Retention bond

From CEOpedia | Management online

Retention bond is a deal between and entrepreneur and his sub-contractor which has to prevent the ordering party from deferring additional costs resulting from not fully accept of undertaking works[1]. The bond's value is usually between 2,5% up to 10% of the full contract value. The bond can be released both by the Bank or insurance company[2]. Retention bond stands for an alternative for money retention. This form is more preferable to use by the entrepreneurs because it does not need any financial contribution in advance[3].

See also: Retention money

Retention bond aim

The main goal is to guarantee a found which will let the project founder cover any additional costs caused by contractor's loss or default[4]. Moreover, the retention bond helps contractor regain costs from the surety in the following cases[5]:

  1. The failure of the company's sub-contractor
  2. Any additional expenses caused by destructions and losses made after employment expiration of the sub-contractors
  3. Any expenses (other than these marked in point 1 and 2) which the contractor bore, under the sub-contract

JCT Documents

According to The Joint Contracts Tribunal (JCT), retention bonds documents to be valid should include information such as[6]:

  • Contractor's name and address
  • Date of the bond
  • Name and address of the surety ( undertaking responsible for the bond's payment)
  • Maximum amount of money that the surety agrees to pay
  • Surety's address where a demand would be sent
  • Surety's address where a copy of notice including sub-contractors liability for the demanded demanded would be sent
  • Preparative date of the bond's expiration

To be legally-valid, the bonds must be signed by the surety or on its behalf.

Examples of Retention bond

  • In the construction industry, a retention bond is a form of surety bond that is held by a client in order to guarantee that their contractor will perform its contractual obligations with regards to the completion of a project. The bond can be used to cover any costs that may arise due to the contractor not completing their obligations as agreed.
  • In the insurance sector, a retention bond is a form of surety bond that is issued by an insurer to protect against losses that may occur due to the insured’s failure to pay its policy premiums. The bond will guarantee that the insured’s policy remains active and in force, even if the premiums are not paid.
  • In the banking sector, a retention bond is a form of surety bond that is issued by a bank to guarantee a customer’s deposit. The bond will guarantee that the customer’s deposit will remain secure and will be repaid in full in the event of the bank becoming insolvent.

Advantages of Retention bond

Retention bond is an agreement between an entrepreneur and a sub-contractor which aims to protect the ordering party from additional costs in case the contracted works are not fully accepted. The following are some of the advantages of retention bond:

  • It offers protection to the ordering party. The retention bond ensures that the sub-contractor is held accountable for any costs resulting from the failure to meet the requirements of the contract.
  • It provides security for the ordering party. The retention bond guarantees that the ordering party will receive the full value of the contracted works.
  • It encourages quality work. The retention bond gives the sub-contractor an incentive to complete the contracted works as agreed, as any failure to do so will cost them money.
  • It reduces the likelihood of disputes. As the ordering party is guaranteed to receive the full value of the contracted works, disputes are less likely to occur.
  • It simplifies payment. The retention bond ensures that payment is made in full upon completion of the contracted works, making the payment process simpler and more efficient.

Limitations of Retention bond

A retention bond is an agreement between an entrepreneur and sub-contractor designed to protect the ordering party from additional costs incurred due to unsatisfactory work. Despite its usefulness, there are several limitations of using retention bonds:

  • Retention bonds only cover the ordering party in the event of the contractor not fulfilling the terms of the contract. It does not cover the contractor in the event that the ordering party fails to pay their dues.
  • Retention bonds are only valid for a certain period of time, usually 4-6 months after completion of the project.
  • Retention bonds are not a substitute for other contractual protections, such as insurance or warranties.
  • Retention bonds may not cover all potential losses and damages that may arise from unsatisfactory work.
  • The cost of the retention bond may be prohibitive for some contractors, making it difficult to obtain.

Other approaches related to Retention bond

A Retention Bond is a financial security instrument designed to protect an ordering party from potential additional costs that may arise from a subcontractor’s failure to fully accept an undertaking. Other approaches to protect ordering parties from such risks include:

  • Performance Bonds - a guarantee that the contractor will perform their obligations under the contract in a timely and satisfactory manner.
  • Advance Payment Bonds - a guarantee that the contractor will use the advance payment for the purpose intended.
  • Labour and Material Payment Bonds - a guarantee that the contractor will pay labour and materials used on the project in a timely manner.
  • Payment Guarantees - a guarantee that the contractor will make payments to the supplier as per the terms of the contract.

Overall, these financial security instruments represent an effective way to protect an ordering party from potential financial losses due to a subcontractor’s failure to fulfil their obligations.

Footnotes

  1. ↑ Bishop E (2004)
  2. ↑ Lester A (2007)
  3. ↑ Roberts M (2014)
  4. ↑ Ndekugri I,Rycroft M (2012)
  5. ↑ Barners P, Davies M.(2015)
  6. ↑ Barners P, Davies M(2009)


Retention bond — recommended articles
Advance payment bond — Warranty bond — Contract guarantee — Indemnity bond — Payment guarantee — Shipping guarantee — Back-To-Back Letters Of Credit — Corporate guarantee — Letter Of Indemnity

References

Author: Angelika Załęska

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