Use of individuals serving as sureties on federal construction projects has been part of the federal procurement landscape for some time. Such individuals, however, are not subject to the same review and certification process that corporate sureties undergo to write on federal projects. Corporate sureties wishing to write bonds on federal construction projects must possess a certificate of authority from the U.S. Department of Treasury, which conducts a financial review of the surety and sets a single bond size limit for the surety. A listing of certified surety companies approved to write bonds on federal projects, known as Department Circular 570, is updated twice per year and is posted by the Financial Management Service, Surety Bond Branch, of the U.S. Department of Treasury at http://www.fms.treas.gov/c570/index.html

On the other hand, individual sureties, who are not vetted by the U.S. Department of the Treasury and who must be individuals, not companies, partnerships, or other unincorporated firms, are evaluated solely by the contracting officer during the course of a particular procurement; the contracting officer is responsible for determining the acceptability of individual sureties and the sufficiency of pledged assets backing their bonds in accordance with regulations contained in Federal Acquisition Regulation (FAR) Subpart 28.2. (The FAR can be accessed and searched online at http://www.acquisition.gov/far/index.html.) This places a significant administrative burden on federal contracting officers, who otherwise will be heavily involved in the many tasks comprising the typical procurement and who may possess differing levels of knowledge regarding surety bonds and the kinds of assets permitted to back surety bonds proffered by individuals under the FAR.

To assist contracting officers with their evaluation, individual sureties are required to complete, sign, and have notarized an affidavit of individual surety (Standard Form 28). The affidavits must include a specific description of the assets pledged, including certified evidence of such assets, and identify other bonds for which the assets have been pledged and any encumbrances on such assets. The affidavit includes a sworn statement to the federal government concerning the validity of the information described in the affidavit. Contracting officers also are required to obtain agency legal review concerning the sufficiency of the documentation pledging the assets of the individual surety before accepting the bonds furnished by individual sureties.

Under applicable provisions of the FAR, individual sureties must pledge certain assets together with a valid, enforceable security interest in such assets. Security interests are to be furnished with the bond. Moreover, such assets, other than real estate, must be placed in an escrow account with a federally insured financial institution, and the terms of such arrangement must be acceptable to the contracting officer (see FAR 28.203-1). The FAR at 28.203-2(b) provides a list of acceptable assets, summarized as follows:

• cash, or certificates of deposit, or other cash equivalents with a federally insured financial institution,
• United State government securities,
• stocks and bonds actively traded on a national U.S. security exchange,
• real property owned fee simple by the surety subject to certain conditions (see FAR 28.203-2(b)(4)),
• irrevocable letters of credit issued by a federally insured financial institution in the name of the contracting agency and which identify the agency and solicitation or contract number.

Certain assets are not permitted to back individual surety bonds. The FAR at 28.203-2(c) lists unacceptable assets, including:

• notes or account receivable,
• foreign securities,
• real property located outside the United States, its territories or possessions,
• real property used as the principal residence of the surety
• real property owned concurrently,
• life estates, leasehold estates, or future interest in real property
• personal property except as listed in FAR 28.203-2(b),
• stocks and bonds of the individual surety in a controlled, affiliated or closely held concern of the offeror/contractor,
• corporate assets,
• speculative assets,
• letters of credit except as provided in FAR 28.203(b)(5).

Finally, the unencumbered value of pledged individual surety assets must equal or exceed the penal amount of each bond.

Like many sets of complex regulations, the FAR sometimes contains wording and provisions that may be considered confusing or be subject to differing interpretations, particularly with respect to how one regulation relates to or effects another. Administrative or judicial decisions that interpret the intent of such wording or provisions may be “few and far between,” if any. When they do occur, however, such decisions can serve to remedy any confusion caused by imprecise wording or ambiguity or to elucidate further the meaning of these important regulations. In August, the United States Court of Federal Claims, in Tip Top Construction, Inc. v. United States, had the opportunity to do just that by examining and addressing key regulations contained in the FAR governing individual sureties. (The opinion is available at the U.S Court of Federal Claims web site at http://www.uscfc.uscourts.gov/.)

Tip Top Construction involved a post-award bid protest, where the apparent lowest bidder, Tip Top Construction, sought declaratory and injunctive relief to void the award of a road construction contract by the Federal Highway Administration to another contractor in St. John of the U.S. Virgin Islands. Tip Top Construction was one of three bidders for the road construction project and was the lowest bidder, coming $1.4 million under the next lowest bidder. However, the contracting officer rejected Tip Top Construction’s bid on the basis that Tip Top Construction failed to “furnish a bid guarantee in accordance with the requirements of the invitation for bids.” More specifically, the contracting officer rejected Tip Top Construction’s bid because it was submitted with a bid bond from an individual surety that, in the opinion of the contracting officer, was supported by assets that did not meet FAR requirements.

