A performance bond and an irrevocable letter of credit can satisfy the same requirement in the same solicitation. They are not variants of one thing. They are two different instruments, issued by two different kinds of institution, that consume two different resources belonging to you.
What each one actually is
A surety bond is a three-party undertaking. The surety promises the obligee that you will perform, and you indemnify the surety for anything it pays. It is not insurance for you and it is not a loan — it is credit extended on the strength of your financial statements, your track record and the specific contract. It sits outside your banking relationship.
An irrevocable letter of credit is a two-party undertaking from your bank to the beneficiary. The bank pays on presentation of the documents the credit specifies. It does not ask whether you defaulted, because that is not what a letter of credit is for. And it is a facility from your bank, extended against the same capacity that funds your working capital and your equipment.
That last difference is the whole practical story. Contractors comparing “the fee” are comparing the smaller number.
The federal position: both, with a preference
Below the bond threshold, federal construction sits in a band where the contracting officer must select from a defined list. FAR 28.102-1(b)(1) requires the officer to select two or more payment protections,
“giving particular consideration to inclusion of an irrevocable letter of credit as one of the selected alternatives”
from a closed list that names a payment bond, an irrevocable letter of credit, a tripartite escrow agreement, certificates of deposit, and a deposit of the securities at FAR 28.204-1 and 28.204-2.
The preference has a reason behind it, and it is the Government’s reason rather than yours. A letter of credit is fast and certain from the beneficiary’s side: documents in, money out, no argument about whether a default occurred. For a small contract that is exactly what a contracting officer wants.
Above the threshold, the federal answer is different: FAR 28.102-2(b) requires a performance bond at 100 percent of the original contract price, and there is no letter-of-credit substitute for it.
Two states that name the letter of credit outright
The federal band is not the only place this choice appears, and two state statutes we have read put the letter of credit on an equal footing with the bond at any size.
Oklahoma. Under 61 O.S. § 1 the contractor furnishes either “a bond in a sum equal to the contract price, with adequate surety, or an irrevocable letter of credit containing terms prescribed by the Construction and Properties Division of the Office of Management and Enterprise Services issued by a financial institution insured by the Federal Deposit Insurance Corporation or the Federal Savings and Loan Insurance Corporation … in a sum equal to the contract price”. The two are alternatives of equal standing, and the letter of credit’s terms are prescribed by the state rather than negotiated.
Pennsylvania. For a defined class of contracting body, 8 P.S. § 193 requires “A performance bond, Federal or Commonwealth chartered lending institution irrevocable letter of credit or restrictive or escrow account in such lending institution, equal to one hundred percent of the contract amount”. Three instruments, one requirement, one figure.
Notice what both statutes hold constant. The amount does not change with the instrument — it is the contract price either way. What changes is who stands behind it and what it costs you to arrange.
What each one costs you, structurally
We do not publish rates, and this page will not tell you which is cheaper, because the honest answer is that it depends on facts we cannot see from here. What can be said is what each instrument consumes.
A bond consumes underwriting capacity. The surety sets a single-job limit and an aggregate limit for your account, and bonded backlog occupies the aggregate until jobs close out. Bonding a project uses up room for other bonded projects. It does not touch your bank lines.
A letter of credit consumes borrowing capacity. It is a bank facility. Whatever is committed to it is not available for the line of credit that funds payroll between progress payments, or the equipment purchase you were planning in the spring. It does not touch your surety aggregate.
For a contractor whose constraint is bank capacity, a bond is the instrument that leaves the constraint alone. For a contractor whose constraint is surety capacity — often a newer business, or one already carrying a full bonded backlog — a letter of credit may be the one that fits. The answer is a fact about your balance sheet, not about the instruments.
There is a second-order difference too. A letter of credit is drawn on documents, so a dispute about whether you actually defaulted happens after the money has moved. A surety investigates a claim before paying, and you are a party to that conversation. Contractors who have been through both usually have a strong view about which they prefer, and it is rarely the faster one.
What this page does not cover
It does not cover the escrow and certificate-of-deposit alternatives in any detail, though the federal list and the Pennsylvania statute both name them. It does not address letters of credit as payment security in private construction, where the contract rather than a statute sets the terms. And it takes no position on which instrument your obligee will accept — that is written in the solicitation, and where a choice exists it is usually stated plainly.
