How to Tell if a Fictitious Surety is Furnishing Bogus Bonds on Your Construction Project
At the height of the recession, a sophisticated owner of multiple facilities discovered it was holding $105 million dollars of bogus payment and performance (P&P) bonds that were completely worthless. The bogus bonds had been issued in the name of a fictitious corporate surety, Fidelity National Group, but otherwise appeared just as legitimate as any other P&P bonds.
Like most owners and contractors, the facility owner performed a cursory review of the P&P bonds upon receipt to verify that the penal sum equaled the contract price and otherwise appeared legitimate. And like most owners and contractors, once this cursory review was completed, the facility owner tucked the P&P bonds away until such time as they might be needed. Several years later when the bond principal defaulted upon its contractual obligations, the facility owner discovered the P&P bonds were worthless, triggering a series of very costly problems with construction at the facility.
As it turned out, this fictitious surety was part of an elaborate fraud scheme that issued at least $535 million dollars of bogus P&P bonds to many sophisticated owners and contractors over a three year period. The list of owners duped by this scheme included the Federal Aviation Administration, the United States Navy and the Army Corp of Engineers. Until the bogus bonds were uncovered, the scheme netted the individual furnishing the bogus P&P bonds more than $22.5 million dollars of bond premiums. While the individual behind the scheme was subsequently forced to forfeit all of his assets, the facility owner who held $105 million dollars of worthless bonds never recovered the premiums charged -- much less any of the other additional costs incurred. It was no comfort to know that the individual behind the bogus bond scheme was sentenced to 10 years in federal prison for mail and wire fraud. Nor should it be of any comfort to owners or contractors who procure or accept P&P bonds to learn that surety bond fraud is more common than most would suspect.
The individual behind the scheme that duped all these sophisticated entities was a 37 year-old licensed insurance broker who lived in Maryland. The broker created several fictitious corporate sureties, including Fidelity National Group, using “one-off” names that were nearly identical to the names of legitimate corporate sureties licensed and approved to issue P&P bonds across the country. Most of the owners and contractors who had been duped either assumed or were misled to believe the fictitious sureties issuing these bogus P&P bonds were the same legitimate sureties bearing the “one-off” name. Each of the fictitious sureties also shared a fictitious parent company, AMS Surety Holdings, who supposedly provided additional financial security for the bogus bonds. As icing on the cake, the broker represented that he was approved as an individual surety under federal law and was exempt from the licensing requirements in any states where the bogus bonds were issued. Despite the elaborate corporate manipulations, the entire scheme came tumbling down once claims were filed against the bogus P&P bonds, as the fictitious sureties had no means by which to investigate the claims or reimburse the claimants.
The Maryland broker behind this bond scheme used two of the three most common methods to commit P&P bond fraud, all of which can be easily uncovered given access to a phone and the internet. First, the Maryland broker misrepresented the fictitious corporate sureties he had created as legitimate corporate sureties authorized to issue bonds across the country. Bogus P&P bonds issued by fraudulent corporate sureties can be easily uncovered using the Circular 570 issued and updated by the U.S. Treasury Department. The current version of Circular 570 identifies the precise name of all 272 corporate (not individual) sureties who are authorized to furnish surety bonds upon projects constructed or funded by the U.S. government. In addition, Circular 570 also provides information about each corporate surety listed, including: business address, phone number, place of incorporation, maximum penal sum for a single bond (absent reinsurance), and the states in which the corporate surety is licensed to issue bonds. If P&P bonds are furnished by a corporate surety not bearing the exact name listed in Circular 570, or the sureties’ information does not exactly match the information contained in Circular 570, owners and contractors are best served to reject the bonds.
Second, the Maryland broker misrepresented he was an individual surety exempt from state licensing laws. Bogus P&P bonds issued by an individual surety who is neither licensed nor authorized to issue bonds can be uncovered by contacting the applicable Insurance Department in the state where the bonded contract is to be performed. Surprising, as it may seem, the U.S. government and certain states allow individuals to act as sureties and furnish P&P bonds, however, the individual must typically pledge cash or real estate equal to the penal sum of the bonds and the bonds cannot be issued in the name of a partnership, corporation, limited liability company or trade name. Moreover, those states that allow individual sureties to furnish P&P bonds within their jurisdiction typically require the individual to obtain a license or certificate of authority from that state’s Insurance Department. Since individual sureties are not listed in Circular 570, are prohibited in many states, and must pledge sufficient assets to secure the bonds, owners and contractors are best served to avoid them all together.
Finally, although the Maryland broker made multiple misrepresentations, he did not use the third most common method of bond fraud - issuing bonds in the name of legitimate sureties based upon forged signatures. Bogus P&P bonds issued in the name of a legitimate surety but based upon forged signatures and/or a forged power of attorney can be uncovered by contacting the surety named on the bond using the independent information contained in Circular 570. Any corporate surety listed in Circular 570 can easily confirm or disavow whether the P&P bonds at issue are authentic once provided with the bond number, names of the principal and obligee, and penal sum. Unfortunately, this form of verification is not effective with fictitious corporate sureties or individual sureties, since they are not listed in Circular 570 and their contact information typically leads the inquiry back to the individual behind the fraudulent bond scheme.
So the next time you are furnished with P&P bonds, consider the circumstances, and if warranted you might pause to question whether the bonds are worth the paper they are written on. Then remember the answer is often a simple mouse click or phone call away and could save your company from a very expensive learning lesson.
This post contains information that may affect your business decisions; it should not be considered as legal advice and does not create a lawyer-client relationship. Most all states have enacted legislation specific to “corporate” and/or “individual” sureties and the reader is cautioned that application of such legislation varies between jurisdictions.