Understanding Indemnity In Surety Bonds: A Guide for Contractors
What Is Indemnity?
Indemnity is an obligation of one party to compensate another party for the loss it has incurred.
The Basics Of The Surety Indemnity Agreement
A surety indemnity agreement is an agreement between the surety company, the contractor and potentially other third party indemnitors (such as owners of the contractor and affiliated companies) stating the surety company will be reimbursed for any loss it sustains as a result of a claim on the bond, including claim payments, legal fees, and expenses. It also grants the surety other rights that help the surety perform its bond obligations in the event of a claim situation.
In layman terms: A surety company issues a bond that guarantees the performance of a contractor on a particular construction project; and guarantees the contractor will pay subcontractors and suppliers on that project; but the contractor remains liable for these obligations. If the surety company must perform its duty and pay claims or replace the contractor, the contractor and other indemnitors are required to reimburse the surety company for the full amount of the loss. Some experts call surety bonding "borrowing the balance sheet of the surety company for the purpose of a contract."
Why Do Sureties Require Indemnity?
Without indemnity, the cost of surety bonds would be much higher for the construction industry. The low cost of a bond is a reasonable exchange for the surety’s promise to cover the entire cost of a multi-million dollar project if the contractor doesn't perform. This is possible because the surety has underwritten the account to make sure the construction company and its owners have the financial capacity to repay the surety if the need arises. The indemnity agreement is the clear and straightforward way to memorialize the contractor's promise to repay.
Navigating Indemnity Terms- Negotiate or Accept?
Construction attorneys often navigate concerns about broad indemnity language with attempts to negotiate the terms of the indemnity agreement, asking for conditions on the indemnity. In special circumstances, surety companies will consider negotiating some of the language with financially strong contractors who have good track records for meeting their obligations. Sureties prefer the agreement to be signed as-is, which puts the surety in the best position possible to mitigate the risk of loss in the event of a claim situation. No one, least of all the surety, wants to see the contractor fail, but if there are problems, the surety must honor its obligations under the bonds.
Communication Is The Key
Effective communication fosters a win-win scenario. As part of the surety’s independent investigation, the surety will communicate with the contractor and the contractor's agent. The surety will also make reasonable efforts to work with the contractor and the owner to try to prevent or resolve problems before they escalate to a default situation. A good, qualified surety company will always work to help solve problems and communicate with all parties throughout the project.
How do I get a Surety Bond?
Surety bonds are issued by Merchants Bonding Company (Mutual) through insurance agents. Contact your local insurance agent or use our Find an Agent tool. They will guide you through the process, informing you of what documents and information are needed by the surety (Merchants Bonding Company (Mutual)) to underwrite your bond.