When and Why Should I Purchase Bond Insurance

When a business is said to be “bonded,” it means that the company has obtained a surety bond. A surety bond is a financial guarantee that protects the customer from losses incurred as a result of the business’s poor performance.

So when would your business need bond insurance, and why exactly should you purchase it? Keep reading to learn this and more.

What Is Bond Insurance?

Bond insurance protects investors from the risk of a bond issuer defaulting on interest or principal payments. Instead, the bond issuer purchases the insurance policy, and the premium is paid out of the bond sale proceeds.

Bond insurance was originally designed to protect investors in case of a corporate default. However, the coverage has since expanded to include other types of bonds, such as municipal bonds and asset-backed securities.

Investors often view bonds with insurance as being less risky than bonds without insurance because they know that if the issuer defaults, they will still receive their interest and principal payments. This can make it easier for issuers to sell their bonds, as investors are more likely to purchase them.

A few different bond insurance policies are available, which can confuse business owners. In addition, each bond insurance policy comes with its own set of benefits and drawbacks.

The Most Common Types Of Bond Insurance

Credit Enhancement Bonds

Credit enhancement involves adding a third party to the bond agreement, which agrees to make payments in the event of a default. The most common type of credit enhancement is a letter of credit, which a bank provides.

Credit enhancement works by transferring the credit risk associated with a bond from the issuer to the insurer. This type of policy can help lower the interest rates on the bond and make it more attractive to potential investors.

Surety Bonds

Another type of bond insurance is known as suretyship. This type of policy protects the bondholder from loss if the issuer defaults on its obligations.

A surety bond is a three-party agreement between the obligee, the principal, and the surety (the insurance company). The surety agrees to pay the obligee if the principal cannot meet their obligations.

Suretyship policies can be primary or secondary. Primary suretyship policies provide protection in case of a default, while secondary suretyship policies only come into effect if the primary insurer cannot meet its obligations.

Financial Guarantee Bonds

A financial guarantee bond is a three-party agreement between the obligee, the principal, and the insurer. The insurer agrees to pay the obligee if the principal defaults on a loan or contract.

Financial guarantee insurance is purchased from an insurance company and pays out in the event of a default. Financial guarantee insurance is more expensive than credit enhancement, but it provides greater protection for investors.

Fidelity Bonds

A fidelity bond is a two-party agreement between the principal and the insurer. For example, the insurer agrees to pay the principal if an employee causes financial loss because of theft or dishonesty.

Who Needs Bond Insurance?

Most businesses need a bond, whether it’s for a construction project or to get licensed and insured. There are three primary types of commercial bonds:

  • License and permit bonds
  • Contract bonds
  • Court bonds

Each type of bond has a specific purpose, but they all essentially work to protect the obligee—the entity that requires the bond—from financial loss if the principal (the person or company who purchases the bond) cannot uphold their obligations.

When To Purchase Bond Insurance?

Most businesses will need to purchase bond insurance at some point, however it’s important to note that not all businesses are required to have bond insurance. Whether you need it will depend on your industry and the laws in your state. However, even if bond insurance isn’t required, there are still many benefits to having it.

Some of the most common reasons businesses purchase bond insurance include the following.

To Get Licensed and Insured

In many industries, you need to be both licensed and insured before you can legally operate. Therefore, bond insurance is often required as part of the licensing process.

To Protect Against Financial Loss

If you’re working on a project with high risk, bond insurance can protect you from financial loss if something goes wrong.

To Attract New Customers

Having bond insurance can make your business more attractive to potential customers in some industries.

To Improve Your Business’ Reputation

Having bond insurance shows that you’re a responsible business owner who takes precautions to protect yourself and your customers.

Purchasing Bond Insurance

If you’re considering purchasing bond insurance and would like to learn more, your best option is to work with a reputable insurance agency. Keller Insurance Services is adept at securing bond insurance policies for businesses, and would be happy to do so for your business.

To learn more about being bonded and insured, visit this blog post.