Transcript Surety Bonds Used For Contractual Guarantees

Insurance, Surety &
Indemnification
Why do we need it anyway?
NJ Higher Education Purchasing Association
Disadvantaged Business Development Fair
August 17, 2005
James A. Breeding
Director, Department of Risk Management & Insurance
Agenda


Why is Insurance Required?
What can and does go wrong?
 Additional Insured
 Indemnification
 Types of Insurance Coverage Required
 Why do we need Surety/Guarantee?
 When is a Contract Guarantee Required?
 Types of Guarantees Available
 What is a Surety Bond?
 Surety Bonds to Cover Supply & Construction Projects
 Insurance vs. Surety Bonds
 Letters of Credits vs. Surety Bonds
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Why is Insurance Required?
 Due
Diligence
 Responsible Ethical Business Practices
 Protect University Assets
 Minimize Disruption to University
Operations
 Effect a Risk Transfer
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Additional Insured
 Defense
Costs
 Indemnity
Payments
 Beneficiary
of Vendor’s Insurance
Coverage
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Additional Insured (cont’d.)
“Rutgers, The State University must be
named as an additional insured in this
policy. Such insurance shall be primary
over other collectible insurance that may
apply……”
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Indemnification
“The vendor/contractor agrees to Hold
Harmless, Indemnify and defend Rutgers,
The State University, against any and all
claims, demands or suits by any persons
and against related damages, liabilities,
costs and expenses (including attorney’s
fees) which may arise out of the
performance of the contract.”
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Types of Insurance Coverage
Available
 General



Liability
Completed Operations
Products Liability
Contractual Liability
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Types of Insurance Coverage
Available (cont’d.)
 Business Auto



Owned / Non-Owned Auto
Leased / Hired Auto
Underinsured / Uninsured Motorist
 Worker’s


Liability
Compensation
Statutory Limits
Part B – Employer’s Liability
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Types of Insurance Coverage
Available (cont’d.)
 Specialty




Risk Coverage
Bus / Transportation Vendors
Asbestos Removal and Monitoring
Contractors
Chemical Waste and Pesticide Disposal
Contractors
Construction and Major Renovations
Contractors
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Why do we need Surety/Guarantee?
 Time
Delay
 Costs to Replace Vendor/Contractor
 Missed Deadline (Construction)
 Cost to Administrate Takeover
 Legal Expenses
 Liens Placed by Subs/Suppliers
 Quality of Work
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When is a Contract Guarantee
Required?


Vendor/Contractor supplies critical service to University
Construction projects considered essential





Projects required specialized services



Software outsourcing
Database conversion
Vendors with long lead time or special order units



Roof replacements
New facilities with time-sensitive opening
Water/wastewater management systems
Large dollar – stadium, library
Bleacher systems
Refrigeration units
Vendors supplying long-term guarantee of workmanships

Energy management contractors
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Types of Contract Guarantees

Vendor/Contractor Guarantee




If written into contract, provides that materials
supplied & workmanship will be satisfactory to buyer
This form of guarantee is only as good as company
supplying goods or service. This can be satisfactory if
the reputation and experience of supplier is known to
University.
If this form of guarantee is used, check on company’s
ownership. It may be necessary to obtain parent
company guarantee.
The acceptance of vendor/contractor guarantee puts
the burden of qualifying the supplier on University
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Types of Contract Guarantees
(continued)
 Surety


Bonds
What is the role of Surety Bonds?
Bond Types
•
•
•
•
•
Bid Bonds/Consent of Surety
Performance Bond
Payment Bond
Maintenance Bond
Supply Bond
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What is a Surety Bond?
 Three
Party Instrument
 Surety
bonds guarantee the obligation of
one party to another
 Surety
bonds provide monetary or other
recourse if the obligation is not performed
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Suretyship vs. Insurance

Subject to state laws
 Provides protection
against financial loss
 Risk remains with
principal
 Premiums charged
with expectation of no
loss

Subject to state laws
 Provides protection
against financial loss
 Risk transferred to
insurance company
 Premiums include an
allocation to cover
expected losses
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Structure of Surety Bonds

Preamble

Introduces parties
• Principal
• Obligee
• Surety

Conditions and qualifications



Explains why bond is required
Obligates principal and surety to a third party (obligee)
Obligatory clause

