Construction Surety Bonds for Projects in California, Texas, Arizona and Nevada

Before a surety issues its first bond, it asks the principal to sign a general indemnity agreement, often called the GIA. The GIA typically binds the operating company, its parent or affiliated companies and the individual owners to repay the surety for any loss and expense on any bond issued for the principal. Many sureties also ask owners' spouses to sign, depending on how property is held and on state marital property rules, which matters in community property states such as California, Texas, Arizona and Nevada.

GIA forms commonly give the surety rights that surprise first-time principals: the right to demand collateral when a claim is made, even before the surety has paid anything; an assignment of contract proceeds, equipment and materials on bonded jobs if the principal defaults; the right to settle claims in its own judgment; and access to the principal's books and records. These are not unusual terms, but they vary by surety and they are negotiable at the margins for well-capitalized firms.

Treat the GIA as a financing document. Have counsel review it, confirm which entities and individuals sign, and understand whether it reaches bonds written for affiliates or joint ventures. A developer that bonds subdivision improvements through one entity and builds vertical work through another should know exactly which balance sheets stand behind each bond.

Construction bonds follow the life of a project. A bid bond comes first and backs the bidder's promise to sign the contract and furnish the required bonds if it wins. Performance and payment bonds follow at award and run through completion. Warranty or maintenance bonds may run for a set period after acceptance. Subdivision improvement bonds sit on a different track: they secure a developer's promise to a city or county to build streets, utilities and drainage tied to a final map or plat.

Each bond answers to a different obligee and a different trigger. A bid bond is usually measured as a percentage of the bid. Performance and payment bonds on public work are typically set at the full contract amount by statute. Warranty obligations may be folded into the performance bond or written separately, depending on the contract and the agency's forms.

On public work, the bond requirement comes from statute rather than from the owner's preference, because subcontractors and suppliers generally cannot record a mechanic's lien against public property. The payment bond takes the lien's place. Each jurisdiction sets its own thresholds, amounts and surety qualifications. The agency's bid documents usually restate them. Read the statute alongside the bid package, because local agencies may set requirements above the statutory floor.

The thresholds below are taken from the statute text. They describe when bonds are required on public work; they are not a recommendation for private work, where the owner, lender or contract sets the terms.

• Federal (Miller Act, 40 U.S.C. §3131): a contract of more than $100,000 for construction, alteration or repair of a federal building or public work needs a performance bond in an amount the contracting officer considers adequate and a payment bond that generally equals the total amount payable under the contract.
• California (Civil Code §9550 and §9554): a direct contractor on a public works contract involving more than $25,000 must give a payment bond before work begins, in an amount not less than 100 percent of the total amount payable, executed by an admitted surety insurer. Section 9550 does not apply to contracts with a state entity as defined in Public Contract Code §7103.
• California bid security (Public Contract Code §20129 for counties and §20170-§20171 for cities): bids are accompanied by cash, a cashier's or certified check or a bidder's bond from an admitted surety insurer; for cities the security is at least 10 percent of the bid. County contracts also require a faithful performance bond from the awarded contractor.
• Texas (Gov. Code §2253.021): a performance bond in the amount of the contract is required on a public work contract over $100,000; a payment bond in the amount of the contract is required over $25,000, or over $50,000 when the governmental entity is a municipality or a qualifying joint board.
• Arizona (A.R.S. §34-222): before a covered public contract is executed, the contractor furnishes a performance bond and a payment bond, each equal to the full contract amount and written by a surety holding an Arizona certificate of authority. A.R.S. §34-608 requires bid security on certain design-build and job-order-contracting procurements, equal to 10 percent of the agent's construction budget for design-build.

Surety underwriting is credit analysis. Underwriters often describe it as character, capacity and capital: whether the principal honors its commitments, whether it has the people and equipment to perform the work, and whether it has the financial strength to absorb a bad job. Expect the surety to ask for year-end financial statements prepared by a CPA, often at the review or audit level as bonding needs grow, along with interim statements during the year.

The work-in-progress schedule carries the most weight after the financial statements. It lists each open contract with its contract value, estimated cost, billings to date, cost to date and gross profit, and it shows whether jobs are overbilled or underbilled. Underwriters compare the WIP to prior schedules to see whether margins fade as jobs close. A schedule where gross profit consistently shrinks between the bid and completion is a warning sign, even when revenue grows.

Backlog, working capital and bank relationships complete the picture. Underwriters look at how much uncompleted work the company carries relative to its working capital and net worth, whether the bank line is available and unused, how receivables and retention are aging, and whether key people have succession plans. For civil and underground contractors, equipment financing and the condition of the fleet often enter the discussion as well.

A surety program usually has two limits. The single-job limit is the largest contract the surety will bond on its own. The aggregate limit is the total uncompleted work, bonded and often unbonded backlog alike, that the surety is willing to support at one time. A contractor can hit the aggregate before it reaches the single limit if several mid-size jobs are open at once, so the WIP schedule drives availability more than the size of any one bid.

Sureties do not publish a formula. Capacity reflects working capital, net worth, profitability history, the type and location of work, the contractor's experience with similar jobs and the strength of the indemnity behind the program. A company moving into a new state, a new project type or a contract size well above its history should expect the surety to ask about the people, subcontractors and controls that support the move.

Capacity is built in advance. Timely CPA statements, a clean WIP with explained fades, retained earnings left in the business and a bank line that is not drawn to fund operations all strengthen the surety's view. Plan the conversation before the bid, not when the bid bond is due.

Developers meet sureties most often through improvement security. A city or county approving a final map or plat may require the developer to post bonds for streets, water, sewer, storm drain and other public improvements that are not yet built. In California, the Subdivision Map Act sets the forms and amounts of that security, and in Texas, Arizona and Nevada the authority runs through municipal platting and subdivision statutes and local ordinances. The developer is the principal even when a GC builds the improvements.

Warranty or maintenance obligations extend past completion. California's improvement-security statute, for example, limits liability on the faithful performance security to items that include a one-year warranty against defective work after completion and acceptance. On construction contracts, a performance bond may carry the warranty period or the owner may ask for a separate maintenance bond. Either way, the bond stays open on the surety's books, and on the principal's capacity, until the obligation ends.

Bonds and insurance answer different questions on the same project. Builders risk and liability policies may respond to physical loss or third-party injury, depending on the form and endorsements. A performance bond responds to the principal's failure to perform the contract, which can include fixing defective work that an insurance policy may exclude. Owners often require both, and the bid documents usually list them side by side.

Coordinate them early. Contract clauses that make the contractor responsible for uninsured losses, liquidated damages or extended warranties all flow into the performance bond's exposure. A broker reviewing the contract for insurance should also flag the bond forms, the obligee wording and any dual obligee rider a lender requests on a private project.