Fixed-Price Vs. Cost-Plus Contract: What’s the Difference?
You’re considering a home renovation project and have started exploring different contractors to do the work. Some offer a contract with a clearly defined up-front cost based on a predetermined scope of work. Others allow you the freedom to design as you go. In this model, you pay for the contractor’s expenses plus an additional amount for profit and overhead. For you to decide which option is best, you need to understand the difference between fixed-price and cost-plus contracts.
As one of the Portland area’s top remodeling firms, our team at Lamont Bros. provides custom home remodeling using a fixed-price contract model. However, while a fixed-price contract often provides great benefits for a home remodel, it’s not always the best option. In some cases, a cost-plus contract better suits the needs and expectations of the homeowner.
In this article, we’ll help you understand the difference between fixed-price and cost-plus contracts. Once you’ve read through it, you should be able to identify the advantages and disadvantages of both options. With that information, you can decide for yourself which type of contract is best for your remodel. The topics we’ll discuss include:
What is a fixed-price contract?
In construction, a fixed-price contract is a contract in which the price is agreed upon before construction begins. With a fixed-price contract, the contractor agrees to perform the scope of work defined by the contract. This is typically accompanied by a complete set of designs. In exchange, the homeowner agrees to pay the contractor a fixed sum of money for the completion of the work.
Advantages of a fixed-price contract
For many homeowners who care about project predictability, a fixed-price contract offers many advantages. Here are the benefits homeowners appreciate most:
You know exactly how much the project will cost
A fixed-price contract sets a clear price for a remodeling project based on the scope of work. When you sign a fixed-price contract, you lock in that price, making the contractor responsible for completing the work within the agreed-upon budget. This keeps the homeowner in control of the cost from the start of construction.
The project plans are complete before construction begins
Because the price is based on the scope of work, a fixed-price contract requires a detailed set of design plans. As a result, you get to plan and proofread your remodel designs with your contractor to make sure that what gets built is exactly what you want. The design process often involves a professional design team to help you solve issues within your home.
Fewer surprise costs
In a fixed-price contract, the contractor bears most of the financial risk if the scope of work does not change. If something takes longer to complete, requires more material than expected, or has to be re-done due to installer error, those unforeseen costs don’t get passed up to the homeowner.
However, sometimes a surprise during construction changes the scope of work required to complete the job. For example, you discover a plumbing line in a wall that was to be removed, requiring more plumbing work. In this case, changing the project may require a change order at the expense of the homeowner. So, while the homeowner still bears some financial risk, the contractor still assumes most of the burden.
Requires little to no homeowner administration
Because the contract has a fixed price, there is no need for the homeowner to review receipts. The contractor accounts for all of the materials and budget items during the design phase. So, rather than having to approve expenses throughout the project, the homeowner only needs to sign the contract and leave the contractor to their business.
Disadvantages of a fixed-price contract
A fixed-price contract also comes with a handful of disadvantages. Here are the most common:
Limited design flexibility after construction begins
Once the contract has been signed, it becomes much more difficult to alter the project’s design.
Modifications to the scope of work may require a change order, which serves as an amendment to the contract. Filing a change order may result in additional costs and delays to the project.
The design & budgeting process takes longer
When you work with a contractor on a fixed-price contract, it often takes longer for construction to begin. Because the fixed price is a hard number, it has to have a clearly defined design plan to back it up. Developing that plan set takes time. You and your contractor will spend several weeks planning and budgeting out the project. Only after this is complete can you sign the contract and move to construction.
Less flexibility regarding the budget breakdown
Many fixed-price contracts do not include a detailed budget breakdown of the project. For homeowners who would like to pick and choose which budget items are part of the project, this can present a difficult hurdle. Because the fixed prices is directly tied to the scope of work, a homeowner looking to save costs must alter the scope of work rather than remove items from a budget breakdown.
What is a cost-plus contract?
When working with a cost-plus contract, the homeowner agrees to pay the contractor the cost of material and labor plus a predetermined percentage of profit. A cost-plus contract functions like a “pay-as-you-go” system. The contractor agrees to provide ongoing services and purchase products and materials for the project. In exchange, the homeowner reimburses the contractor for their expenses and pays them an additional amount for labor and material profit.
Advantages of cost-plus contracts
Working with a cost-plus contract may provide some benefits not offered by a fixed-price contract. Some of the most prominent benefits are listed below.
You can begin construction quickly
Cost-plus contracts don’t require the same extensive planning and design work as fixed-price contracts. If you have a general idea of what you want the project to look like, your contractor can begin construction without needing a full plan set to work with.
You have more design flexibility throughout the process
With a cost-plus contract, your remodel cost isn’t tied to a specific set of design plans that your contractor must follow. Consequently, there’s more room to develop and alter the design as you build. This is a great advantage for homeowners who prefer to design the project as they go rather than have it all designed from the start.
The contractor can prioritize artistry and craftsmanship
Under a cost-plus contract, the contractor is not limited by a predetermined budget. As a result, they can take more time to complete the work, which often allows for more artistic expression and attention to even the most minute detail. Having this freedom can produce especially excellent workmanship in finish carpentry and highly-specialized trades such as building spiral stair banisters.