Formalizes that if principal fails to perform duties as prescribed
by conditions then surety will pay or perform
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Structure of Surety Bonds
(In comparison to a Letter of Credit)





Bond
Preamble
Conditions
Qualifications
Obligatory clause








Pay on demand
Fund principal
Replace principal
Letter of Credit
Preamble
Conditions
Qualifications
Obligatory clause

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Bond Forms
 Bid


Bond
Evidence of the good faith & ability of the
contractor;
The purpose of the bid bond is to:
• Eliminate unqualified or irresponsible contractors
from competitive bidding
• To save University the expense of another bid
letting should the successful bidder not qualify
• To assure the completion of the lowest possible
cost
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Bond Forms
 Default



under a Bid Bond
When does a default occur?
Courts’ position
Invoking a bid bond
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Bond Forms
 Performance





and Payment Bonds
Used to guarantee the completion of
construction projects
Provide for the benefit of laborers,
subcontractors & material suppliers
Require separate performance & payment
bonds to equal 100% of the contract price
New Jersey, Senate Bill 305
Can be provided for a single construction
project with one or more sureties
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Bond Forms
 Performance


and Payment Bonds (cont’d)
Provides indemnity for costs & damages by
reason of the contractors failure to deliver
under the terms of the contract
Assures that persons supplying direct labor or
material will be promptly paid under the terms
of the contract
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Bond Forms

Default under Performance Bond

Upon a contractor default, the surety can complete
the contract under these methods:
• Offer financial support or other guidance to see the firm to the
completion
• Obtain bids from other contractors to arrange to take over the
project
• Forfeit the bond penalty (limit)

Under Payment Bonds:
• The surety has the obligation to pay all verified bills which it
is legally liable to pay up to the bond amount
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Legal Obligations of University as a
Bond Obligee
 To
ensure a mutual meeting of the minds
 Notice to the Surety
 Responsibilities of bond obligee
 Duties of bond obligee
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Letters of Credit and Bonds
Letters of credit (LOC) are often viewed as substitutes for performance &
payment bonds. However, LOCs are not suited to guarantee performance of
contractor which require more than a single delivery of goods and payment of a
certain sum.
At the time of default a LOC simply generates a sum of money to the owner.
Administering the completion of the contract is left to the owner. A LOC does not
assure payments to subcontractors, laborers & suppliers. The surety bond
company has duties & responsibilities to both the contractor & owner to be
equitable to all parties. Before making payments, the surety assures that claims
by subcontractors are for correct amount & are for the bonded contract.
The duration of performance & payment remain in force subject to the terms &
conditions of the bond & contract document. Since a LOC is not bound by the
contract, an owner must decide when to release the LOC since there is no
recourse available after the release.
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Surety Bonds vs. Letters of Credit
Surety Bonds offer construction project owners greater
protection than LOCs. Surety Bond guarantee the owner of
the project that if the contractor defaults, the surety will
complete the contract. A LOC is issued by a bank, usually
for 10% of the total contract amount & callable by the owner
upon demand. A LOC does not guarantee; sufficient funds
to complete the project; administer contract completion; or
assurance that rightful claims by subcontractors, suppliers &
laborers will be paid. A surety bond assures all these things
& more for less than 1-3 % of the contract amount.
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Surety Bonds vs. Letters of Credit
Construction Assurance
Surety Bond
Letter of Credit
Prequalification of Contractor
Yes
No
Continuous Independent Project Monitoring
Yes
No
Extraordinary Protection/Indemnity to Avoid Loss
Yes
No
Full Financial Protection
Yes
No
Unqualified Forfeiture
No
Yes
Required to Investigate Complaints
Yes
No
Ability to Respond to Contract Problems by ……………………………………
Financing Contractor
Yes
No
Assuming Construction Responsibility
Yes
No
Tendering Offer to a Competing Contractor
Yes
No
Assisting Existing Contractor to complete
Project (Assuming Responsibility)
Yes
No
Forfeiting Financial Limit
Yes
Yes
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References
 Forms
for Bonds
http://www.aia.org/docs_family_adminmanagforms
 Dept.
of Treasury’s Listing of Approved
Sureties
http://www.fms.treas.gov/c570/c570.html#
certified
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