Security & the Law: Surety Bond or Insurance Policy?
The United States of America, acting as plaintiff, filed an action on behalf of its government subcontractor, the alarm company, against two defendants, a federal contractor and its surety seeking to recover the sums. The case also included an action for bad faith.
The contractor admitted that it owed the subcontractor money for its work, but it refused to pay the subcontractor’s invoices. The surety also failed to respond to the subcontractor’s demand for payment. The surety company had issued a bond guaranteeing the contractor’s performance. The contractor was required by the Miller Act to obtain the bond. The surety contended that it could not be held liable under the statute as a matter of law because its surety bond did not constitute an insurance policy for purposes of the bad faith statute.
The defendant filed a motion to dismiss the subcontractor’s bad faith claim for failure to state a claim upon which relief could be granted. The case arose out of the alleged failure of the surety company to pay the subcontractor alarm company pursuant to its obligation under a payment bond given by the bonding company as surety for its principal, the defendant construction company. The bonding company argued that the court must dismiss the claim because a surety bond does not constitute an insurance policy under Pennsylvania law. The contract was entered into by the defendant contractor with the United States Navy for the renovation of a fire alarm system at a naval depot located in Pennsylvania. The defendant contractor subcontracted with the alarm company to provide labor and materials in connection with the renovation of the fire alarm system at the depot.
The fire alarm company completed all work specified under the contract. The defendant contractor admitted to owing the balance due on its account with the fire alarm company, but failed to respond to demands for payment.
The Miller Act 40 USC 3131 required that the contractor furnish bonds prior to receiving the contract and the bonding company issued the surety bond to the contractor. After the contractor failed to compensate the fire alarm company for labor performed, the fire alarm company made a demand on the bonding company and subsequently brought suit against the contractor and the bonding company, including a bad faith claim.
The bonding company filed a motion to dismiss the fire alarm company’s bad faith claim, arguing that a surety bond does not constitute an insurance policy under the statute. Pennsylvania’s bad faith statute, i.e., §8371 of 42 Pa Cons Stat Ann, provides, “In an action arising under an insurance policy, if the court finds that the insurer has acted in bad faith toward the insured, the court may take all of the following actions: (1) award interest on the amount of the claim . . . (2) award punitive damages against the insurer; and (3) assess court costs and attorney fees against the insurer.
The court pointed out differences between a surety bond and insurance stating that if the Pennsylvania legislature intended the Pennsylvania statute §8371, to apply to a surety bond, it would have done so explicitly. The court followed the reasoning of the District Courts in previous cases that conducted a comprehensive analysis of the issue and concluded that an individual may not bring a claim against a surety for bad faith under the Pennsylvania Statute §8371. The court determined that the differences between insurance policies and surety bonds encourage not judicially expanding the bad faith statute to encompass surety bonds. The court therefore dismissed the bad faith claim of the fire alarm company.
The lesson to be learned? Understand the effect of the surety bond when entering into a contract, but more importantly, check the credit worthiness of the contractor before entering into the contract.