Lump Sum Construction Contracts

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All construction projects are unique, but they share a lot of similarities — including when it comes to the work understanding. In that location are 5 common types of construction agreements that brand up the majority of contracts across the Usa. While they tin can share much of the aforementioned linguistic communication and provisions, the primary difference between them is the way payment is calculated for the work and materials provided. In this commodity, we'll explore the lump sum contract, including when it is commonly used, and the pros and cons for contractors.

What is a lump sum contract?

A lump sum contract, also known as a "stipulated sum contract," is a construction understanding in which the contractor agrees to complete the project for a predetermined, set toll. Under a lump sum agreement, the contractor submits a full projection cost instead of bidding on each private item.

Still, this doesn't necessarily mean that the entire sum is paid in a single payment at the cease of the contract. A lump sum contract can define a total price for the projection, but however telephone call for progress payments to be made over time throughout the job.

A lump or stipulated sum is simply a single amount of money for completing the entire scope of work outlined in a construction contract. This sum includes the toll of work, any general condition costs, and the contractor's fee.

Payment is tied directly to the pct of work completed. A stipulated or lump sum contract is best used on projects where the scope of piece of work is incredibly conspicuously divers — let'due south become over some scenarios where that applies.

When to employ a lump sum contract

There are some situations and projects where lump sum contracts tin exist the best choice for everyone involved. More often than not speaking, projects that work best under lump sum contracts have two crucial factors:

  1. They have a clearly divers scope of work
  2. They are relatively straightforward to complete

For instance, a deck builder could practise quite well using lump sum contracts. The design and drawings are ordinarily straightforward and remain unchanged throughout the project, which defines the telescopic. The lumber package is generally purchased all at one time, minimizing the furnishings of fluctuations in materials pricing on the contractor'due south bottom line.

On more complicated projects, similar commercial building structure or multi-stage renovations, lump sum contracts might non work as well. Because of the complexity of many projects, unplanned changes are common. Differing site weather condition can quickly throw a wrench into even the best laid plans. The more moving pieces there are on a projection, the less probable a contractor is to choose a lump sum contract.

On federal government projects, many projects operate under a fixed-price contract, which is very similar to a lump sum agreement. The government prefers these contracts, believing that they are the best way to use taxpayer dollars for acquisitions and projects. Under Federal Conquering Regulations (FAR), there are several options for fixed-toll contracts that cover well-nigh scenarios.

Lump sum pricing

Because a lump sum contract features i overall toll, without consideration of the actual costs, the contractor had better get that price correct. The sum comes from comprehensive plans, detailed structure specifications, and a little chip of trust.

Successfully using a lump sum contract means properly anticipating the project's schedule, all material, and labor costs, also as knowing how much to build into the price for a profit margin and overhead costs. What'south more, that contractor had better exist certain that the owner won't be trying to phone call for changes throughout the life of the project.

Let's dig further into the pros and cons and then you tin meliorate understand why these contracts do or don't work for a given project.

Lump Sum Contract Pros & Cons

The Pros of Lump Sum Contracts

Lump sum contracts can provide benefits for both sides on a construction project. Here are some of the biggest advantages.

Simplicity

Lump sum contracts are the simplest form of construction contract. They're easy to draw upwards and easy to empathise. The contract documents clearly country the work in question and how much money the contractor expects at the cease of the projection.

Contractors similar lump sum contracts because they provide some autonomy and liberty to complete the task. Owners similar lump sum contracts because owners know exactly what the project volition toll them at the end. They don't have to worry about over-inflated man-hours or material markups. The price is what it is.

Profitability

When a contractor uses a lump sum contract at the outset of the project, they build a bit of insurance into the full price. This insurance protects them from expected but unforeseen contingencies.

If the contractor tin can command their overhead costs and the issues that come about are minor, they go to proceed this built-in insurance fund. Considering that profit is already a slice of the overall toll, this additional greenbacks is a bonus.

Financing is easier

Other contracts with more fluid pricing tin can be challenging to secure financing for. With open-concluded contracts, lenders go concerned with overinflated man-hours and mounting contingencies.

By and large speaking, owners have an easier time securing financing with a lump sum contract. Lenders appreciate knowing how much a project will cost at completion. They're more willing to provide funding on these projects since the entire project's scope is nether one contract with a prepare value.

