Tuesday, January 6, 2015

How Do Change Orders Impact the Amount of Payment and Performance Bonds?

Typically, a public agency will obtain a Payment Bond for 100% of the contract amount and a Performance Bond for 100% of the contract amount.  

But what happens if there are change orders to the project that increase the dollar amount of the contract?  Do the bonds cover the amended contract amount from both a payment and performance perspective? 

3 options:  There are three options of how these bonds respond to an increase in the contract amount through change orders.
  • Surety approval always required:  Under this alternative, any change order, regardless of the dollar amount, must receive approval from the surety for the increased amount so that the bonding company can issue a "rider" or amendment to the bonds and increase the dollar amount of protection under the bonds.  Administratively, this can be burdensome, and can slow down the approval process for change orders and payment to the contractor.
  • Surety approval sometimes required:  Under this alternative, approval of the surety is required only for change orders of a certain dollar amount or a certain percentage (singular or cumulative).  The bonding company's approval would again be issued in the form of a rider to the bonds.  Like the first option, this alternative is also administratively cumbersome.
  • Surety approval never required:  Under this preferred option, by issuing and signing the Payment and Performance Bonds, the bonding company agrees to any and all future change orders that may change the amount of the contract.  From an administrative perspective for the public agency, contractor, and bonding company, this is the most streamlined way to address changes in the contract amount. 
Communicate your policy:  Public agencies should communicate clearly in the bid and contract documents their expectations of which option will apply.  Language must also be reflected in the actual Payment and Performance Bonds (a strong argument why agencies should have their own bond forms that must be used).  If the third option above is used, here is potential language to include in the bid and contract documents as well as the bonds:
The Surety for value received agrees that no change, extension of time, alteration or addition to the terms of the Contract, the specifications accompanying the Contract, or to the work to be performed under the Contract shall in any way affect its obligation on this bond, except as provided herein, and waives notice of any change, extension of time, alteration or addition to the terms of the Contract or the work performed. The Surety agrees that modifications and changes to the terms and conditions of the Contract that increase the total amount to be paid the Principal shall automatically increase the obligation of the Surety on this bond and notice to Surety is not required for such increased obligation.
Mike Purdy's Public Contracting Blog
© 2015 by Michael E. Purdy Associates, LLC

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