More transparency for budget items
Cost-plus contracts are structured around the costs incurred by the contractor. These costs are submitted to the homeowner in the form of receipts, which the homeowner then reviews and reimburses. A byproduct of this system is that the homeowner can see exactly how the money is spent and can review each individual budget item based on the submitted receipts.
Disadvantages of cost-plus contracts
In spite of their benefits, cost–plus contracts also come with a handful of drawbacks. Here are the most common complaints regarding cost-plus contracts.
You have little control over the cost of the project
Once construction begins, a cost-plus contract’s price can balloon out of control. The homeowner may end up paying significantly more than expected, as the actual cost of the project may exceed the initial estimates. This can result in budget overruns and financial strain. However, even when a project runs over budget, the homeowners are often left with little choice but to proceed, as leaving the project unfinished would waste what money was already spent.
There is a higher potential for disputes
Cost-plus contracts have been known to create disputes between the homeowner and the contractor over the actual costs incurred during the project. These disagreements are usually over what constitutes a reasonable expense or how much freedom the contractor has to act without the homeowner’s approval. For these reasons, cost-plus contracts are 3 times more likely to end up in court than other types of contracts.
Requires more homeowner administration
Working with a cost-plus contract can present an administrative burden for the homeowner. They will need to review and approve all of the contractor’s expenses and invoices throughout the process, which can be a time-consuming and complex job as long as the project goes on.
How to decide between a fixed-price and cost-plus contract
Now that you know the difference between a fixed-price and cost–plus contract, it’s time to apply that knowledge. Here are a few factors to consider when deciding which of the two to use for your home improvement project.
How much financial risk are you willing to assume?
For most homeowners, finances are a major consideration in the home remodeling process. For those who consider their budget a defining factor of their remodel plans, a fixed price often makes the most sense. It’s a way to ensure your project stays within your budget and places most of the financial risk on the contractor.
However, if money is less of an issue to you than having control and flexibility during construction, a cost-plus contract might make more sense. Although going this route involves the client assuming much more financial risk, cost-plus contracts can still be a good option if the benefits outweigh the risk.
How much control do you want to have during the construction process?
If you want to be able to easily guide and direct the scope of your remodel during the construction process, you might choose to go with a cost-plus contract. Because the price is not bound to a specific set of design plans, a cost–plus contract allows the freedom to alter the project as you see fit.
However, if you’d rather design the remodel beforehand and entrust the construction process to a professional team, a fixed-price contract might be better suited to your needs. Remodeling projects built under a fixed-price contract require very little homeowner involvement once construction begins.
Control isn’t only related to cost — if you know a lot about construction and want to be personally involved with the project throughout the process, a cost-plus contract might be better for you. Some homeowners want to work directly with every single subcontractor and review every hour spent at the job site. It’s also common for some homeowners to want to purchase their own materials for the project rather than have their contractor source the products for them.
At Lamont Bros, we once worked with a client who was a commercial construction project manager. This client wanted to be intimately in charge of all the details of construction, which our fixed-price system could not accommodate. Eventually, we mutually decided wasn’t a good fit to do a project together because their expectations were better fit for a cost-plus contractor.
How important is the balance between uniqueness and cost?
For homeowners whose top priority is to have the most unique, customized project available, they’re likely looking for a cost-plus contractor. In cases like this where money is of little object, cost-plus allows your contractor to dedicate their attention and craftsmanship without thought of budget.
However, for homeowners who are more concerned with balancing uniqueness and customizability with cost-effectiveness and practicality, a fixed-price contract may be more appropriate. Under a fixed-price contract, the contractor has a greater responsibility to control costs. As a result, they must find a finer balance between the cost and craftsmanship of the project.
Have you done previous projects with this contractor?
A cost-plus contract means that all of the risk for budgeting and estimating the project is on you. If you’ve worked with a contractor before—and done similar projects together—a cost-plus contract could make sense.
By nature, cost-plus contracts tend to give the contractor more freedom with the client’s money than fixed-price contracts. This isn’t always a bad thing, but it requires a tighter working relationship to work on an agreed-upon budget where you bear the risk, the contractor doesn’t. If you have a contractor who you work with regularly and you are confident in their estimating, a cost-plus contract can often make sense.
However, it’s important to be careful about who you trust with a cost-plus contract. At Lamont Bros., we have had several clients come to us after working with cost-plus contractors who only completed part of the project before exceeding the client’s budget. They were frustrated with the unpredictable costs and the contractor’s negligence or ignorance during the estimating process. For this reason, they decided to seek out a contractor who used a fixed-price contract to provide more stability for their project than a cost-plus contract could offer.
Want to learn more about the Design-Build Process?
By now, you should be able to identify the difference between a cost-plus and fixed-price contract and should have a pretty good idea of which one is best for your upcoming remodel. Now, take the next step in your research. To learn more about the design-build process and how a team like Lamont Bros. can provide you with a great remodeling experience, check out our Process Overview.
Want to speak directly with a designer about your dreams for your upcoming remodel? Click the button below to schedule a free design consultation with a member of our team. We’ll help you turn your current home into your dream home.