Paperwork is straightforward

By nature, projects that motion forward under a lump sum contract have very few paperwork requirements. Payments tend to leave on a progress schedule, so owners don't need to business themselves with material costs and human-hours. This means that contractors don't need to create painstakingly detailed invoices or complicated pay apps. Payments are easy.

Cash menses is easier to manage

When y'all take a detailed payment-roadmap alee of yous, it'due south easier to budget and manage your cash menses. Lump sum contracts tend to include pct payments at certain stages in the project, minus whatever memory. Knowing what the overall cost of the project volition exist, they know how much to expect and when to expect it. This schedule and percentage make accounts receivables and cash flow much simpler hurdles to articulate.

Unlike price plus or time and materials contracts, initial mobilization costs are less likely to strangle the contractor under a lump sum contract. They'll have to put less of their ain cash out at have-off before the first progress payment comes through.

The Cons

Every bit we already mentioned, lump sum contracts aren't always sunshine and rainbows. Here are some of the primary drawbacks.

Loftier contractor gamble

When a contractor agrees to a fixed-price contract, they presume all the risk involved with bringing the project to completion. As mentioned earlier, they built a chip of insurance coin into the cost, simply problems can chop-chop surpass that fund.

When a lump sum project runs over upkeep, the contractor shoulders any cost overruns. The owner doesn't pay more than if material prices skyrocket. If an issue comes upwardly requiring additional material or labor, the price doesn't modify. All of these actress costs are the contractor'due south responsibility.

Potentially more than expensive

It's understood and accepted that contractors frequently pad the cost when pricing out a lump sum contract. Owners know that the contractor is assuming the run a risk on the project, so they're willing to spend a bit extra for the peace of mind. This makes lump sum contracts more expensive than other contract formats.

The owner doesn't e'er get their money's worth, however. Since the contractor has quite a bit of autonomy under this agreement, they tin can—and should—shop effectually for the best price on materials. Dishonest contractors may attempt to substitute inferior materials in order to pad their profits on the project.

Projects can't be fluid

As stated before, both parties involved in a lump sum contract need to exist clear on the telescopic of work. This is the simply fashion for the contractor to provide an authentic bid and consummate the project to the agreed-upon specifications. That besides ways these contracts can't be fluid.

Changes that occur during the project can be fourth dimension-consuming and paperwork-laden. A contractor needs to go a change guild from the owner for any adjustment to the scope of work. Change orders are the only way to protect the scope from creeping and reshaping the contractor's lesser line.

Other contract types absorb changes much easier.

Contractors tin hide their profits

The paperwork involved in a lump sum contract is far less detailed than nigh other contract forms. There's less need for the contractor to supply itemized materials lists or provide subcontractor and supplier quotes to the owner. This lack of itemization allows the contractor to shift costs around and hide their bodily turn a profit.

Unbalanced bids are common on lump sum projects. The contractor shifts some of the turn a profit to the markup in materials or labor to hide their bodily profit margin from the possessor. While a lump sum is a lump sum, this lack of transparency tin can let the contractor to boost their toll a bit, considering they'll never take to produce an itemized invoice to prove their costs.

Common disputes with lump sum contracts

Disagreements and misunderstandings happen on nigh projects. There are a few mutual dispute types that occur under lump sum contracts.

It's important to understand that these contracts are not very transparent. The possessor is never really certain where the costs lie and how much the contractor is making on the project. Contractors will naturally hide their margins, and that blazon of secrecy follows down the payment concatenation. At whatsoever point in the chain, this air of distrust can crusade disputes.

Scope creep tin be a problem likewise. Contractors often feel obligated to accept small-scale changes to avoid upsetting the customer and prolonging the payment procedure. Several of these changes over fourth dimension tin can change the face of the entire project. Without change orders for these adjustments, the contractor might observe their turn a profit shrinks or that they're fighting to recover cash for changes without the records to prove they were at the owner'southward behest.

Lump sum compared with other contract types

In that location are other contracts available that might create a better, more lucrative or artistic project for both the owner and the contractor. When a circuitous project is on the tabular array, or the owner isn't quite certain what they're looking for, these might be worth checking into.

Lump sum vs. cost-plus

If you're embarking on a project without a articulate telescopic of work, y'all might consider a cost plus contract. Under this format, a contractor receives reimbursement for the cost of the work, plus a fixed fee. These costs include direct costs like materials and labor, also equally indirect costs like administration and mobilization. The contractor's profit comes as a per centum of those costs, predetermined in the contract.

