Entrepreneurs have a lot on their plate as they prepare to start up a new enterprise. To help stay organized, it can be helpful to run through a checklist of essential tasks that must be completed before a business can open. Considerations vary widely, from where exactly to set up shop to which bank to trust with the company's finances.
All too often there's one important consideration that gets overlooked - the need for surety bonds. These risk mitigation tools are usually required by government agencies looking to protect the best interests of consumers. Some bonds, however, work to protect business owners, which can be especially beneficial for small business owners.

So what is a surety bond, anyway?

At its core, a surety bond is a legally binding contract that financially guarantees the performance of an individual or a business. Each surety bond that's executed binds three entities together.
  • The principal is the professional or business that purchases the bond to guarantee the quality of work to be done in the future.
  • The obligee is the entity that requires certain professionals and businesses to get bonded. Obligees are usually government agencies working to regulate an industry.
  • The surety is the company that sells the bond to the principal, thus providing a financial guarantee that the professional or business will follow all necessary rules outlined in the bond's language.

What kind of protection do surety bonds provide?

There are thousands of surety bond types out there, and each one offers a unique kind of protection. Generally, though, surety bonds provide financial and legal insulation to protect consumers from unreliable professionals and businesses. Surety bonds provide a guarantee that an individual or an entity will fulfill its contractual obligations or other professional duties according to laws and regulations. In this way they provide the public with financial protection against poorly run businesses.

For example, let's say you want to start a notary public business. In most states the business owner would have to purchase a bond and then file it with the state before obtaining a license. If a bonded notary public commits fraud, any party harmed by the business can file a claim against the bond. If it's valid, the surety provider behind the bond makes sure the claimant is compensated, either by the business or itself.

Who needs surety bonds?

Surety bond regulations vary widely depending on the industry and the jurisdiction in which the business will operate. The best way to determine whether or not you need a surety bond is to contact whoever issues you your business license. The following are just a few types of professions that almost always require surety bonds:
  • auto dealers
  • real estate brokers
  • construction companies
  • collection agencies
  • durable medical equipment providers
  • health clubs
  • auctioneers
  • travel agencies
Entrepreneurs who aren't required to buy surety bonds can still benefit from them. Although surety bonds typically act as a means of protection for consumers and taxpayers, there are certain bonds can also protect business owners themselves. Accounting companies, janitorial companies and other firms that put trust in individual employees often buy employee theft bonds. These surety bonds protect business owners in case their employees should steal company funds.

What do surety bonds cost?

A surety bond's premium is based on several factors, including the applicant's credit score and financial history, the specific bond needed and the surety provider's underwriting costs. Business owners with good credit can easily find competitive rates as long as the bond isn't too risky. At present, surety bond rates for those with good credit are usually calculated as one to three percent of the bond amount.

Some surety providers will issue bonds to applicants with less-than-stellar credit, but the premium will be much higher. High-risk bond rates can easily run up to 25 percent of the bond amount. Start-up businesses often see higher rates because they have a limited financial history. To get the most competitive rates, professionals should comparison shop to find the best surety bond provider for their needs.