The surety bond industry has been through tremendous changes since the turn of the millennium. The “soft market” came to an end and bond agents throughout the country had a lot of work ahead of them. Agents were forced to find new markets for accounts that were dropped by their bonding companies. Unfortunately, this was easier said than done for many commercial bond accounts with credit issues. A principal with bad credit could not be bonded without extensive collateral requirements. Eventually, the supply and demand of our capitalist economy brought about Bad Credit Surety Bond Programs.
Standard Bond Programs vs. High Risk Bond Programs:
Traditional surety bond underwriting strives to have a 0% loss ratio. In other words, they only write bonds when there is slim to no chance of a claim. Bad Credit Surety Bond Programs are quite different than traditional surety and are underwritten more similar to insurance. Rather than attempting to underwrite with a 0% loss ratio, higher risk accounts are approved at a higher rate. The premiums actually have the claims built into them, as they are written for accounts in which claims are more likely.
Some Bad Credit Surety Bond Programs also require collateral. However, the bonding companies are trying to get away from the collateral requirement, as it creates unnecessary additional paperwork. To replace the collateral requirement, the bonding companies raise the premium even higher. At times this works to the advantage of the principal, other times it works against them. Programs with no collateral requirement need less money put up for the first year. However, programs that require collateral cost less in the end, as the collateral is returned within about 1 year of release of the bond.
Many bond agencies will neglect to tell the principal that there are alternatives to surety bonds. At JW Bond Consultants, we believe in giving the client the best advice, even if it means we do not write their business. This ideology has brought those same clients back to us when a bond is in their best interests. Many obligees will accept an Irrevocable Letter of Credit (ILOC) rather than a bond. This is a better option for those that have liquid assets they can have tied up. This means a $50,000 bond can be replaced having a bank freeze $50,000 cash in exchange for an ILOC. Banks typically charge a 1% service fee for an ILOC, much cheaper than a high risk surety bond. Obviously, not everyone has enough liquid cash to obtain an ILOC and that is where the high risk program is better alternative. To decide what is best for you, simply compare the cost differences between the bond and the ILOC. If the additional cost for the bond is worth having increased liquidity then the bond is a better choice. If cost over time is more important to you than liquidity then an ILOC is a better choice. Just be sure to keep in mind that one can easily obtain 4% in a money market right now. Therefore, an ILOC really costs approximately 5% annually. Read “Saving Money Using Surety bonds” to learn how to compare the two in greater detail.
The Future of Bad Credit Bond Programs:
The original company to offer a high risk option, “Capitol Indemnity Corporation”, has been successfully running the program for over 3 years. Capitol’s success has inspired other bonding companies to offer high risk programs. In fact, the amount of bonding companies willing to write high risk commercial bonds is increasing every year. The costs between the competing companies are similar. However, as more sureties offer high risk bond programs, we may see lower rates in the years to come. While the number of bonding companies that write high risk applicants every year, they are still in the minority when it comes to the rest of the industry.
The end of the “soft market” left many looking to obtain surety bonding high and dry. Capitol Indemnity picked up many of the commercial bond accounts that would of had to otherwise post a letter of credit. High risk programs are more expensive, as losses are built into the premium. The high premium costs of high risk programs may drop in years to come as more bonding companies write this market segment. Often, there are alternatives to posting a surety bond, which many agents neglect to mention. High risk markets will remain available for as long as the bonding companies loss ratio is low enough for them to turn a profit.