Pricing Options for Home Construction Contracts, Explained

Any residential construction contract needs to contain three things: 

  1. A clearly stated its price 
  2. What’s included for that price 
  3. How changes will be handled

It looks simple, but “how much to charge?” and “how should you charge?” can be some of the most challenging questions residential contractors face.

Home construction contracts are typically get priced in one of two ways: 

  1. Lump sum agreements, in which the contractor agrees to a scope of work and submits a price to perform that work, or…
  2. Cost-plus or time-and-material (T&M) agreements in which the contractor simply passes its costs onto the homeowner. (Contractors can also bill on a “unit-price” basis but that’s less common in residential work.)

In T&M contracts, the contractor bills its costs for labor, equipment, and material, but includes a markup rate as part of its costs (e.g., a higher labor rate than is actually paid to employees). 

Meanwhile, in a cost-plus contract, the contractor bills for actual costs plus a separate amount for overhead and profit, either a fixed fee or a percentage of the project’s total cost.  

But: What does the markup include — and what *doesn’t* it include?  

For example, project management and supervision: Does the markup overhead cover that, or can the contractor bill for some or all project supervision? Is there a Guaranteed Maximum Price or a not-to-exceed price?

These are questions you should have clear answers for at the outset. 

Also, for T&M or cost-plus contracts, the customer will typically want an estimate of how much the total project will cost. 

But: Does your estimate include everything in the scope of the project, with any necessary exclusions or clarifications to help the customer understand the scope of the estimate? 

And: Does the estimate or contract include language clearly stating that the estimate is. only. an. estimate. of projected costs…and that the customer will be billed based on *actual* costs incurred?

If not, the customer may think the estimate is a “not-to-exceed” figure. If nothing else, this gives them a reason to feel upset when the actual costs inevitably exceed the estimated costs.  (That said, resist the urge not to provide an estimate. Provide one, and manage the customer communications.)

If there are significant changes to the design or project requirements from the homeowner, then the contractor should issue written change orders to account for those changes and increased costs.  And if nothing else, document the change in writing to the customer, with confirmation of the anticipated cost impact. You can do this while also keeping the lump sum nature of the contract.

If you’re a home construction contractor and would like help with your residential construction contract, fill out our contact us form. Reference this article and you’ll get a complimentary consultation with one of our legal team members. 

You can also find more related information in our Guide to Avoiding Residential Construction Contract Nightmares.