Retention Bond vs Performance Bond: What’s the Difference?

posted in: Blog, Construction Bonds | 4

retention bondState statutes require contractors working on public projects in the United States to post different types of construction surety bonds. One of the most available and common types of surety bond is the Performance Bond where it guarantees that the contractor completes the project according to the specified contract.

However, there is a bit of confusion regarding guaranteeing contractor performance. Some contractors are also required to post a Retention Bond.

Do not let the terms confuse you. Here, we discuss the difference between a Performance Bond and Retention Bond.

But first, let’s discuss “retention” in brief.

What is Retention?

Retention is a financial security (also called cash retention or withheld cash) held by the lead contractor to ensure that its subcontractors adequately fulfill the obligations required of them under the contract. It is also used as a safeguard against defects in case a subcontractor fails to correct them.

Is cash retention a Performance Bond to keep a contractor honest? Yes. Providing a Retention Bond slowly nudges away the practice of cash retentions (or retention monies) to guarantee the quality of contractor workmanship.

What is a Retention Bond?

A Retention Bond is a type of Performance Bond. Like all surety bonds, it involves three parties: a contractor (Principal), its client (Obligee), and the bond provider (Surety Company).

In the bond agreement, the Surety will act as guarantor between the two parties. The Surety will pay the Obligee up to the full amount like they would have in place of cash retention if the contractor fails to perform the obligations or remedy defects immediately after contract completion (yes, even if the contractor has already been fully compensated).

Why do you need a Retention Bond?

Contractors may be required to post a Retention Bond, along with a Performance Bond, due to three simple, beneficial reasons:

  • The contractor can keep hold of their cash, thus improving its financial standing and bringing substantial cost savings
  • The client benefits from the financial protection it requires
  • There will be no pursuit for the release of cash retention at the end of project completion

Also, a Retention Bond usually includes an expiry date, so there will be no confusion as to when contractors have been released from their obligations.

Are there types of Retention Bonds?

There are two types (usually categorized under Performance Bonds):

  • Conditional (or default): Where the Surety agrees to pay if and when there is a breach of contract or default made by the contractor.
  • Unconditional (payable on demand): Where the Surety pays the Obligee only when the latter makes a demand without having to prove a default by the contractor.

How much does a Retention Bond cost?

Retention Bonds fall under the category of Performance Bonds, which means that the cost will often be based on the financial capacity of the applying contractor.

This type of bond is typically offered at the beginning of a project in preference to cash retention. But, it is also likely to be introduced during the development of a project to release previously withheld retention monies.

I already posted a Performance Bond. Why should I get a Retention Bond?

The use of a Retention Bond depends on the Obligee who will require contractors to post it.

A Retention Bond offers clients the financial protection they need in place of cash retention while improving a contractor’s financial standing as it enables them to keep hold of their cash. Another benefit is that the contractor will be notified of the purported defect and is given the opportunity to correct it within a specified amount of time.

There you have it. Just like with Performance Bonds, the Surety vets the financial capacity of, provides the financial protection, and seeks financial recovery for the bonded contractor.

In a nutshell, Performance Bonds serve as an assurance of quality completion of obligations, while Retention Bonds also ensure faithful performance and defect correction on public projects instead of applying cash retention practices.

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