If you're planning to start a small business, you may not be aware of some of the requirements involved in business operations. Many small companies are required to have a surety bond to either conduct business or to meet the requirements of a contract. Here are a few questions and answers about surety bonds to help you understand them better:

What does a surety bond do?

A surety bond establishes a financial agreement between three legal parties. The first party is the principal. This is usually the owner of the small business. He or she may require a bond because of a specific contract or as a state requirement. The second party in a surety bond agreement is the oblige, which is the party or individual who is requiring that a security bond be established.

The final party in a surety bond agreement is the surety, which is the company responsible for issuing the surety bond in return for a premium.

How does a business owner obtain a surety bond?

To purchase a surety bond, a business owner should consult insurance companies and specialized surety companies that offer the bonds. The cost of the premium is dependent on the risk involved in the agreement. Thus, a riskier bond will have a higher premium. The applicants should expect their credit history, experience, work performance, financial assets and overall business to be reviewed prior to an approval.

What happens if a claim is submitted on a security bond?

Also, although a security bond does not actually insure anything, it does act as a way of guaranteeing the financial interests of the parties involved. Instead of viewing a security bond as insurance, it should be considered as a type of credit.

Regardless of what a surety bond guarantees, it is in place to protect the bond parties from losing money. If a claim is submitted on a surety bond, the surety provider will either ensure that the contract in question moves forward as agreed or it will reimburse the principal party.

Which types of businesses typically need a surety bond?

Security bonds are frequently used in construction activities. However, there are many different types of businesses that use security bonds. For instance, automotive dealerships, mortgage brokers  and medical supply companies all use security bonds. Because the bonds help provide protection for investments, they are often critical for a business venture.

If you need a security bond to meet a state requirement or a contractual obligation, schedule an appointment with a bonding company such as NFP, P & C, Inc.