What Does Bonded Mean? Definition and How It Works
If a company has obtained a surety bond, it is bonded. Many routine commercial operations, such as applying for a license, bidding on a job, or signing a building contract, may necessitate the use of bonds. Companies buy bonds to compete for jobs, to compete with other firms, and to develop a reputation for trustworthiness.
What Is a Surety Bond?
A surety bond is a guarantee to take liability for the debt or failure to perform an obligation of someone else. The principal, surety, and obligee are the three parties involved in a bond. To safeguard the obligee, the principal purchases the bond from a surety.
The bond is typically required by the obligee as a condition of gaining a job, acquiring a license, or signing a contract. If the principal fails to meet its obligations, leading the obligee to lose money, the surety firm will make up the difference.
Here's an illustration of how a surety bond might work. Assume one corporation hired a construction company to renovate a building that it owns. A payment bond would be purchased from a surety company by the construction business to ensure that all suppliers and subcontractors hired for the project get paid.
The construction company completes the work but fails to pay a subcontractor $20,000 owed. As a result, the surety firm pays the subcontractor $20,000 in total. The construction company must then reimburse the surety company for the $20,000 given to the subcontractor.
Bonded vs. Insured
A company is "bonded and insured" if it has both a surety bond and proper business insurance, such as liability or workers' compensation insurance. While insurance companies sell both bonds and insurance policies, they are not the same thing. Here are some of the significant differences between them.
 | Surety Bond | Insurance |
Source | Surety (insurer licensed to sell surety bonds) | Insurance company |
Purpose | Protects the obligee from the principal’s failure to perform | Protects the insured from claims by third parties |
Number of Parties | Three: principal, obligee, and surety | Two: insured and insurer |
Reason for Purchase | Required by the obligee as a condition of signing a contract | May be purchased voluntarily or to satisfy the terms of a contract |
Duty to Reimburse Insurer | Principal must reimburse surety for payments to the obligee | Insured need not reimburse the insurer for claim payments |
Expectation of Losses | Surety expects no losses | Insurer expects losses and factors them into its rates |
Claim Process | Obligee sends a claim directly to the surety | Claimant sends claim to the policyholder, who forwards it to the insurer. |
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Types of Bonds in Business
In business, various forms of bonds are utilized. Here are a few examples of the most prevalent.Â
- Bonds for licenses and permits: Some state and local governments require firms to purchase a bond before applying for certain licenses or permits. Businesses looking for a car dealership license, for example, may be required to purchase an auto dealer bond before submitting their application.
- Construction bonds: Also called contract bonds, construction bonds are used in the construction industry. Payment bonds and bid bonds are two examples of bonds that safeguard project owners if a bidding contractor is awarded a work but fails to sign a contract.
- Court bonds: If your company is involved in litigation as a plaintiff or a defendant, it may require a court bond. If you want to dispute a court verdict against your company, for example, you'll need to purchase an appeal bond. If you lose the appeal, the bond guarantees that the plaintiff will receive the sum specified in the initial verdict.
How To Get Bonded
A bond can be purchased from a licensed surety or through an agent, broker, or internet insurance marketplace. If you are having difficulty obtaining a bond granted, you can apply for the Small Business Administration's Bond Program. To allow more small businesses to qualify, the SBA guarantees bonds for surety companies.
The Bottom Line
To meet the criteria of a work, many businesses become bonded and insured. Being bonded and insured can also help businesses compete and develop trust with consumers and the general public.
Surety bonds are not the same as insurance policies in many aspects. Bonds, for example, include three parties, but insurance policies only involve two. Insurance plans cover policyholders, whereas bonds protect the obligee rather than the buyer.