The individual surety, related the Court, had pledged “marketable coal” as the assets backing the bid bond. The contracting officer viewed “marketable or mined coal” as a “speculative asset” excluded by section 28.203-29(c)(7) of the FAR. The US Court of Federal Claims further reported that the individual surety, through its legal counsel, disagreed with the contracting agency’s interpretation, contending that the contracting officer misinterpreted the FAR and that “marketable coal” fell within the acceptable assets category in the FAR. (The Court pointed out in a footnote to its opinion that the mined coal was actually “coal refuse,” but since that information was not known at the time of the contracting officer’s decision, the Court would not consider that information in its decision.)

Prior to initiating suit in the US Court of Federal Claims, Tip Top Construction had filed a pre-award bid protest with the General Accounting Office (GAO), seeking a stay of the award of the contract due to the contracting officer’s allegedly erroneous decision in eliminating Tip Top Construction’s bid. The GAO subsequently denied Tip Top Construction’s protest, concluding that mined coal was not an acceptable asset under the FAR because it could not be physically placed in an escrow account as required by FAR 28.203-1(b). The GAO decision also addressed Tip Top Construction’s contention that it should have been given the opportunity to substitute a different asset for the coal to back the bid bond; GAO reasoned that a contracting agency is allowed to reject a bid bond without granting the bidder’s request for substitution of assets. Tip Top Construction then filed suit in the U.S. Court of Federal Claims.

After determining that Tip Top Construction had standing to bring the suit, the US Court of Federal Claims examined whether the contracting officer’s determination concerning the coal asset was arbitrary and unreasonable. The federal government argued that the contracting officer’s determination was based on a rational interpretation of the FAR and, therefore, was not arbitrary or unreasonable. The Court noted that the federal government’s main contentions were threefold: (1) coal is not an acceptable asset under the FAR; (2) the contracting officer had no duty to request additional information about the coal asset; and (3) the contracting officer had no duty to suggest substitution of the asset and had discretion to reject the substitution request. The Court pointed out that the contracting officer “has a considerable degree of discretion in making a responsibility determination” and that the contracting officer, as stated in prior case law, ‘is the arbiter of what, and how much, information he needs.’

The Court then recounted the respective arguments of the parties. Tip Top Construction contended that the lists of acceptable and unacceptable assets in FAR 28.203-2 are not exclusive. Tip Top Construction also contended that mined coal is not a “speculative” asset since the only example given of a speculative asset in the FAR is a “mineral right”; rather, the coal should be viewed as a “readily marketable” asset that falls within the category of acceptable assets and that a security interest in the assets, not the assets being physically placed in an escrow account, is sufficient to meet FAR requirements.

The federal government, on the other hand, argued that the FAR provision addressing acceptable assets is an exclusive list and that another FAR provision requires all acceptable personal property to be physically placed in an escrow account. The federal government further pointed out that the FAR had been amended in 1989 to reflect the requirement of an escrow account for acceptable personal property, which, the federal government argued, demonstrated that the “the FAR drafters contemplated that individual sureties were to pledge assets like cash, CDs, or stocks and bonds which could easily be placed into a mandatory escrow account.”

Stating that the relevant sections of the FAR are “convoluted and not easily followed,” the US Court of Federal Claims nonetheless concluded that, when all the pertinent sections of the FAR are “read together,” they support the contracting officer’s final determination that Tip Top Construction’s “proffered coal asset was unacceptable.” The Court, however, opted not to address the issue of whether the list of acceptable assets in the FAR is an exclusive list. Instead, the Court reached its decision by focusing on the particular security interest required under the FAR for personal property pledged as an asset to back a bond issued by an individual surety. The Court read FAR 28.203-1 to require a security interest in the pledged asset as either an escrow account for personal property or a lien on real property. The Court added that the provisions of Standard Form 28, the required affidavit of individual surety, “reflect a specific requirement that an escrow account be provided for all assets other than real estate.” The Court further noted that the contract clause at FAR 52.228-11, pertaining to pledges of assets by individual sureties, reinforces that conclusion. Since the coal asset was not capable of being placed in an escrow account, as required by the controlling FAR provisions and the terms of the solicitation, the coal asset was not an acceptable asset, concluded the Court.

The US Court of Federal Claims also rejected Tip Top Construction’s contentions that the contracting officer had a duty to ask for more information about the coal asset and should have allowed Tip Top Construction the opportunity to substitute other assets for the coal. In dismissing the first contention, the Court noted that a contracting officer is afforded broad discretion as to whether to request additional information and, in this case, the contracting officer already had determined that the coal was not an acceptable asset under the FAR and, therefore, did not need to inquire further about the asset. With respect to the second contention, the Court observed that the language of the applicable FAR provision (see FAR 28.203-4) does not impose an affirmative duty on the contracting officer to allow or to consider substitution of an asset. The Court also found that the contracting officer did not abuse her discretion in failing to allow a substitution of assets, since no formal request for substitution of assets in writing was made by the individual surety to the contracting officer, as required under FAR 28.203-4.

These materials are provided to NASBP members and affiliates solely for educational and informational purposes. They are not to be considered the rendering of legal advice in specific cases or to create a lawyer-client relationship. Readers are responsible for obtaining legal advice from their own counsels, and should not act upon any information contained in these materials without such advice.