UPDATED: Aug 5, 2013
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When it comes to insurance, business owners typically have a lot of questions. Purchasing surety bond insurance is no exception. To help eliminate the mystery surrounding these little understood insurance products, this article will answer three questions business owners often have about surety bonds in California.
1. How does surety bond insurance work?
Surety bond insurance does not work the same way as do traditional policies. Whereas traditional insurance policies involve two parties — the insurance company and the policy holder — surety bond insurance actually involves three parties.
- The obligee is the government agency or other entity that requires the bond as a way to protect against financial loss.
- The principal is the business or working professional that purchases the bond as a financial guarantee of future work performance.
- The surety is the insurance company that issues the bond, thereby financially guaranteeing that the principal will fulfill the bond’s terms.
When insurance companies write traditional policies, they use formulas to ensure they’ll have the funding to pay for claims. However, when insurance companies write surety bond contracts, they do not anticipate paying out any claims. Because underwriters want to avoid the possibility of any claims, they are usually pretty stringent when reviewing surety bond applicants.
If a claim is made against a bond, the underwriter enforces the bond’s indemnification clause, which requires the bond holder to reimburse the insurance company for losses. As such, surety bonds actually function more as lines of credit than insurance policies.
2. Who needs surety bond insurance?
A wide array of working professionals have to purchase surety bonds before they work in certain industries. The following are just a few professions that generally require individuals to purchase surety bond insurance before they can be licensed to work in.
- auto dealers
- dance studios
- driving schools
- insurance adjusters
- mortgage brokers
- professional fundraisers
If you’re planning to start a business, you can find out whether you need a surety bond by contacting whatever government agency is in charge of licensing your profession. If you’ve been in business for a few years and haven’t had to purchase surety bond insurance before, you won’t need one unless the new law that requires your profession to be bonded is enacted.
3. How do you buy surety bond insurance?
With the advent of e-commerce, surety bond insurance is easier to buy than ever before. You can simply search for a surety bond company online. After you apply for the bond — which is typically done via fax, e-mail or phone — you should get a price quote back within one business day.
After you approve the rate, your surety company will execute the bond. After you receive the physical copy of the bond, you should always verify that all of the information is 100% accurate. Otherwise the government agency won’t accept it as a valid contract. Then file the bond with the obligee that’s requiring the bond.
Since they work differently than traditional insurance policies and are used for different purposes, surety bonds can trip up business owners. But with a basic understanding of how surety bonds work and how to get them, business owners will be better prepared to get one whenever the situation arises.