwriters will be less hesitant than in #4. (So why don’t they just issue a bid bond to help the client get to the next step with another surety? See answer below.) If a check is used, a surety must be arranged to prevent forfeiture.
6. Changing sureties: Handle the same as the short notice situations.
While its true bidding with a check is usually an option, it places the contractors funds at risk unless there is a verifiable means to bond the contract upon award.
Don’t advise your client to consider using a check unless the path forward is confirmed in writing.
Answer to #5: The surety would not want to issue the bid bond if they can’t provide the performance bond. They make their money on performance bonds which are the main product of the surety operation. Second reason, if no performance bond is arranged by the client, the bid bond could go into claim. There is little for the surety to gain in this situation.
Note to our agents and other readers: We are not offering legal advice and do not assume to have covered all possible situations in this article. When these scenarios arise, talk to your client, their attorney, the surety and feel free to call us for specific advice based on the unique circumstances.
KIS Surety is the national contract bond underwriting department for Great Midwest Insurance Company, a national, corporate surety with an A-8 rating. We throw all this underwriting talent at your bond opportunities and support contracts up to $10,000,000.
If you have a contract surety case that needs a fast, creative response, call us: 856-304-7348
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