A surety agreement is a contract where a party (the surety) guarantees another party's (the principal's) contractual obligations. If the principal cannot fulfill these, the surety steps in. It is a risk management tool, but the surety's reputation and financial stability should be considered before entering the agreement.
Functioning of Surety
A surety ensures that the principal will fulfill their contractual obligations to a third party (the obligee). If the principal fails, the surety fulfills these obligations. The principal secures the surety either by providing collateral or paying a premium, based on the obligation's risk. If the principal cannot meet their obligations, the surety pays the obligee, after validating the claim. The principal must repay the surety for these payments.
Surety General Summary
Unlike insurance, a surety is often used in contract scenarios, such as construction projects, where a surety bond ensures the contractor completes the project. If the contractor fails, the surety could be required to provide financial compensation to the project owner.