Home » Surety Bonds vs Bank Guarantees: Understanding the pros & cons

Surety Bonds vs Bank Guarantees: Understanding the pros & cons

Posted by Simon Forsterling | 18 September 2020 | Construction & Infrastructure

COVID is having a significant braking effect on the economy and construction contractors are not immune. 

Depending on jurisdiction, contractors may already have been hit by recent changes to Security of Payment legislation – effectively preventing use of subcontractor retention as working capital.

Many contractors are looking at options to free working capital to help see them through COVID, and to take advantage of opportunities that will inevitably arise what goes here.

Contracting businesses might typically provide bank guarantees as security, but this can tie up substantial amounts of working capital.

Are surety bonds any different? And what are the pros and cons of using them?


Security provided on the basis of assets not just cash

A significant difference between bank guarantees and surety bonds is that a bank will require cash in the bank to issue a bank guarantee, whereas insurance companies do not require cash to be held to issue surety bonds.

Instead, insurance companies can issue bonds on the basis of other assets as well. This means that a clear benefit of providing surety bonds rather than bank guarantees is the freeing up of working capital.

Surety bonds can be substituted for bank guarantees

If a contractor has already provided bank guarantees as security for a job, clients may be willing to exchange them for surety bonds, and certainly for future projects, contractors can consider providing surety bonds instead of bank guarantees.

Surety bonds may not be available to all contractors

The assets and financial records of an organisation will, to a large degree, determine the value of insurance bonds that an insurance company is willing to provide.

This means that surety bonds may not be available to smaller organisations with limited assets or new companies without a solid financial record. The market is constantly evolving however, so contractors considering insurance bonds would be well advised to maintain contact with providers.

Pricing for both bank guarantees and surety bonds can vary

Factors influencing price of surety bonds and bank guarantees may vary, including the market, the institution providing the bank guarantee or bond, and the nature of commercial relationships involved.

An aura of uncertainty exists around whether surety bonds really are ‘as good as’ bank guarantees

Some of the key points frequently raised to dispel uncertainty include:

  • Contracts may set out required wording for security to be unconditional, and the wording on a surety bond can be exactly the same unconditional wording as on a bank guarantee.
  • Often the credit rating of the insurance company issuing the surety bond will be just as good if not better than the credit rating of the banks issuing the bank guarantee.
  • Surety bond providers will usually be able to provide a list of organisations that routinely accept surety bonds, which can help demonstrate general industry acceptance of surety bonds.

 

For more information about we can help you get the right security in place for your project,
please contact Nexus Law Group on construction@nexuslawyers.com.au

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