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4 Factors that Determine Bond Costs

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4 Factors that Determine Your Auto Dealer Bond Cost

Whether you’re a veteran in the auto industry or looking to start your first dealership, you’re going to need an auto dealer surety bond. Oftentimes, first time dealership owners don’t hear about surety bonds until they find out they need them. An added learning curve (and unexpected expense) in the middle of setting up your new dealership is probably the last thing you need during such already stressful times. Understanding auto dealer bonds before you encounter them in your licensing process will shorten your application time and give you an accurate idea of the price you’ll pay when you’re ready to purchase your own policy.

Basics

First things first, what exactly is a surety bond? Put simply, it’s an agreement that guarantees certain tasks will be completed in an appropriate fashion. A surety bond, regardless of type, will always involve the following 3 parties:

1) Obligee: The party that requires the purchase of a surety bond. This is usually a government agency that is protecting themselves and consumers against financial loss.

2) Principal: The party that purchases the surety bond. This is usually the auto dealer that is guaranteeing quality work in the future.

3) Surety: The party that enforces the terms of the surety bond and guarantees the auto dealer meets their obligations.

Determining the Price (or Premium) of Your Bond

No surety bond will be priced the same, but there are 4 main factors that will determine your bond premium:

1) Bond Amount:

      The premium you pay is a percentage of the

total bond amount.

      Bond amounts, or amount of coverage required by the obligee, for auto dealers can range anywhere from $10,000 to $100,000 depending on your state or where you are doing business.

Note that “bond amount” (coverage amount required by the governing agency) is different than “bond cost” (amount you will actually pay for your bond).

For example, if you want to begin selling used cars in Missouri and you have a 703 credit score, you can expect to pay a 1-2% rate of the $25,000 bond amount requirement–or $250-500 based on standard market pricing.

There is such a wide spectrum of bond amounts because each state has proven to have a different likeliness of consumer claims, known as “claim ratio,” and unethical dealer behavior. The number of incidents or specific conditions per area have been factored into each state designating its own bond amount for auto dealers. The greater the evidence of risk involved equates to a higher bond amount required.

2) Underwriting Risk: The underwriting process for surety policies, just like consumer or business insurance policies, serves the purpose of thoroughly and accurately assessing risk. Underwriting for bonds varies depending on the bond type and industry, but in general, it is when the surety provider evaluates the principal’s proposed agreement or business from a number of angles. They perform an analysis of risk of the business and the industry as a whole. The principal’s individual risk is based on personal and background information (usually reviewing the applicant’s credit report is sufficient) in order to determine qualifications and costs for the bond.

If you are in a higher-risk industry or profession, you can expect your bond premium to be higher, respectively. Risk is pushed higher or lower on the scale depending on claim activity from previous policies. Underwriters are more hesitant to sign off on bonds when the likeliness of a claim is high. Surety bonds are unlike other types of insurance (such as Home, Auto or Life) because accidents and claims are expected on those types of policies. Bonds, on other other hand, do not transfer any liability away from the policyholder to the surety company and claims are not expected to occur. They are designed as financial guarantees for meeting industry standards, promoting ethical practices, and allowing only qualified persons to conduct business or provide certain services.The auto industry is not in a high-risk class, unless you’re in a high-risk state with higher claim ratios. Some examples of these areas for auto dealers include Arizona, Texas, Florida and California where claim activity has been historically high prompting underwriters to deem these markets high-risk.

3) Type: Some types cost more than others because the likelihood for claims is greater in some industries than others. Auto dealer bonds are in the middle of the pack when it comes to bond cost. But keep in mind that amounts for the same bond type vary by state. Additionally, some states distinguish between wholesale auto dealer bonds and retail auto dealer bonds. Wholesale is usually defined as one dealer performing transactions with another dealer or selling less than 25 vehicles per year. Retail is typically referring to large scale, franchised dealerships. For example, in Arizona, wholesale motor vehicle bonds only require $25,000 of coverage, whereas retail vendors must meet a $100,000 requirement–a drastically larger amount due to risk and claim activity at the dealer-to-consumer level versus the dealer-to-dealer level.

4) Credit Score: The first thing to be considered is your credit score. A credit score of 700 or more will usually only require an auto dealer to pay 1-3% of the total bond amount. When the credit score drops below 680, the premium rate can increase to 4-10% depending on other financial credentials. Unlike riskier professions, no other financial records are necessary to qualify for an auto bond. A dealer only needs to provide the information that would be on the credit report. Prospective dealers with low credit scores aren’t necessarily out of the running for a surety bond. Premiums over $2,100 can be financed so dealers can get the bond on loan to start their businesses. This enables dealers to open and operate in compliance with the law, begin generating revenues from sales, and a foundation to begin making payments on their financed policy. Financing options can be extremely helpful for some applicants, but keep in mind that you must qualify for such programs as determined by the surety. Also, you will incur financing fees in addition to the premium by choosing this route for purchasing your bond.

Bonds: More than Just Another Business Expense

While surety bonds are an initial cost to your business, they will help your dealership attract consumers. If a dealership can say that it is legally licensed and bonded, then consumers will know that they are buying from an honest and reputable dealer. Consumers looking for a new or used car are typically more researched than consumers shopping for other types of products. By issuing it, the surety company essentially endorses the business as one of integrity. Additionally, the surety bond contractual guarantee of upholding professional and ethical standards will push dealers who cannot meet these standards out of the industry. They can actually eliminate excess competitors in a given area who are unqualified to do business, leading to a healthier and more sustainable marketplace, which benefits the consumers and dealers alike.

If you are a prospective dealer wanting to open a dealership or current dealer looking to renew your bond, then visit SuretyBonds.com if you still have any unanswered questions. You can reach our experts at 1-800-308-4358, and they would be happy to have a conversation with you. All of our experts have a lot of experience and knowledge of the surety market, and they can help you find the bond that is right for you.

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