Performance security and bank guarantees, explained
Winning is not the end of the paperwork. Before the agreement is signed you have to furnish performance security — money or a guarantee the department holds until you have finished the work properly.
For a small contractor this is usually the largest single cost of taking on government work, because it blocks capital for the whole contract and beyond.
How much
Under Rule 171 of the General Financial Rules 2017, performance security is taken from the successful bidder at a percentage of the contract value stated in the bid document. The common pattern:
- Works contracts: 5% to 10%
- Goods and services: commonly 3% to 5%
On a ₹1 crore works contract at 5%, that is ₹5 lakh locked up. The bid document states the exact figure — read it before you price, not after you win.
State departments set their own percentages under their own financial rules, and many run higher, with additional retention deducted from each running bill on top.
In what form
Rule 171 recognises several forms, and the notice says which it will take:
- Bank guarantee, including electronic bank guarantees issued through NeSL — the usual choice for larger contracts.
- Fixed deposit receipt from a commercial bank, pledged to the department.
- Account payee demand draft.
- Insurance surety bond, now permitted and slowly being accepted in practice.
- Online payment where the portal supports it.
What a bank guarantee actually costs you
A guarantee is not free money. Your bank will typically want:
- Margin money — often 10% to 25% of the guarantee value, held as a deposit.
- Commission — a percentage per year on the guaranteed amount, plus stamp duty and charges.
- Security or a lien on your existing limits, which reduces what you can borrow for running the job.
So a ₹5 lakh guarantee can tie up a lakh or more in margin and reduce your working capital further. Contractors routinely underestimate this and find themselves unable to bid for the next job while the last one's guarantee is still outstanding.
How long it is held
The security has to stay valid until your obligations are finished — which is later than the completion date. A common requirement is validity for sixty days beyond the completion of all contractual obligations, including the warranty or defect liability period.
For a building contract with a twelve-month defect liability period, that means a guarantee running roughly two years from award, not the eight months the work takes.
Make sure the validity written on the guarantee matches what the notice demands. A guarantee that expires early has to be extended, and banks charge again for that.
Getting it back
Release should follow completion of the defect liability period and the department's satisfaction. In practice it needs chasing: a written request, the completion certificate, and often several visits. Keep the original guarantee copy, the bank's reference and the department's acknowledgement together in one file.
Retention money deducted from bills is released on the same kind of schedule, usually half on completion and half after the defect liability period.
When it is forfeited
If you abandon the work, fail to complete it, or breach the contract, the department can invoke the guarantee — the bank pays on demand, without needing the department to prove loss first. That is what "unconditional" means on the face of the guarantee.
Disputes about whether invocation was fair happen afterwards, and by then the money is gone. This is the practical reason to read the completion period and the penalty clause before bidding, not after.
EMD, performance security and retention are three different things
They get confused constantly:
- EMD / bid security — with the bid, small, returned when you lose or adjusted when you win. See the EMD guide.
- Performance security — after award, larger, held through the defect liability period.
- Retention money — deducted from each running bill as work proceeds.
A tender can ask for all three. Add them up before deciding your capacity to take the work.
Before you bid, work out the cash
- Performance security percentage, and on what value.
- Which forms the department accepts, and what your bank charges for each.
- Validity period demanded, including defect liability.
- Retention percentage and release schedule.
- How long running bills actually take to be paid in that department.
If items one to five together exceed what your business can carry alongside its existing work, that tender is not for you, whatever the margin looks like.
A caution
Rule 171 governs central government procurement; states, PSUs and municipal bodies have their own rules, and the bid document you are bidding on states the figures that apply. Bank charges vary by bank and by your relationship with it. This describes the common pattern as at September 2026 and is not financial or legal advice.