Fidelity Bonds
Instruments designed to protect policyholders from any loss caused by harmful or deceitful actions
What are Fidelity Bonds?
Fidelity bonds are designed to protect their policyholders from any loss that occurs as a result of harmful or deceitful actions by specifically indicated parties. In most cases, fidelity bonds are used to protect corporations from the actions of dishonest employees.
Despite the fact that they are called bonds, fidelity bonds are really a type of insurance policy for businesses/employers, insuring them against suffering losses resulting from employees (or clients) who intentionally cause harm to the business. They cover any actions that improperly benefit an employee financially or intentionally hurt the business financially. Fidelity bonds can’t be traded and don’t accrue interest like normal bonds.
Summary
- Fidelity bonds protect their policyholders from malicious and harmful acts committed by employees or clients.
- There are two types of fidelity bonds: first-party bonds (which protect companies from harmful acts by employees or clients) and third-party bonds (which protect companies from the harmful acts of contracted workers).
- The bonds are useful because they are part of a company’s risk management strategy, hedging the company against acts that would negatively affect its assets.
Types of Fidelity Bonds
1. First-party bonds
First-party bonds are the type described above and the most common. They protect companies from employees or clients/customers who intentionally commit deceitful and/or harmful acts that hurt the business and its assets. Such acts include theft, forgery, fraud, and other malicious acts.
2. Third-party bonds
Third-party bonds are designed to protect companies from the intentionally harmful actions of those working for the company on a contract basis. Such workers include independent contractors and consultants.
Note that the individual or company that works on a contract basis is typically required to carry third-party insurance. However, in many cases, the company using the contracted worker generally must ask the contractor to get third-party insurance. Financial companies, banks, and lending institutions typically always request a contracted party to hold third-party insurance.
Uses of Fidelity Bonds
Fidelity bonds are generally part of a company’s risk management strategy. Companies hedge themselves against loss by getting a fidelity bond. They serve as a barrier or a wall of protection for companies against dishonest and deliberately harmful employees. They also protect the company from clients that might use dishonest means to access its products or services.
Fidelity bonds also provide a form of protection for clients. If employees act in a way that hurts a client financially, then a fidelity bond helps to cover the damage.
Any type of forgery, fraud, or theft is typically covered by fidelity bonds. Even if the employee (or client) successfully commits the act, the bond covers the damage that is caused. They help the company maintain its bottom line and protects it from going into debt, or worse, having to go out of business.
Extension of Coverage
Coverage extensions can be added to fidelity bonds. The extensions further protect the company and its assets. The most common extension protects the company from criminal activity, such as:
- Burglary
- Arson
- Simple and grand theft
- Forgery
- Fraud
The actions above may be caused by employees, but extensions of coverage are generally designed to cover the above acts even when they are committed by other individuals.
Related Readings
CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)™ certification program, designed to help anyone become a world-class financial analyst.
Through financial modeling courses, training, and exercises, anyone in the world can become a great analyst. To keep advancing your career, the additional CFI resources below will be useful:
