Don’t Just Review Your Contract - Bonds Matter as Well!

A failure to review your bond form can cost you thousands. Watch out for this onerous language during your contract and bond review.
July 16, 2021

As business opportunities start to surface along with the easing of the pandemic, now is a good time to remember that no contract review is truly complete without a thorough review of any bond forms required by your contract.

In the heat of contract negotiations, it is easy to focus on the term of the contract first, following the logic that a reasonably fair contract will then be succeeded by a reasonably fair bond form. That can be a dangerous assumption to make. As with a contract review, an examination of the attendant bond form should be considered with this question in mind, “what would this mean for my company if my surety had to perform?”

Thus, the review of a bonded contract becomes a consideration of not only contract terms, but the terms of the bond by which both your surety company and your company must follow.

Why Should I Worry?

Construction companies that have not experienced a difficult project may not be aware that sureties can be called upon for a myriad of reasons, even if their client hasn’t experienced financial difficulties. For example, sureties may be called to intercede when there is an unsolved dispute over scope, or they may be asked to step in temporarily.

Whatever the reason, under the basic tenants of the surety’s indemnity agreement, the surety mandates the repayment of their claims and their associated expenses by their construction client.

Simply put, if you are legally obligated to “repay” surety paid claims and expenses, an unfair bond form may ultimately cost you more money.

The bond form needs to be reviewed as carefully as the contract.

Examples of Language That Should Cause Concern

  1. Some of the most onerous language to a surety starts with unreasonable response times, and these are becoming more and more commonplace. For example, if your surety is required by a bond form to offer a solution to cure a default in 72 hours, you can count on the fact that the surety will almost immediately need to call in outside experts to assist with meeting that deadline in an effort to comply with the bond requirements they issued.

    The fees associated with such experts can be expensive.

    What would happen if your surety received such a notice at 3:00 p.m. on a Friday? As you and your legal counsel review bond forms, those types of questions need to be considered.

  2. Another example of a bad agreement is when your bond form calls for “consequential damages” as part of the covered damages of a bond. Consequential damages can be very expensive to discharge due to their potential for claims of lost profit, loss of use and more.

    The same can be true for all damages, so it’s important to understand both the damage clauses in the contract and in the bond form. There are bond forms that require sureties to pay treble damages despite the fact that the contract itself does not require the same of the construction firm. This is a clear example where a contract review might indicate a reasonable, fair damages clause, but the bond itself requires excessive damages from the surety, which will look to their construction client to repay. In general, most sureties will advise their clients that a mutual waiver of consequential damages with a stated, per-day damage clause is optimal.

  3. It also pays to be leery of some of the language that you may find in a subcontract bond form. Some bond forms allow the prime contractor to proceed with taking over the work without the involvement of the surety, then demands repayment of a prime contractor’s expenses.

    Some forms go so far as to require that the prime contractor be repaid those expenses before the traditional claimants of subcontractors and suppliers are satisfied under the payment bond. Payment bonds are meant strictly to ensure that people supplying labor and materials to the job are paid sums that they are rightfully entitled to for executing the work.
  4. Bond language that unilaterally waives notification to the surety of changes to the scope, term and amount of the bond is also problematic. In a good surety relationship, the surety agents and underwriting companies are looking to partner with their construction clients to advise them on how much surety credit they qualify for and under what terms. Bond language that can then alter these terms with no input can cause a myriad of problems.

    Again, would you want to guarantee a contract that can change significantly without your knowledge?

These are just some of the various onerous terms one might find in their performance and payment bonds. A good construction attorney can guide you through the various ramifications of the language of your bonds if given the chance to do so.

In doubt about the pitfalls of signing an onerous form? Keep in mind, if the surety spends funds to satisfy the bonds obligations, they will be presenting those to you for reimbursement, so a thoughtful review is not just in the surety’s interest, it’s in yours as well.

Learn more about PHLY's surety solutions

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