Performance Bond

A performance bond is a type of surety bond that guarantees a contractor will complete a project according to the terms of the contract. It serves as a financial protection tool for the project owner (also called the obligee) in case the contractor (principal) fails to meet their obligations.

This bond is part of a three-party agreement:

• Principal – the contractor hired to perform the work
• Obligee – the project owner who requires the bond
• Surety – the bond provider that guarantees the contractor’s performance
   

If the contractor defaults—such as abandoning the job, failing to meet specifications, or missing deadlines—the project owner can file a claim. If the claim is valid, the surety may pay for the losses, complete the project, or arrange for a new contractor. The contractor must then reimburse the surety for any amounts paid out.

Performance bonds are most common in the construction industry but are also used in real estate development, service contracts, and government procurement. Whether required by law or contract, they provide critical assurance that projects will be completed properly and on time.

A performance bond functions as a financial guarantee that the contractor will fulfill their contractual obligations. If they fail to do so, the project owner has the right to file a claim with the surety company backing the bond.

When a claim is filed, the surety investigates whether the contractor defaulted and if the claim is valid. If so, the surety typically chooses one of three options:

• Pay the project owner for the financial losses, up to the bond amount
• Hire a replacement contractor to finish the project
• Provide financial or logistical support to help the original contractor complete the job
   

After resolving the claim, the surety seeks reimbursement from the contractor. This structure ensures the project continues while holding the contractor accountable.

Performance bond claims usually involve failure to meet deadlines, abandonment of work, substandard results, or other breaches of contract. In many cases, early communication with the surety can help prevent a claim altogether. Proactive contractors often work with the surety to find solutions before a default occurs.

Performance bonds are commonly required across a wide range of industries and project types, particularly where project failure or delay could result in significant financial loss.

Construction and Real Estate Development

Most performance bonds are issued in the construction industry. They’re used to ensure that contractors complete work according to plans, timelines, and budgets. Project owners—whether public agencies or private developers—often require them for:

• Public infrastructure and transportation projects
• Commercial and residential developments
• Renovations and tenant improvements
   

Government Projects

Federal, state, and municipal governments mandate performance bonds for public works contracts. This is enforced through:

• The Miller Act for federal projects over $100,000
• “Little Miller Acts” for state and local contracts
   

These laws ensure taxpayer-funded projects are completed responsibly.

Private Sector Jobs

Private developers and lenders often require bonded contractors to protect their investments. Performance bonds may also be required by:

• Banks financing large builds
• General contractors hiring subcontractors
• Commercial tenants building out leased spaces
   

Specialized Industries

While less common, performance bonds are also used outside of construction. Examples include:

• Janitorial and facility services – to guarantee quality and fulfillment of long-term service contracts
• IT and technology services – to ensure completion of complex implementations
• Energy and utility projects – especially those involving public-private partnerships
   

In short, any party concerned about non-performance—especially where large sums are at stake—may require a performance bond.

Performance bonds are most commonly required when a project owner — public or private — wants to reduce the risk of contractor default. They’re particularly standard in the construction industry, but also appear in other industries where project completion and contractual performance are critical.

Public Projects

On federal projects over $100,000, performance bonds are mandated by the Miller Act. These requirements are mirrored at the state level by so-called “Little Miller Acts,” which apply similar rules to state-funded construction work. In both cases, performance bonds are used to protect taxpayer dollars by guaranteeing that contractors deliver what they promise.

Private Projects

While not always legally required, many private developers and lenders still demand performance bonds—especially on high-value or high-risk jobs. These bonds offer peace of mind by ensuring the contractor will complete the work or face financial consequences.

Lender Requirements

When a project is financed by a third-party lender, performance bonds are often part of the loan conditions. They serve as added security to protect the lender’s investment and ensure smooth project completion.

Subcontractor Use

In some cases, general contractors may require performance bonds from key subcontractors. This is particularly common when the subcontractor is responsible for a major portion of the project scope or working on a critical timeline.

The cost of a performance bond is typically calculated as a percentage of the total bond amount — also known as the penal sum. For most contractors, this rate falls between 1% and 3%.

Typical Cost Breakdown

• For a $100,000 bond, a 1% premium would cost $1,000.
• Higher-risk applicants may pay up to 10%, depending on financial profile and project details.
   

Factors That Affect Performance Bond Pricing

Sureties determine your bond premium based on several key factors:

• Credit score: Personal and business credit history plays a major role.
• Financial strength: Working capital, net worth, and cash flow all impact rates.
• Bond amount: Larger bonds involve greater risk and often more scrutiny.
• Project scope: More complex or higher-risk projects may result in higher rates.
• Bonding history: A strong track record with no past claims helps reduce premiums.
   

Additional Costs to Consider

• Some sureties may charge processing or credit report fees.
• Working with a broker could involve service fees, although many include this in the quoted premium.
   

Fixed Rates for Small Bonds

For smaller projects, some sureties offer flat-fee performance bonds (e.g., $250 for bonds under $50,000), making them more accessible for small contractors.

Securing a performance bond involves more than just filling out an application — it’s a financial evaluation process. Sureties assess the risk of backing a contractor, and strong financials and experience go a long way in getting approved.

1. Work with a Surety Bond Broker

Partnering with a specialized bond broker like Lance Surety Bonds can streamline the process. A broker will help you complete the application, gather the right documentation, and match you with a qualified surety company.

2. Complete the Bond Application

You’ll need to provide key details about your business and the project, including:

• Business name, ownership structure, and contact info
• Project scope and contract amount
• Required bond type and amount
   

3. Submit Financial Documents

Sureties evaluate your financial health to determine if you’re bondable. Be prepared to submit:

• CPA-prepared business financial statements
• Personal financial statements
• Work-in-progress reports
• Bank and supplier references
   

4. Undergo Underwriting Review

The surety underwriter will assess your credit score, experience with similar projects, financial capacity, and any past bond history. For larger bonds (typically over $250,000), the review process may be more in-depth.

