Methods of Homebuilding: Fixed Cost vs. Cost-Plus

If you’re considering building a home, you’ll need to carefully calculate a budget for yourself, your builder, and every member of the homebuilding team. However, pricing strategies are likely to feel ambiguous, even random. The best way to proactively save yourself time and money is to understand the types of contracts builders use to price new homes. In most cases, you’ll be faced with the decision to go with a “fixed price” or a “cost plus” contract. Each has its own benefits and disadvantages, and one may be better suited to your project than the other. Below, we’ve outlined each type of contract to help you better understand the process.

 

The Fixed Price Method

Builders who utilize the fixed price method factor in all costs associated with building a home. This includes materials, labor, and the builder’s overhead for profit. The builder will present you with the total cost for the project—the amount you will pay once the home is complete. This type of contract will insulate you from potential cost overruns—if the project runs over budget, the builder will absorb the cost.

However, this is unlikely to happen; with this type of contract, builders are known to cut corners to make a better profit. Additionally, if your project comes in under budget, you will still need to pay the agreed upon amount. A fixed price contract lacks the transparency of other options, as you won’t know exactly how much materials, labor, and builder overhead will actually cost—you’ll only have the final number to budget around.

 

The Cost-Plus Method

Though more complex, most builders and buyers utilize the cost-plus method. In this strategy, the final price of a home will increase or decrease depending on the actual cost of materials and labor. This type of contract affords maximum transparency, as you’ll be able to see exactly what the builder is charging you for. If the project comes in under budget, you’ll pay less, and the fact that the builder’s fee isn’t threatened by your budget means they’re less likely to cut corners.

However, the cost-plus method is slightly harder to budget for. It can be difficult to anticipate project increases, meaning the cost of your home could be significantly more expensive than you anticipated. The fluidity of this contract may create room for disputes, and increasing trade tariffs could increase the price of materials over the length of the building process.

In the end, the type of contract you use will depend on your home builder; many have a preferred method, so be sure to ask about their pricing policy when choosing a professional. If you have some room in your budget, the cost-plus method may be the best choice for your project; you’re likely to get a better product and more transparency. If you’ve imposed a very strict budget, the fixed price method will be your best option. In each case, it is essential to build a personal relationship with your homebuilder.