Cost Plus vs Fixed Price Construction Contracts

So you've decided to build your own custom home, have browsed popular house plan styles and and now want to hire a General Contractor (GC) to oversee constructing your home plans and manage the subcontractors but you don't know what a fair management fee is. In this post, we discuss the common construction management fee structures and what you should expect for different cost tiers.

House Construction Cost Structures:

Fixed Price:

While attractive to the homeowner, fixed price homebuilding contracts are becoming more rare because of the variance and uncertainty in costs of materials and labor. 

Pros:

  • The GC is incentivized to keep costs low during the build

  • The homeowner is able to budget with certainty and without stressing that there will be cost overruns since there is a price guarantee.

Cons:

  • The cost incentive can lead to poor quality workmanship or hiding defects to get the job done cheaply.

  • Contractor will tend to quote a higher price to try to cover their risk.

Cost Plus:

When a GC quotes you a cost plus contract they will typically provide an estimate of the range of costs for each major line item in the build so you have a pretty good idea of what it will cost when it's complete. To that sum, they add a fee (typically 10-25%) which is the GC's profit. 

Pros:

  • As a homeowner, you will get exactly what you want with more control over the quality and materials during the construction process, with the ability to bring your custom house plans.

Cons:

  • A lack of transparency can lead to unscrupulous GCs taking advantage of the homeowner by seeking kickbacks from subcontractors.

  • GC has less incentive to reduce costs during the build because cost overruns will be passed on to the homeowner.

 

Cost Plus Home Construction Contract Fees:

As we mentioned above, new construction general contractor fees tend to range from 10%-25% of the build price.

Why such a High Price Range?

10%-25% of the build cost would equate to $50,000-$125,000 of a $500,000 house build. That's a huge price range for what is essentially the same service. 

The magnitude of the fee is going to be a factor of the current level of demand vs supply in your local market. Contractors will adjust their fees higher as demand grows and cut their fees as demand falls. High fees will attract more contractors to get involved in the local market. 

While normally, costs can be a signal of the quality of service, quoted fees can be misleading in the construction industry because of capacity constraints. For example, a busy contractor who really doesn't have the capacity to properly take on another job will often quote an abnormally high price, hoping to either drive you off or get you to pay the excessive cost to build your dream home.

This is why it's important to get multiple quotes and properly vet your potential builders - we have a post on that here. In recent years, many builders have increasingly tried to trap potential homeowners into their bids by requiring that you pay a non-refundable down payment before they will give you a quote on your floor plans. If required, we recommend not paying that fee until you are absolutely certain that you want to go with that contractor. Reach out to at least 3 local, qualified builders to ensure that you're getting the best cost-plus fee structure for your house design.

House Plan Bidding Tips:

  • If you want to use a cost-plus contract but are worried about cost overruns, talk to your contractor about a Guaranteed Maximum Price (GMP). 

  • If you want to use a fixed-price contract and are worried about quality, then mandate periodic construction inspections.

  • Since cost-plus fees are a factor of demand, try getting bids when demand is at it's seasonal low

  • Work with real estate agents .

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