Over the past few weeks we’ve looked at some common construction contract myths and analyzed our first two remodel contract types: lump sum contracts and time & materials contracts. It’s now time to breakdown the second of three common types of contracts you can use for your remodel.
Before doing so, remember each of the three contract types we will analyze have both benefits and drawbacks. I’ll help you decide which contract is right for you.
The Spirit of the Contract
Cost Plus a Fee contracts are like clam chowder in a bread bowl. You know what I’m talking about (OK, those of you in the Midwest may not): that delicious combination of creamy clam chowder and delightful, fresh french bread. It’s a breeze to prepare. In fact, I’ll go ahead and give you the recipe:
Ingredients:
- Clam chowder – enough to fill a bread bowl
- French Bread Round – Enough to hold clam chowder
Directions
- Make a hole in the top of the french bread round.
- Pull out the french bread guts and eat them right there.
- Pour hot clam chowder through hole.
See, pretty easy.
Now, why do I love clam chowder in a bread bowl? It’s the best of both worlds. You get the benefit of yummy clam chowder and french bread, and you have no bowl to clean-up. BECAUSE YOU EAT THE BOWL. (My son once ate the bowl first, and thus learned an important lesson about edible bowls.)
And that’s the spirit of Cost Plus a Fee contract: an owner gets the benefit of a maximum price plus the chance to keep savings if the project comes in under budget.
How a Cost Plus Contract Addresses Money
The Cost Plus contract says this: I, contractor, will build your remodel for no more than X dollars. If I can build it for less than X dollars, you only pay me the cost of the project plus my pre-established fee percentage.
Example: Contractor signs a Cost Plus contract with Owner for $50,000. In the contract, the fee is 10% of total project cost. The $50,000 contract amount (also known as GMP – Guaranteed Maximum Price) includes the contractors 10% fee. (His costs on the job were estimated at $45,000, his fee $5,000).
Scenario 1: Project comes in over budget due to no fault of the Owner. Cost to Owner is only $50,000 (the GMP) Contractor “eats” the overage.
Scenario 2: Project comes in under budget. Let’s say costs equal only $40,000, not the estimated $45,000. Cost to Owner is $44,444 ($40,000 cost plus $4,444 fee). Owner saves the difference!
See, it’s simple. But the question people often ask is why the heck would a contractor agree to this? Well, here are a few reasons:
- Establishes great report with Owners, and almost guarantees referrals if the project goes well.
- Some contractors actually believe the Owners money is, well, the Owners money. (If I went and bought a sandwich for a co-worker, and they gave me $10, and the sandwich was only $8, I wouldn’t keep the $2, would I?)
- This type of contractual relationship fosters a team approach and a much better process for the builder.
Will every contractor agree to this contract? No, probably not. Most contractors use business practices and concepts from the 1800’s. They don’t understand such deep concepts as an Owner’s money belonging to the Owner. They feel like if they are smart enough to dupe you into a bad contract, they should get all the cost savings (without telling you what they were, of course) and go out and by a new quad or lifted pick-up or perhaps a brand new Tap-Out t-shirt…
How a Cost Plus Contract Addresses Schedule
Like most other contracts, the Cost Plus contract establishes a project duration and perhaps a penalty for not completing the project on time. Typically the spirit of the contract is collaborative, so penalties for late completion are not as prevalent nor as heavy as the lump sum contract.
When to Use a Cost Plus Contract
Some project types lend themselves more toward a Cost Plus contract than others:
- Negotiated projects in which an Owner works with one contractor solely from start to finish.
- Projects in which their is great trust and respect between Owner and Contractor.
- Fast-track projects that must commence before every detail of the project is resolved.
- Any time an Owner can negotiate such a contract with the Contractor.
When Not to Use a Cost Plus Contract
Cost Plus contracts may not be best if:
- You don’t trust your Contractor to operate with your best interest in mind.
- You “hard bid” your project to multiple contractors and made your selection solely off low-price.
In our next and final part of the construction contracts series, we’ll cover how to create the contract of your choice using some awesome techy stuff (that’s a breeze to use)..
PS: After reading this post, whip up a bread bowl with clam chowder and then download my free e-book Remodel with Confidence. It’ll guide you through the remodel process step by step.
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