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4 common types of construction contracts

Contracts and construction work go together as business owners and leadership do. Whether it’s building from the ground up, renovating, or repair work, you need a contract to seal the deal. There are different types of construction contracts, but the most prevalent ones vary by disbursement. Common construction contracts include the following:

  • Lump-sum or fixed-price contract
  • Cost-plus contract
  • Time and materials contract
  • Unit price contract

Each of these contracts offers different benefits to the builders and owners. Duration of the project, expected work quality, and other specifications all impact which contract type you’ll use. These types vary and can be tailored based on specific project needs. Learn more about each contract type to help you determine the best one for your future construction work.

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Types of construction contracts

1. Lump-sum or fixed-price contract

Lump-sum or fixed-price contracts are the most common type of construction contracts. Like each of these contract types, you’ll find this one comes with its own pros and cons. Both the owners and builders benefit from a fixed-price contract’s certainty.

Owners avoid overpaying unexpected project costs because of the predetermined project scope and cost. And builders don’t take on the additional financial risk because of the project scope’s clarity. With a clear project scope also comes clarity through a defined schedule for construction and completion.

The possibility of budget restrictions means the builder may have to get creative with material sourcing or problem-solving. Otherwise, builders could suffer from a profit loss if the project moves past the projected scope. This percentage cost is often hidden in the fixed price (and can be adjusted based on the builder’s expectations).

2. Cost-plus contract

All financial risks go to the owners with cost-plus contracts. That means owners cover materials cost, project expenses, labor costs, and more. A previously negotiated total should cover the builder or contractor’s overhead and profit. This is based on the percentage of material and labor costs.

Most often, projects finish as planned, on time, and with little deviation from the original scope. Reduced builder risk means potential for profits.

Conversely, if contractors aren’t diligent about bookkeeping, it can be difficult to manage and track individual contractors. If caps aren’t pre-negotiated, it’s easier for the project to go beyond its original scope, too.

Safety inspector checking a list

3. Time and materials contract

Time and materials contracts are one of the more customizable types of construction contracts. You’ll find these best for small projects like repairs or renovations. Budgets don’t totally stifle builders either, allowing them more space to meet owner demands.

On the downside, unclear project scope can cause huge expenses if caps aren’t set ahead of time. It’s on both the owner and contractor to set these caps, such as hourly or daily rates for labor and one for additional expenses, too. These caps should also be clearly defined as direct, indirect, markup, and overhead.

4. Unit pricing contract

Unit price contracts are often for very large jobs. Most often, large developers, builders, and federal agencies use these to set prices ahead of time. Evaluating project costs is much easier with different category costs set by unit prices.

These prices are set during the bidding process based on owner requests for specific quantities and predetermined unit items. This removes the issue of inflated prices for goods and services on both the contractor and owner. Adjusting prices is easier, too, because everything has already been predetermined.

Due to the clarity in pricing, it’s tough to estimate costs for very large projects. Final cost is often left undefined, as certain unit prices may jump or drop in price throughout a project’s scope.

Explore more construction contract types

There are more than these types of construction contracts, but you’ll find these common types can be tailored by the contractor and builder type. You’ll also learn that specialized contracts come with their own challenges, too.

Navigating the ins and outs of construction contracts means proper planning and clear concept ahead of time. Builders need clarity to provide the best project results possible. And owners owe it to themselves to demand high quality for the work they contract out.

The best way to protect your business or profit margin is with clear communication. The contract protects both the owner and builder, so don’t be wary of putting your expectations on paper.

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