The surety underwrites the risk based on the three C’s: Capital, Character, and Capacity. Most grantors of surety credit, commercial bank loan providers, and many other firms that extend credit as a normal business risk use these credit evaluation standards.

Many grantors of credit use a fourth C, Collateral, to support unusually hazardous surety obligations. Collateral is also routinely used with the extension of many commercial bank loans. The additional support collateral for a credit risk does not necessarily challenge the creditworthiness of the bond principal or the party that seeks a loan. However, under contract suretyship, the requirement for collateral by standard surety markets (defined as conventional underwriters usually affiliated as members of or subscribers to the Surety and Fidelity Association of America) is highly unusual. One situation when such requests are made is when a contractor previously defaulted in performing bonded work.

Surety obligations (and contract bonds in particular) frequently depend on the officers and directors of a corporation to personally indemnify the surety against any loss it may sustain by reason of executing the bonds on behalf of a corporate principal.

The surety’s and lender’s respective means of recourse against default is similar. An unsecured lender has essentially the same legal remedies available to it against its defaulting borrower in civil proceedings as the surety does against its defaulting principal. In the surety business, this is known as the right of equitable subrogation. If the lender had a guarantor or co-maker supporting the borrower on its security instruments, these third parties are the equivalent to the surety as the guarantor to the obligee on a bond.

 

 

©The Rough Notes Company, Inc.



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