Phone:(214) 310-1491

Explaining the Different Types of Construction Contracts

Explaining the Different Types of Construction Contracts

There are many differing versions of construction contracts depending on the parties’ situation and
needs. Below are some of the basic types of construction contracts, along with their associated
benefits and drawbacks.

Cost-plus contracts: Often used when the scope has not been clearly defined, such as when the
project design is still being finalized and the owner wants to begin construction. An owner agrees
to pay the cost of the work, including all trade subcontractor work, labor, materials, and equipment,
plus an amount for contractor’s overhead and profit. Since the contractor is reimbursed only for
actual costs, plus a fee for overhead and profit, if actual costs are lower than estimated, the owner
gets to keep the savings. If the actual costs are higher than estimated, the owner must pay the
additional amount, unless the cost is capped at a guaranteed maximum price. The advantage of a
cost-plus contract is that the project will result in what was intended, even if costs run high.
However, despite the lower amount of risk for the contractor, these contracts are harder to track
and more supervision is needed.

Stipulated sum contracts: require that the contractor agree to be responsible for the proper job
execution at a set price. The owner has essentially assigned the risk of project costs to the
contractor, who can be expected to ask for a higher markup to anticipate unforeseen problems. If
the actual costs of labor and materials are higher than estimated, the contractor’s profit will be
reduced. If the actual costs are lower, the contractor’s profit increases. Either way, the cost to the
owner is the same.

Design-build contracts: appropriate when the owner wants one entity to be responsible for both
design and construction. Design-build is usually the preferred contracting method under a tight
schedule, and design-build contracts are often awarded through negotiation rather than through a
bid process. With a design-build contract, the owner hires a design-builder (typically a contractor)
to handle the entirety of a project. The design-builder is responsible for all design and construction
required to complete the project.

Integrated Project Delivery (IPD) contracts: a project delivery approach that integrates people,
systems, business structures, and practices into a process that collaboratively harnesses the talents
and insights of all participants to optimize project results, increase value to the owner, reduce
waste, and maximize efficiency through all phases of design, fabrication, and construction. IPD
principles can be applied to a variety of contractual arrangements, and IPD teams can include
members well beyond the basic triad of owner, architect, and contractor.

Note: When forming a contract, it is imperative that each party to the contract completely and fully
understand the terms and provisions of the contract. Anytime you sign a contract, you should
understand the consequences of each clause in the contract. This may sound like common sense,
but many times a party does not fully understand the impact and effect of the contract they are
signing. Contracts are not one size fit all. There are many different types of construction contracts,
which can be tailored to minimize and protect a party’s interests.