In today’s lending environment, with credit easy to obtain and often inexpensive many contractors are tempted to choose to secure jobs with Letters of Credit over Surety Bonds. On the surface, this may seem like a sound business strategy, but dig a little deeper and you will discover there may be money and opportunity lost with this approach.
The Surety Information Office provides advice to contractors concerning all aspects of construction bonding. The SIO encourages contractors to consider the following information when determining Letter of Credit or Surety Bond.
Impact on Future Business: Every time a job is secured with cash obtained using a letter of credit, you are decreasing your borrowing capacity. Capacity you may need for expenses like materials and labor- on this job or future projects. By using surety bonds for Bid, Performance and Payment you are keeping your borrowing capacity free should it be needed. As a result, you have the ability to bid and complete more projects year after year.
Costs: Many time a contractor thinks borrowing is less costly. With surety the bond premium is between 0.5% and 2% for owners with good credit. Also a bond covers a specific project. Once paid, that fee covers the duration of the contract based on the terms and condition of the bond. When using a letter of credit, the loan is based on the length of time borrowed not on the project. Renewal is required, often automatic renewal. In the end borrowing can easily result in greater costs.
Collateral: When borrowing you must put up an asset for collateral. The bond underwriting process is based on the principal’s character (including credit score), capacity to perform a project, capital (financial strength) and the details specific to the project needing the bond. A surety bond underwriter considers several factors before (and as a last resort) requiring collateral.
Claims: There is also security in Surety Bonds since the bond is a three-party agreement. There is an investigation process should a surety bond owner claim a default situation. The third party provides a buffer to keep an owner from sudden action. A letter of credit can be called on demand, even if there is a loan term limit. Unlike a bond, a cause doesn’t have to be declared or proven. Using a surety bond and completing a job within the parameters of the bond protects your company’s cash flow and bottom line.
Don’t let your borrowing practices impact the job site, instead secure your projects with a Surety Bond and free up your borrowing capacity and your cash flow. Contact us at Surety Support Services. We can answer your questions and get the bonding process started today.