5. Receive Your Bond Quote

If approved, you’ll receive a quote based on a percentage of the bond amount (called the premium). Well-qualified contractors may pay 1–3% of the bond total.

6. Sign the Indemnity Agreement

Before the bond is issued, you must sign an indemnity agreement holding you personally and professionally liable for any valid claims paid out by the surety.

7. File the Bond with the Obligee

Once everything is complete, the bond will be issued and sent to the project owner or public agency requiring it.

Performance bonds are part of a broader category of construction and contract bonds. They are often issued alongside other bonds to provide comprehensive protection throughout a project's lifecycle.

Payment Bonds

Payment bonds ensure that subcontractors, suppliers, and laborers are compensated for their work and materials. While performance bonds guarantee project completion, payment bonds guarantee payment to those contributing to the project. These bonds are commonly required on public projects and are often issued together with performance bonds.

Bid Bonds

Bid bonds are submitted during the bidding process and guarantee that the contractor will enter into the contract and provide the required performance and payment bonds if awarded the job. They help project owners eliminate unqualified or unserious bidders.

Contractor License Bonds

Contractor license bonds are required in some states as part of the licensing process. They serve as a general guarantee that the contractor will comply with applicable laws and licensing requirements, separate from specific project obligations.

Why It Matters

In many public and large private projects, all three types of contract bonds—bid, performance, and payment—are issued by the same surety. This continuity ensures that the surety has a vested interest in properly vetting the contractor before issuing the bonds, reducing risk for the project owner.

Performance bonds typically remain in effect for the full duration of the construction contract they support—but the specific timeline and renewal terms can vary by project.

Standard Duration

Most performance bonds are written to align with the length of the construction contract, including any built-in grace periods. Common durations include:

• 12-month term: Standard for smaller or routine construction projects.
• 36-month term or longer: Used for large-scale or multi-phase developments.
   

The bond’s obligation ends once the contractor has fulfilled all terms of the contract, including final inspections or closeout items.

Renewal Provisions

Performance bonds are generally non-renewable in the traditional sense. However, if a project is delayed or the contract is extended, the obligee may require:

• A bond extension, or
• A new performance bond to cover the additional time and scope.
   

In these cases, contractors may need to provide updated financials and undergo a fresh underwriting process.

Modifications and Contract Changes

If the contract terms change significantly—such as increases in scope or budget—the surety may need to issue a rider or amendment to adjust the bond amount or duration accordingly.

Settling Claims Post-Expiration

Even after the bond term ends, claims may still be filed as long as they pertain to breaches that occurred during the contract period. Some bonds include a maintenance or warranty clause that covers work quality after project completion.

Understanding these timelines helps both contractors and project owners plan for contingencies and avoid lapses in coverage.

Understanding how performance bonds work in practice can help project owners and contractors prepare for challenges and avoid costly mistakes. Below are sample scenarios that illustrate how performance bonds are triggered and resolved.

Example 1: Contractor Default on a Public Project

A general contractor was awarded a $1.5 million municipal project to build a new public library. Halfway through the build, the contractor ran into financial trouble and stopped work. The city, as the obligee, filed a claim against the contractor’s performance bond.

The surety investigated and confirmed the contractor’s default. It arranged for a new contractor to complete the project, using the remaining contract balance and the bond amount to cover additional costs. The original contractor was then responsible for reimbursing the surety.

Example 2: Delays and Deficient Work

A developer hired a bonded contractor to construct a retail center. Although the contractor completed the job, it was delivered two months late and failed several quality inspections. The obligee filed a claim citing failure to meet performance specifications.

The surety determined that the work did not meet contractual standards. It paid the project owner to cover rework and delay penalties—then pursued reimbursement from the original contractor under the terms of the indemnity agreement.

Example 3: Subcontractor-Focused Bond Use

A large general contractor required all subcontractors on a federal job to obtain individual performance bonds. When one subcontractor failed to meet safety requirements and walked off the job, the GC filed a claim. The surety brought in a replacement subcontractor, ensuring the larger project continued on schedule.

These examples show how performance bonds protect projects, preserve timelines, and ensure financial accountability when contractors fall short.

Can you get a performance bond with bad credit?

Yes, it’s possible—but more difficult. Most sureties place a strong emphasis on the contractor’s personal and business credit when underwriting performance bonds. If your credit score is low, you may still qualify if you have strong financials, relevant project experience, and no prior bond claims. Expect to pay a higher premium due to the perceived risk.

Do you need both a payment and performance bond?

In most cases, yes. Especially for public works contracts and many large private projects, performance bonds are issued in tandem with payment bonds. While a performance bond protects the project owner, a payment bond protects subcontractors and suppliers by guaranteeing they’ll be paid.

How long does a performance bond last?

A performance bond generally lasts the duration of the contract it covers. Some may have renewal provisions if the contract is extended, while others expire at project completion. Always review the bond language and check with the surety to confirm duration.

How do performance bond claims work?

If a project owner believes the contractor has defaulted or failed to meet contract terms, they can file a claim with the surety. The surety investigates, and if the claim is valid, it will either finance project completion, hire a replacement contractor, or compensate the owner—up to the bond amount. The contractor is then responsible for reimbursing the surety.

Are performance bonds required by law?

For federal construction contracts over $100,000, yes—the Miller Act mandates performance and payment bonds. Many states have similar “Little Miller Acts” for state-funded projects. Private project owners may also require them at their discretion.