Different obligees (the party requiring the bond) have specific requirements for the surety company that may include a credit rating or a size requirement. Some of these obligees may also accept a Letter of Credit, and in this article, I want to discuss the differences between them.

Many clients use different regional banks that may have had worsening credit ratings over the past few years and may no longer be acceptable to an obligee. Some of these banks can find what is called a corresponding bank to confirm the Letter of Credit.

The reason I bring this up is that the initial bank is going to charge a fee. The second bank will also charge a fee, which will most likely be collateral for the Letter of Credit. That collateral is generally in the form of cash or a drawdown on your line of credit for the carve-out provision for their Letters of Credit.

In this, you’re talking about two or three people charging fees, which increases the total cost to obtain the security. When things like this happen, you may want to start to pursue replacing that with a surety bond. The surety bond may 1) be cheaper and 2) require less collateral behind it right off the bat. A lot of the time, a surety bond makes more sense. Going to a reliable and trusted bond expert who could walk you through the process and outline your options is a good idea. 

Another issue with obtaining a Letter of Credit is that banks have one format, while obligees have another. If the bank has to go through several layers of approval to have the format approved, it will cost time, money, and effort, and at the end of the day, that bank may not be able to issue that Letter of Credit.

My reason for bringing up bonding is many obligees may accept the bond instead. It works the same way as a Letter of Credit, but with the ability to have the format altered and changes made with a smaller layer and level of approval. Generally, sureties are more flexible to banks and could work out a much more intelligent way to approach the situation.

In addition, a surety may be able to read a particular clause that the bank cannot, which will reduce the back and forth between the obligee and the entity or the bond principle that has to put up the bond. Generally, the parties handling the negotiations are attorneys. If you can reduce the back and forth between the principal and the obligee, you would spend less on attorney fees. In addition, if the process is smoother, it’s one less item for your client to address.

To me, it’s a no-brainer. Always explore a surety bond instead of a Letter of Credit. It’s easier, quicker, and cheaper.

Neil Pedersen
15 Maiden Lane Suite #800
New York, NY, 10038

Sign up for Our Newsletters

Sign Up Now