Contract Types

Lump Sum Contract

A lump sum contract is the most basic form of agreement between a contractor and a customer. A lump sum contract will require the contractor agree to provide specified services for a stipulated or fixed price. In a lump sum contract, the owner has essentially assigned all the risk to the contractor, who in turn can be expected to ask for a higher markup in order to take care of unforeseen contingencies. A contractor under a lump sum agreement will be responsible for the proper job execution and will provide its own means and methods to complete the work. This type of contract usually is developed by estimating labor costs, material costs, and adding a specific amount that will cover contractor’s overhead and profit margin. If the actual costs of labor and materials are higher than the estimate, the profit will be reduced. If the actual costs are lower, the contractor gets more profit. Either way, the cost to the owner is the same. A lump sum contract is a suitable if the scope and schedule of the project are sufficiently defined to allow the contractor to fully estimate project costs.

Cost Plus Contract

The cost plus contract is an agreement which involves the buyer’s consent to pay the complete cost for material and labor in addition to the amount for contractor overhead and profit. This contract type is favored where the scope of work is highly uncertain or indeterminate in addition to the types of labor, material, and equipment being similarly uncertain in nature. Here, the contractor's profit is set at a fixed amount. If actual costs are lower than the estimate, the owner keeps the savings. If actual costs are higher than the estimate, the owner must pay the additional amount. The advantage of a cost plus contract is that, generally speaking, the project will result in the building that was envisioned, even if costs run high. The builder is less likely to cut corners or argue for less expensive materials because his profit is not in jeopardy. Three key types of cost plus contracts are:  Cost + Fixed Percentage Contract - Compensation is based on a percentage of the cost.  Cost + Fixed Fee Contract - Compensation is based on a fixed sum independent the final project cost. The customer agrees to reimburse the contractor's actual costs, regardless of amount, and in addition pay a negotiated fee independent of the amount of the actual costs.  Cost + Fixed Fee with Guaranteed Maximum Price Contract – Compensation is based on a fixed sum of money. The total project cost will not exceed an agreed upper limit.

Guaranteed Maximum Price

A Guaranteed Maximum Price (also known as GMP, Not-To-Exceed Price, NTE, or NTX) contract is a cost-type contract where the contractor is compensated for actual costs incurred plus a fixed fee subject to a ceiling price. The contractor is responsible for cost overruns, unless the GMP has been increased via formal change order (only as a result of additional scope from the client, not price overruns, errors, or omissions). Savings resulting from cost underruns are returned to the owner. This is different from a lump-sum contract where cost savings are typically retained by the contractor and essentially become additional profits. Sometime, savings are shared between the owner and the contractor as an incentive to keep costs down.

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