Contractors who want to bid to work on a project can expect to be asked for a bid bond. A bid bond is a way to guarantee that the bidder or contractor will push through with the work for the price he has already stated. These are important means of security for the developer against a contractor just backing out or even increasing the cost after the project has been awarded. Such risk management tools are necessary especially when the construction project is large, like a commercial development.
There are three players involved in a bid bond. The first is the principal or the contractor who is the one to buy the bid bond along with submitting the bid for the project. The obligee, on the other hand, is the developer who is asking for the bond. Lastly, the surety is the bank or underwriter who issues the bond, guaranteeing the principal’s capability to push through with the work for the bid amount if the contract is awarded to them.
In the past, some contractors have tried submitting lower bids than others just to win the project and then either fail to complete it or raise the price immediately after the contract has been awarded to them. A bid bond then shows the developer that the contractor can submit a performance bond if they win the contract. It also indicates that the bids are all serious. And should the contractor back out or fail to finish the project, the developer can get back the bond equivalent to the price difference between the lowest and the second lowest bid.
The bid bond cost itself is not high, with prices ranging from free to about $350. However, the bond has to cover a specific percentage of the estimated amount of the contract, normally at 5 to 10%. This means if you are bidding on a project with an estimated cost of $250,000 and the bid bond has to be 10%, then the bond amount has to cover $25,000.
Contractors only lose the amount of their bid bond in certain circumstances. If they withdraw the bid before the bidding process is actually opened, then they will get this bond back. However, if they do back out after the contract has been awarded to them, then they will lose it. So long as the bidding has not ended and the contract has not been given to the contractor, they are able to receive this money again.
Because of the big amount of coverage required in a bid bond, especially for huge construction projects, underwriters or banks require specific paperwork for contractors applying for a bid bond. For smaller projects, they only need the bid amount, the date of the bid, any previous bids, the company’s history and personal credit score.
For bigger projects, usually more than $250k or $350k, depending on the bank or the underwriter, more documents are required. While the smaller projects only require the contractor’s personal credit score, bigger bid bonds will require the construction company to submit their financial records and proof of their experience in the construction industry. These are required for the issuer of the bid bond to see if the company is capable of handling a much bigger project. After all, the point is to minimize the risk of contractors backing out or failing to finish the project.
If the project is for a commercial development and a deeper review of the contractor’s financial and technical capabilities are in question, then the support of a CPA might be helpful. Such a professional can help the contractor prepare his bid, including all the job costs like materials, subcontractors, labor, overhead and their profit. When projects are bigger, there are a lot more cost items to add up and the risk of submitting a very low bid becomes higher. To eliminate this, a construction bid software might also be of great help in estimating the cost of the contract as accurately as possible to eliminate the risk of very low bids that will be unprofitable for the contractor.
In most construction projects, many issues and even delays can be expected, especially when the project is much bigger. Developers simply want to lessen their headaches and only employ contractors that are serious and capable of seeing the project through. This is the important role bid bonds play in protecting every party.