What is a Cost Plus Construction Contract?
A cost plus construction contract is an agreement where the client agrees to pay the contractor for the actual costs incurred during construction, plus an additional fee or percentage for the contractor’s overhead and profit. Unlike fixed-price contracts, the total cost under a cost plus arrangement is not predetermined, which allows for greater flexibility but also requires careful management and transparency.
Key Components of a Cost Plus Contract
- Actual Costs: These encompass direct expenses such as labor, materials, equipment, and subcontractor fees.
- Overhead and Profit: A predetermined percentage or fixed fee added to the actual costs to cover the contractor’s overhead and profit margin.
- Reimbursable Expenses: Certain costs that may be covered by the client, such as permits or design fees, depending on the contract terms.
- Budget and Cost Control Measures: Provisions to monitor and control costs throughout the project.
Types of Cost Plus Construction Contracts
There are several variations of cost plus contracts, each suited to different project needs and risk profiles.
1. Cost Plus Fixed Fee
In this arrangement, the contractor is paid for actual costs plus a fixed fee that does not change regardless of the project’s total cost. This provides the client with some cost predictability while compensating the contractor fairly.
2. Cost Plus Percentage of Cost
Here, the contractor's fee is a percentage of the total project costs. This type can incentivize increased costs, so it requires careful oversight to prevent unnecessary expenses.
3. Cost Plus with Guaranteed Maximum Price (GMP)
A hybrid approach where the contractor is reimbursed for costs up to a specified maximum price. If costs exceed this amount, the contractor may absorb the additional expense, or the parties agree on how to handle overruns.
4. Cost Plus Incentive Fee
This variation includes an incentive for the contractor to complete the project under budget. If the project is finished below the target cost, the contractor receives a bonus; if it exceeds the target, their fee decreases.
Advantages of a Cost Plus Construction Contract
Understanding the benefits of this contract type helps stakeholders decide if it’s suitable for their project.
1. Flexibility in Design and Scope
Since costs are reimbursed, changes in project scope or unforeseen conditions can be accommodated without renegotiating the entire contract.
2. Transparency and Fairness
Client and contractor have clear visibility into costs, fostering trust and minimizing disputes related to billing.
3. Suitable for Complex or Uncertain Projects
Projects with ambiguous specifications, innovative designs, or unpredictable site conditions benefit from the adaptability of a cost plus arrangement.
4. Potential for Higher Quality Work
With less pressure to stay within a fixed price, contractors may be more willing to use higher-quality materials and methods.
Disadvantages and Risks of a Cost Plus Construction Contract
While offering many benefits, this contract type also presents certain challenges.
1. Less Cost Certainty for the Client
Since the total project cost is not fixed upfront, clients may face higher expenses than initially anticipated.
2. Requires Rigorous Oversight
Effective cost tracking, documentation, and transparency are essential to prevent cost overruns and disputes.
3. Potential for Increased Costs
Without strict controls, contractors might have incentives to inflate costs or extend project durations.
4. Possible Conflict of Interests
The contractor’s profit is directly linked to costs, which may sometimes lead to less emphasis on cost-saving measures.
Best Practices for Implementing a Cost Plus Construction Contract
To maximize the advantages and mitigate the risks, certain best practices should be followed.
1. Clear and Detailed Contract Documentation
Define scope, responsibilities, reimbursable expenses, and procedures for change orders explicitly.
2. Transparent Cost Tracking and Reporting
Use detailed records, regular reporting, and open communication to keep all parties informed about project costs.
3. Establishing a Budget and Cost Controls
Set a realistic budget and implement procedures such as approvals for changes to prevent excessive costs.
4. Including a Cap or Incentives
Incorporate a GMP or incentive clauses to provide cost certainty and motivate efficient project delivery.
5. Regular Review and Audits
Schedule periodic audits of expenses and progress to ensure compliance and identify issues early.
When to Choose a Cost Plus Construction Contract
Deciding whether a cost plus contract is appropriate depends on the project's nature and risk factors.
Ideal Scenarios for Cost Plus Contracts
- Projects with complex or evolving designs
- Uncertain or challenging site conditions
- When quality and flexibility are prioritized over cost certainty
- Projects involving innovative or experimental methods
When to Consider Alternatives
- When precise budget control is necessary
- For straightforward projects with well-defined scopes
- When the client prefers fixed costs for budgeting purposes
Conclusion
A cost plus construction contract provides a flexible framework suited to complex and dynamic projects, fostering transparency and accommodating scope changes. However, it requires diligent cost management, clear contractual terms, and regular oversight to prevent cost overruns and disputes. By understanding its various forms, benefits, and risks, stakeholders can make informed decisions and set up the project for success. Whether you are a property owner embarking on a custom build or a contractor navigating a challenging project, choosing the right contract type, including a cost plus arrangement, is essential for achieving your project goals efficiently and effectively.
Frequently Asked Questions
What is a cost plus construction contract?
A cost plus construction contract is an agreement where the contractor is paid for actual construction costs plus an additional fee or percentage for profit, allowing flexibility in project scope and costs.
What are the main types of cost plus contracts?
The main types include Cost Plus Fixed Fee, Cost Plus Percentage of Cost, and Cost Plus Incentive Fee, each varying in how the contractor's profit is structured.
What are the advantages of using a cost plus construction contract?
Advantages include increased flexibility, transparency in costs, and the ability to accommodate design changes during construction.
What are the potential risks associated with cost plus contracts?
Risks include potential for cost overruns, less cost control, and the need for rigorous monitoring to ensure transparency and fairness.
When is a cost plus construction contract most appropriate?
It is most suitable for complex, design-build projects or projects where scope and costs are uncertain or likely to change.
How can project owners control costs in a cost plus contract?
Owners can set a pre-agreed maximum limit, include cost controls, require detailed budgets, and conduct regular audits to monitor expenses.
What is the difference between a cost plus and a fixed-price contract?
A fixed-price contract sets a predetermined total cost, whereas a cost plus contract reimburses actual costs plus a fee, offering more flexibility but potentially less cost certainty.
Are cost plus construction contracts suitable for small projects?
Typically, they are more suitable for large or complex projects due to the administrative effort involved; for small projects, fixed-price contracts are often preferred.
What should be included in a cost plus construction contract to ensure clarity?
The contract should specify the scope of work, the method of cost reimbursement, the contractor’s fee structure, reporting requirements, and procedures for handling changes and disputes.
