Have you wondered what is a Cost-Plus Contract in Construction? Cost Plus contracts are one of the four main contracts seen in construction. It allows the construction project to proceed with an undefined final scope and where the contractor is reimbursed directly for all their expenses. In this article, we will dive deep into what are the main parts of a Cost-Plus contract, the four main types, advantages, and disadvantages, and lastly, when they are suited for your construction project.
The Basics – How does a Cost-Plus Contract Work?
Cost Plus contracts operate in a way that allows the owner to pay directly for the work and costs incurred by the General Contractor, plus a fee for their work. It is very similar to a Time and Materials Contract where costs are recuperated directly for what was spent. However, Cost Plus contracts are more functional for larger construction projects that will extend months or even years.
The Three Basic Elements:
Direct Costs: Direct costs are any costs incurred by the general contractor to complete the work. This includes labor, subcontractors, materials, and another direct cost that are spent to build the project.
Overhead costs: An overhead cost are the expenses the General Contracture incurs to run the company during the construction project. Sadly, a construction company is a beast of overhead costs not always seen by the homeowner. These include, but are not limited to insurances for owner and employee protection, office rent, IT equipment and software, phones, and salaries for ownership or administration. Overhead costs can be as high as 100% of the cost to complete the actual project.
Fee: this is a “plus” in the contract. It is the profit the contractor retains for completing the construction project. A typical percentage fee is anywhere between 20%-30% in Westchester, New York. This fee is added on top of the direct and overhead costs incurred by the contractor.
The Four common Cost Plus Contracts
Cost-plus contracts can be arranged in a myriad of different structures but there are generally four main ones. Inside each of these options are vast options for contract negotiations like fee percent, scheduling duration, incentives, etc.
- Cost-Plus Incentive Fee (CPIF): Incentive fees are awarded to the contractor based on certain criteria detailed in the original contract. These incentives can either be additive or subtractive to the base fee depending on the criteria. An example of this is meeting or beating a projected schedule completion date set forward in the contract. If the contractor beats it, they are awarded. If they do not, penalties apply for each block of time they miss. Another incentive can be around meeting the project budget.
- Cost-plus award fee (CPAF): Fee bonuses or reductions are applied based on the contractor’s performance. These can be areas of excellence in service, quality, meeting schedule, or cost reductions. In the Award Fee model, the fee payouts are more subjective than the incentive-based model. The contractor’s performance is evaluated and determined on a case-by-case basis. However, the contract defines an evaluation process and the fee payout is rarely open to appeals.
- Cost-Plus Fixed Rate (CPFR): A fixed-rate is determined from the total cost of direct and indirect costs. This is a standard model that allows flexibility for the project to grow or decrease while the contractor still retains his profit margin. Commonly attached to this is a Guaranteed Maximum Price (GMP) where the contractors’ profits decline or a negligent if the project exceeds a certain dollar value.
- Cost-Plus Fixed Fee (CPFF): The contract sets forth a fixed fee amount for the contractor to complete the project. This rate is based on the schedule duration, size of the project, and the contractor’s previous performance. This model works well with contractors who are confident in their work performance but provides little to no incentive bonus to have the contractor excel.
Can I combine different Cost-Plus Contract Types?
Yes! A homeowner can certainly negotiate a contract that involves all four major aspects discussed above. A contract can have an Incentive to beat the schedule, an award for Jobsite cleanliness and safety, a fixed fee, and a fixed rate if the project expands above and beyond a limit of the original scope. Lastly, a common clause in a Cost-Plus Contract is the GMP or Guaranteed Maximum Price. A GMP stipulates a maximum dollar amount that the project cannot exceed. Once it exceeds this value, the contractor covers the difference, and the owner is locked into that GMP.
Pros and cons to a Cost-Plus Contract
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When should a Cost Plus Contract be used?
A cost-plus contract should be utilized when there is a design-build aspect of the project, or the project has an unknown variable. During the writing of this article in the fall of 2021, material prices are still fluctuating on a weekly, basis. Some materials are rising like metals and PVCs, while lumber has seen a recent drop and hold. Homeowners have gravitated to the Cost-Plus model in 2020 due to the belief that material prices will fall during their project. Contractors have also agreed to this model since they hold much less risk than a stipulated sum contract.
Wrapping it up!
In the end, a Cost-Plus contract is simply a tool to be utilized to get the work done. In some respects, it presents clarity to pricing and costs to the owner. On the other hand, the contractor can have less incentive to drive the schedule and cut costs. The quality of work might be higher as the contractor can focus on this but is not certain. A great general contractor will push quality regardless of the circumstances. If your project is in the design phase, not certain of what your layout is to be or the finishes, the Cost-Plus model might be the perfect fit for you! Just be sure to make sure to negotiate the contract to include what matters most to you and be ready for extra legwork to manage the document trail the contractor should be sending your way.
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