Compared to lump sum contracts, cost-plus is far more than paperwork and assistants heavy. Contractors accept to document every price and provide detailed invoices. This level of item makes the project very transparent but complicates the payment application process.

However, greenbacks period tin can besides get an event. In most cases, bankrolling the project'south initial stages falls on the contractor. This can lock up a lot of cash in a hurry.

The do good of a toll plus contract to a contractor is that they'll receive reimbursement for any and all costs on the chore. Changes don't affect their turn a profit almost equally much every bit they do with a lump sum agreement. The project can modify and evolve, which can exist a great benefit to an possessor.

It'due south not all roses for owners in a cost plus scheme. This agreement doesn't encourage a contractor to become the best cost on materials. In fact, it's quite the reverse. Since profit is a percentage of the costs, the more expensive the cloth, the greater the profit.

There's also no incentive for early completion of the project. Labor is a direct toll, then the more man-hours on the project, the higher the profit. With a lump sum contract, the contractor benefits from wrapping upwardly early and moving onto the side by side project.

Lump sum vs. time & materials (T&K)

A time and materials contract is another format that works well when the scope of the project is unclear. Under this contract, the contractor receives reimbursement for the materials as well as a daily or weekly labor rate. This allows time and materials contracts to exist very fluid and adaptable—a pregnant benefit to both the contractor and the owner on complex projects

When comparison both to lump sum contracts, time and materials contracts share many of the same pros and cons as cost plus contracts. There'south very little incentive to wrap upward the project apace, just the contractor knows they'll receive payment for any changes in materials or telescopic along the way. However, cash flow in the early on stages of the projection is yet a trouble.

Time and materials paperwork is more complicated than lump sum—information technology must be painstakingly precise to recover all of your costs. Also, dishonest contractors tin can still inflate the manhour numbers to heave their profit. However, there's less reason to boost materials costs since there isn't a percentage tied to them.

Lump sum vs. unit toll

When an owner has an overall idea of what they want, but the roadmap to getting there isn't exactly clear, unit price contracts can work extremely well. Unit price contracts are essentially a series of lump sum contracts throughout the entirety of a project. The projection breaks down into stages, and a contractor will provide a fixed price to complete each stage.

Unlike lump sum contracts, unit of measurement toll contracts deal with changes pretty well. If a major outcome arises, the contractor can handle information technology as an additional unit and provide a cost to consummate it. This allows the possessor to make changes at volition and piece of work with the contractor to create a better project.

Also dissimilar to lump sum contracts, these projects rarely have a predetermined number of units. They can rapidly become runaway trains with total costs far exceeding what the owner was expecting.

Similar to a fixed-price agreement, unit cost contracts are susceptible to unbalanced bidding and front-loading. To heave their greenbacks flow at the offset of the project, contractors will include costs from later stages in the earlier phases. If the telescopic of piece of work changes, the possessor could be unwittingly paying the contractor for work they won't be completing.

Lump sum vs. Guaranteed Maximum Price

Equally the name suggests, a guaranteed maximum price is the virtually an owner is willing to pay for a projection. While a GMP contract tin can stand on its own, owners can include GMPs in other contract types too. They can exist similar to a lump sum cost contract.

GMP projects can exist quicker to get off the ground as they're easier to find funding for. Lenders appreciate knowing the maximum amount of a projection early on. There'due south also room to negotiate with owners to share the price savings with contractors, incentivizing efficiency and finishing sooner.

Similar lump sum, GMP contracts put a lot of risk on the contractor. Should the project toll exceed the GMP corporeality, those additional costs will come out of the contractor's pocket, non the owner's. Contractors will often effort to negotiate the GMP too, which could dull the procedure down.

Choosing the right type of contract

For the best chance at a project going off without a hitch, a stipulated sum or lump sum contract requires a crystal clear telescopic of work. The project too needs to exist relatively simple, with as few variables as possible. In this scenario, a lump sum contract works incredibly well for the contractor. On the other hand, a hazy or dirty telescopic of piece of work is a recipe for a payment issue under a lump sum contract.

If you're sure you've washed your homework, a lump sum contract could be very equitable and beneficial for both you and the project possessor.

Summary

Article Proper noun

Are Lump Sum Contracts Also Basic for Structure? | Construction Contracts

Clarification

A lump sum contract can brand life a lot easier for both you and your customer at the start of a structure job, only it can too lead to issues after.

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Matt Viator

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