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What is a Construction Guarantee?

Construction Guarantee Bond

performance bond application

A construction guarantee is an agreement that provides assurance that the construction project will be finished timely and according to the specifications within the contract. The construction guarantee can be done in several different ways.

One way is to have the construction company guarantee its own work. This is a first party guaranty. A first party guarantee is good in that the company is providing more than just contractual assurance, but also additional good faith and good works assurance that they will perform. What this does is allow the owner some peace of mind that the company will not simply look for loopholes in the contract, but the implied understandings between the parties will also be enforceable.

Another way is to have the construction company get a guarantee from its owner. This guarantee adds an additional element in that there is some “skin in the game” with regard to the project. When this occurs, the owner has an incentive to make sure that the company pays attention to the contract terms and also makes certain that the owner is left satisfied with the work.

Another good way is for the company to get a performance bond. A performance and payment bond is a three way contract instead of a simply guarantee. What happens is that the construction company looks for a third party to provide surety. This third party is typically a large insurance company, like AIG. AIG would then provide this surety through the performance bond to the owner of the property. If the contractor would default under the terms of the construction contract, then the owner would first look to the surety for remedy. The surety could then find another company to finish the job, or fix the job, according to the original contractual terms. Alternatively, the surety could pay the owner financial compensation as damages for the poor work. Then, the surety would look to the construction company for indemnification on this payment.

In Federal Government work, a performance bond is required pursuant to the terms of the Miller Act. State and local governments have passed rules, known as little miller acts, that require performance and payment bonds at the state and local level.