A surety bond gives the obligee a guarantee of performance.
If the principal defaults, the obligee looks to the surety company for payment.
In Redlick v Chatybrok, a 1996 Manitoba Court of Appeal case, published at 67 (C.P.R. (3d)) 42, the Court adopted these words:
"Surety bonds are a species of guarantee agreement. They are usually issued by a bonding or insurance company.
"A surety bond is a written promise under seal which commits its issuer (the "surety") to pay a named beneficiary, called the obligee, a sum up to a stipulated amount, but subject to the proviso that the obligation of the issuer will cease if certain specified conditions are met.
"Most surety bonds have three parts: (1) the obligation, or operative part of the bond, which defines the obligation of the surety; (2) the recitals which explain the transaction and its factual context; (3) the conditions of the bond.
"In general, the surety is entitled to the full range of rights and defenses to which guarantors generally are entitled under the law to guarantee. As in the case of all guarantees, the liability of the surety is collateral and dependent upon the liability of the principal. Thus the surety is liable to the obligee only for the actual damages sustained by the obligee as a result of the nonperformance of the principal. In most cases, the bond will provide the surety with a right to elect between paying damages suffered by the obligee and performing the guaranteed obligation itself."
Surety bonds - while very similar and often offered by insurance companies - are not insurance
contract. An insurance contract
(called a "policy") anticipates loss with a premium calculated accordingly.
A surety bond is premised on the assumption that the guaranteed obligation will be fulfilled; that there will be no loss.
When a surety bond obligor is required to pay-out on the bond to the obligee, it is customary for the surety company to seek to recover its loss against the person who defaulted on the underlying contract; the surety bond contract generally holding the principal to personally make good to the obligor/surety bond company any lossed it suffered as a result of having to pay on the bond.
The principal is usually held to "reimburse and hold (the obligor/surety company) harmless for any and all loss, damages, claims. suits, costs and expenses whatever, including court costs and lawyer fees, which the company may sustain or incur by reason of executing or procuring the bond applied for."
Bonds are big business with many insurance companies offering to step up as obligors, to take a chance, in exchange for an annual fee, to warrant to an obligee that another person will fulfill an obligation.
There are surety bonds for just about any type of commercial contract such as, but not limited to, beer bonds (coverage includes compliance with applicable laws or regulations concerning the sale of beer or payment of relevant taxes), administrator or exscutor bond (guarantees the performance of an executor or administrator's fiduciary duties), employee bond (compensates in the event of employee dishonesty, errors or omissions resulting in the loss of money or other property).