Cost Plus Fee Building Agreements
Dear Victoria and David*,
Work completed through a cost-plus fee building agreement is invoiced on a time and materials basis - clients pay actual costs plus a fee.
Cost-plus fee building agreements are based on a project budget. Actual costs will vary from the budget in two ways: one, scope changes. The scope can change based on owner or architect directed changes, local jurisdiction (code) required changes, by selecting and purchasing items more or less expensive than budgeted, or by remediating concealed conditions. These changes are akin to change orders under a stipulated sum building agreement. These scope changes do not require client consent to proceed. Examples include an owner requesting additional exterior lights or remediating soil that does not have sufficient bearing capacity for footings. Two, budget variance: This is the difference between budgeted costs and actual, without a scope change. Examples of budget variance include lumber budgeted at $5.10 per board that actually costs $4.30 per board or 12 hours of labor to complete a task that was estimated at 9 hours. The net of budget updates and budget variance shows the total difference between budgeted costs and actual costs. This difference is always estimated until the project is complete and the last invoice submitted.
Clients assume greater risk under this form of agreement. The difference between budgeted costs and actual costs is the responsibility of the client, regardless of the amount or origin of the difference. For example, an inaccurate budget estimate does not shift responsibility for the budget variance costs to the builder. Clients should set aside a contingency for budget variance to address this risk. The amount of contingency varies based on the scope and complexity of the project.
With risk comes potential reward. Clients can realize the benefits of reduced or on-budget actual costs. In a stipulated sum agreement, builders include a contingency to cover variance and unexpected costs. If they don't spend this contingency, they retain this value (they add to their margin) at the end of the job. In a cost-plus fee building agreement, if the contingency is not spent, the client retains the value of the contingency.
This form of agreement is arguably the fairest way to contract for work for both the owner and the builder. Direct costs, overhead costs, and profit are transparent to all parties. All costs are charged directly, so no one benefits or loses based on this variance - it simply is what the market presents.
Cost-plus fee agreements are sometimes challenging to manage. One reason for this is that information about the comparison between actual costs and budgeted costs lags well behind completed work. Another reason relates to site visits: when a client stops by their project under construction and sees the electrician on break and eating a sandwich at 10:30 am, it is easy to wonder how they are invoiced for that time.
This information is for awareness. These challenges can be resolved with trust, verification, and communication.
P.S. Contract questions aside, any chance for a Spice Girls come back tour?
*Full disclosure: not only have we never worked for Victoria and David Beckham, we've never actually met them. Indeed, I'm not sure we've ever been in the same city at the same time. They seem like fun people, though, and we would be happy to build a home for them. If any of you are close friends with them, we would be grateful for an introduction!