Why Are Surety Bonds Based on Personal Credit?

Contractors looking to embark upon a new project must understand the ins and outs of personal credit. While you may have thought about your credit score when applying for a home or apartment, your personal credit score also matters greatly when it comes to applying for a surety bond.

It can feel intimidating to explore these seemingly complex financial topics, but in reality, understanding your personal credit score — and improving it over time — is a simple part of ensuring that your next project runs smoothly. Read on to learn more about personal credit, and how your credit score affects surety bond costs.

What Are Surety Bonds?

In construction, contract surety bonds are incredibly important. Contract surety bonds are made between three parties as a way to guarantee that the principal party — for instance, a contractor — fulfills his or her contractual obligations.

Here’s how it works: The surety provider (oftentimes an insurance company) extends a line of credit to the principal party as part of the contractual agreement. This protects the obligee — for instance, the contractor’s client — in the event that the contract is breached. If the principal fails to fulfill the contractual agreement by, say, going past deadline, or accruing unexpected expenses, then the obligee is protected. The obligee can file a claim against the contract surety bond to receive financial compensation for any damages.

What Is Personal Credit?

“Credit” can be a confusing term at first glance, as it holds numerous meanings in the financial world. Generally speaking, “credit” refers to a contractual agreement between a borrower and a lender. But “credit” can also refer to an individual’s personal credit history, and this is what comes into play when applying for a surety bond from a bond provider.

Personal credit is a reflection of how well you’ve paid your debts. Paying your bills on time and in full are crucial to maintaining good personal credit. Personal credit history is represented in the form of a credit score which ranges from 300 to 850. The most commonly trusted credit score is generated by Fair Isaac Corporation (FICO), which calculates scores based on credit history information from Equifax, Experian, and Transunion.

How Personal Credit Affects Surety Bonds

A high personal credit score generally indicates a low-risk borrower, and so obligees with high personal credit scores will usually receive a lower bond premium. As your score worsens, the price of your bond will increase.

Generally, a credit score above 750 is considered good, while a credit score below 600 is considered poor. Individual lenders may have more specific breakdowns. And don’t worry about the credit check itself — lenders usually conduct a “soft check” to review your credit, meaning that the check itself does not affect your score.

How to Improve Your Personal Credit

If you’re worried about your personal credit score, or looking to receive a better bond rate, there are steps you can take to improve your credit — but it takes time to change. Start by improving your payment history: pay your bills on time, and in full. Don’t close any old accounts, and don’t apply for new lines of credit. If you simply have a weak credit history and need to build upon it, consider opening a secure credit card and using it for regular payments, so that you establish a credit history for yourself.