Masonry Magazine July 1961 Page. 8
8
CONTRACT BONDS
By W. D. Bollinger
Manager and Attorney
Fidelity & Deposit Co. of Maryland
Baltimore, Md.
Mr. Bollinger, nationally known authority, discusses the various phases of contract bonds and explains in detail the many requirements and obligations.
Suretyship had its origin more than 3,000 years ago. The first we heard of it was back in the days when hostages were given to guarantee the performance of some act. Then we read in the Bible about a man becoming surety for another. The first corporate surety company was organized in this country shortly after the Civil War. By the 1890's, there were a half dozen companies in the business. Today there are something over two hundred.
There is a vast difference between insurance and suretyship. Insurance is written on the basis that out of a certain amount of money taken in, there will be a certain percentage of losses, and experience over a long number of years shows this is true. The theory underlying suretyship is that the company should experience no losses. The bond underwriter looks into a contractor's financial status, character and previous work to determine whether he should be capable of meeting the obligation and in addition tries to throw safeguards around the risk which will prevent losses.
A bond is a written agreement between the parties involved in the suretyship. There are three parties: (1) contractor or principal; (2) the owner or obligee and (3) the bonding company or surety. It is the obligation of the surety to pay to the owner the debt or default of the principal.
The Contract Bond
The particular type of surety bond in which we are interested today is the Contract Bond. Contract Bonds are no novelty in the construction industry. From the earliest days of American construction, they have been a familiar method of securing guarantees. But it was not until the passage by Congress of the Heard Act in 1894 that the employment of corporate suretyship was broadly accepted.
This act called for a single, combined Performance and Payment Bond for Federal construction contracts. It was a long stride forward, but it was subject to the prior rights of the government, and the law was surrounded with technical and procedural difficulties.
The Miller Act
To remedy these defects, the Miller Act requiring separate bonds-one assuring performance of the contract, the other guaranteeing payment of labor and materials bills was enacted by Congress in 1935, and now these bonds are prescribed for Federal construction contracts exceeding $2,000 in amount.
In addition to the Miller Act Bonds required on federal work, every state of the Union now requires contractors on certain public work to furnish bonds for the protection of labor and materialmen.
In addition to the bonds required on public work, six or seven states require Labor and Material Payment Bonds on private work under certain circumstances.
Contract Bonds normally take different forms, each with its particular purpose.
First, there is the Bid Bond is filed with the bidder's proposal guarantees that if the job is awarded to the contractor he will proceed to sign the contract and furnish the required bond or bonds for faithful performance and payment of labor and materials. If he fails to do so without justification, there shall be paid to the owner, the difference not to exceed the amount of the bond between his bid and such larger amount for which the owner may in good faith contract with another builder to perform the work.
The second type is the Performance Bond. It guarantees to the owner that the contractor will perform the contract in accordance with its terms and that the owner will be protected against loss up to the amount of the bond in case of default of the contractor.
The third type is the Labor and Material Payment Bond. The function of such a bond is to guarantee that upon the contractor's failure to pay his bills for labor and material used in the prosecution of the owner's contract will be paid. Such coverage is sometimes added to the Performance Bond, but there is a growing trend toward the use of separate bonds. The premium cost is the same.
Finally, there is what is known as a Maintenance Bond which guarantees against defective workmanship and materials for a stated period of time.
The contracting business is one of the most risky enterprises in society. The hazards of contracting are so great that some who have successfully operated for many years have failed, sometimes through no fault of their own.
The biggest single reason certain contractors get into trouble is taking on too much work. There is the case of a company that had been in business for over thirty years, taking contracts only in the state in which it was located and limiting its work program to $6,000,000. It could comfortably handle and make a fair profit on such a program. When the same company over a two-year period increased its work program to a $30,000,000 total, spread over several states, it found itself in trouble because it did not have sufficient capital, personnel or equipment to do the type of job it could do on a $6,000,000 volume concentrated in one state.
Another reason contractors find themselves in trouble and this is particularly true of the smaller contractors is that they do not have a clear understanding of their financial position. In some instances, this