Contractor’s looking to start a new construction business in California, or change legal entity’s for an existing one should becomes familiar with how these changes may affect their license bonding costs, as well as other requirements they may become subject to, prior to proceeding. While a contractor’s choice of legal structure will require a single $12,500 license bond at the minimum, some entities may require multiple bonds or have other characteristics that could affect license bonding costs. Below is a summary of common legal entities contractors often operate under in California, as well as significant factors to consider for each.
The simplest and most common form of legal structure for contractors in California is the sole proprietor. Sole proprietors require a single $12,500 contractor’s license bond and rates will depend upon the credit and background of the contractor assigned to the license. While contractors can possibly use the assistance of a cosigner if their credit is poor, subject to certain restrictions, they cannot use another unaffiliated person’s credit in lieu of their own as a way to lower bonding costs.
Contrary to popular belief, license bonding costs are often times not based upon a corporation’s credit profile. Contractor’s operating under a corporation in California have the option of basing their $12,500 license bond upon the credit and background of an officer in the corporation, such as the president or vice president. This can be beneficial if credit or other license bond rating factors vary greatly among corporate officers. In addition, a Bond of Qualifying Individual will also be required in addition to any license bonding requirements if any Responsible Managing Officer does not own at least 10% of the voting stock of a corporation. A BQI is required for each RMO meeting this criteria.
LLC’s have by far the most complex operational and bonding requirements of any legal entity. All contractors operating under an LLC must maintain a $12,500 license bond, as well as a $100,000 surety bond that protects workers or employee’s in the event the LLC fails to pay wages or benefits owed. In addition, LLC’s must also maintain a 1 million liability policy if it has 5 or fewer members, plus an additional $100,000 in coverage for each additional member, not to exceed $5,000,000 in coverage. For more information on LLC requirements for California contractors, please click here.
While similar in structure to a sole proprietor, contractors licensed under a partnership have the opportunity to use the credit of either partner to obtain a single $12,500 California license bond required by the CSLB. This can be financially advantageous as compared to the setup of a sole proprietor if the credit of one partner is significantly better than that of the other partner. However, some sureties will require both partners to sign the license bond indemnity agreement, so in the event of a claim, both partners could be financially responsible.
Bond of Qualifying Individual
In addition to the requirements listed under each form of legal entity mentioned above, a Bond of Qualifying Individual (BQI) will also be required if a license is qualified by a Responsible Managing Employee (RME), which is an individual that is not the licensee, general partner or joint licensee (Business and Professions Code 7071.9) The BQI bond, like a license bond, is for $12,500 and rates will be based on the qualifier’s credit and license history.
Overall license bond costs and requirements can vary based upon a contractor’s choice of legal entity, however, the choice of legal entity by itself will generally not affect license bonding costs if the same individual (and their credit) is used for bonding under each. With this in mind, partnerships, LLC’s and corporations provide the added flexibility of choosing which individual will be used, along with their credit profile, to fulfill the CSLB bond requirements which can dramatically affect the total cost of bonding for a given business structure. As mentioned, this feature can be very beneficial if credit profiles vary greatly among partners or officers of a given partnership, LLC or corporation. However, a contractor’s choice of legal structure should not be based solely on license bond considerations as each has significantly different characteristics and requirements that may be more or less beneficial to some contractors. A contractor’s choice of legal entity should be carefully reviewed with the assistance of an experienced attorney or qualified professional, prior to formation.
By Jeremy Schaedler