Performance bond definition: A performance bond is a surety bond issued to contractors, that guarantees their performance in accordance with the conditions of their contract.

Also known as a construction performance bond, this type of bond is usually required for construction projects. It is a guarantee that a contractor will fulfill all their obligations, and perform according to standards and conditions set out in the contract for the project. It also guarantees compliance with state regulations for licensed contractors.

A performance bond works as a form of protection for the project owner, or the state, that has a contract with the contractor. If the contractor fails to deliver on the contract, bond obligees can file a claim against the bond and receive compensation.

Performance bonds– like all surety bonds– are a type of agreement in which the following three sides are involved: the principal (the licensed and bonded contractor), the obligee (the private or state project owner), and the surety bond company which covers the bond.

When a claim is filed against the bond by an obligee, a claims process is set in motion. If the claim is valid, the surety must compensate the obligees for delays to the project, damages, and all other forms of financial harm they may experience, up to the full penal sum of the bond.

In case of a claim, the contractor must compensate the surety for any money the surety has paid out. Contractors should therefore always attempt to find solutions to problems on a project before they default on their obligations and a claim is made.

Performance bonds are required in all states. Furthermore, before a contractor can work on a construction project, he or she must also be licensed and bonded with a contractor license bond in that state.

Performance surety bonds are almost always necessary for state-owned construction projects, and in particular for federal projects over $100,000. The latter is mandated by the Miller Act, which delineates the exact conditions under which contractors on federal construction projects must get bonded.

For state-owned construction projects, there are the so-called ‘Little Miller Acts,’ which also specify and regulate the conditions under which contractors must obtain performance bonds.

Finally, many private construction project owners also require their contractors to obtain some form of bond.