When it comes to securing your business and protecting your customers, there are a range of options available, and the majority of businesses use some combination of several. The three most well-known are insurance, letters of credit, and surety bonds. Of these three, the two that can be the most confusing to many people are surety bonds and letters of credit, since both offer a form of loan to protect against business problems.
What, however, are the practical differences between these two forms of protection? How are they the same? Do you need both, or will one suffice? Explore the differences between surety bonds vs. letters of credit, how each protects your business, and which is better for your operating needs.
Surety Bonds vs. Letters of Credit
When it comes to surety bonds vs. letters of credit, there are a number of factors that each has in common, as well as some very important differences regarding the protections they offer towards your business. While both constitute agreements between three parties, the parties involved are different with each, as are the beneficiaries of the protections offered.
Letters of Credit
The three parties involved in a letter of credit are the bank, the buyer and the beneficiary. This letter essentially allows the buyer to acquire goods and services based on a lien against their existing assets. The bank, obviously, is the lender who issues the letter. The buyer is the business who is looking to make a purchase. The beneficiary, then, is the goods and services supplier.
When this letter is issued, the supplier is paid with funds loaned by the bank, and a lien is placed against the assets of the business. Until the business pays back the loan, these assets cannot be accessed. If the loan isn’t repaid in a given period, the bank can seize the collateral.
Surety bonds, on the other hand, are an agreement between the surety business who underwrites a bond, the principal, or the business, and the obligee — which is the customer to whom the business has agreed to provide goods and services. In this case, the bond provides financial security to back a contract between the parties. If the business fails to behave ethically or doesn’t live up to their obligations, the surety bond will financially compensate the obligee for their loss.
Surety bonds, unlike insurance, are a loan. This means that when they kick in, the business is on the hook to pay back the amount issued. If they can’t, they may not be able to get bonding for future contracts, which can be devastating to a business.
Why You Should Have Surety Bonds
First of all, surety bonds are required in order to do business in many industries. Second, they provide a level of trust and oversight that improves customer confidence in businesses. When a business advertises as “licensed and bonded,” customers know that they are backed and will follow through with their promises.
If you’d like more information about how a surety bond can help your business, call National Surety Services, Inc., for help getting started today!