A bid bond is a type of construction bond that protects the owner, developer, or general contractor during the construction bidding process. A bid bond serves as a guarantee that the winning contractor will honor the bid terms after the contract is signed. The coverage value for the bid bond is called the “penal sum” and is the maximum amount of damages the surety will cover for the owner, developer, or general contractor of the construction project.

Three Different Types of Bid Bonds

There are three types of bid bonds: performance, payment, and labor & material bonds.

• A performance bond guarantees that the contractor will complete the project according to the specifications in the contract.
• A payment bond guarantees that the contractor will pay all subcontractors and suppliers for work performed on the project.
• A labor and materials bond guarantees that the contractor will pay for all labor and materials used in completing the project.

If a contractor fails to fulfill any of these obligations, the bond issuer can step in to complete the project or compensate those harmed by the contractor’s actions. Once the bid is awarded, the contractor may be required to post a payment and performance surety bond in the amount of the awarded contract.

Parties Involved with Bid Bonds

Like other surety bonds, there are three entities: the oblige, the surety and the principal. The oblige is the owner, developer, or general contractor of the construction project, the principal is the contractor, and the surety is the bond company that issues the bid bond to the contractor.

When a Bid Bond is Needed

Most public works contracts are awarded by competitive bidding and require bidders to obtain bid bonds. By requiring a bid bond, contractors are discouraged from submitting inappropriately low bids to win the contract. Bid bonds also protect contractors and their subcontractors by ensuring that projects are completed as promised and that all parties are paid what they’re owed.

In California, all state public construction projects require bid bonds. Bidders on public works projects must provide security for their bid using cash, cashier’s check, certified check, or a bid bond, usually equal to 10% of the full bid price of the contract.

For example, if the project you’re bidding on is estimated to cost $500,000, and you’re required to obtain a bid bond at 10% of the contract price, you will need to get a $50,000 bid bond. The bid bond amount will vary by each job and oblige.

California bid bonds are required for public works contracts when the anticipated contract exceeds $25,000. For federal projects, all bidders are required to submit bid bonds under the Miller Act. Bid bonds are not generally required for private contracts but may be required by certain lending institutions.

Obtaining a Bid Bond

A contractor must apply and qualify for the issuance of a bid bond. The cost of the bid bond (premium paid by the contractor to the surety) is based on several factors:

• the cost of the project (also known as bid cost),
• the location of the project,
• the owner and
• the financial history of the contractor.

Often the required bid request form that accompanies the bid bond asks for contract details such as the job cost breakdown (including profit), materials, labor, subcontractors and overhead. The bid bond is submitted with the proposal to the oblige.

What is Covered by Bid Bonds

Bid bonds provide security to the project owner, developer, or general contractor that the bidder will honor their bid to complete the project for the price bid according to the terms in the bid specification. If a contractor wins the bid on a project, the contractor is usually required to into a contract with the project owner, developer, or general contractor within a set time period (usually ten days).

If a contractor fails to honor their bid, the contractor forfeits the bid bond, and the surety may be liable for either the total amount of the bid bond or the difference in cost between the initial contractor’s bid and the next-lowest bid. For example, if the contractor raises the price of a job after the contract is signed, this may result in a breach of the contract, relieving the owner, developer, or general contractor of its performance obligations and allowing that owner to find another contractor for the project.

When a Claim is Made on a Bid Bond

Once a bond claim is paid to an owner, developer or general contractor, the contractor must pay the surety back for any money they paid out on the contractor’s behalf. To obtain the bid bond, the contractor likely executed an indemnity agreement which is a legal contract that pledges the contractor’s corporate and/or personal assets in the event of a bond claim. The surety may sue the contractor under the indemnity agreement to recover the costs, depending on the terms of the bond.

How to Avoid Bond Claims

A contractor must submit accurate bids and obtain performance bonds for awarded contracts. To avoid inaccurate bids, it is prudent that the contractor familiarizes themselves with the bid requirements of the job. A contractor that submits an inaccurate bid or cannot fulfill the obligation of the bid runs the risk of a claim being made against the contractor’s bond.

If you have any questions or comments regarding this article, please do not hesitate to contact Leah Schoen at The Green Law Group, LLP.

Please note that this article is only intended to provide some general educational information. For your particular legal questions, be sure and consult with an attorney.

Leah Schoen
(805) 306-1100 ext. 126
leah@thegreenlawgroup.com