Building a custom home is likely one of the most expensive projects you’ll ever experience! It’s very important that you are familiar with how custom home builders charge so you don’t have any financial surprises during your build!
You should have an in-depth conversation with your builder so you are VERY CLEAR on how he will charge you for your build … BEFORE YOU START BUILDING! The key is for him to be as transparent as possible. All of his fee information and bids should be clearly communicated in your construction contract.
Below I will cover the two ways custom builders typically charge clients: fixed-price and cost-plus.
With a ‘fixed-price’ contract, your builder plans out every detail of your home and gets bids ahead of time and gives you a ‘final’ cost of your home (including the builder fee).
Of course, you are responsible for paying for any upgrades (i.e. allowance overages) and change orders, BUT your builder is financially responsible for covering mistakes (e.g. subcontractor mistakes or material mistakes) and labor/material price increases during your build. This gives your builder an incentive to keep mistakes to a minimum and to complete your home in a timely manner because his profit margin decreases with mistakes and/or with any material/labor price increases during your build.
Some builders do add clauses into the contract (e.g. You have 60 days from the execution of the contract to start construction, or else the builder has the right to re-price the project), so MAKE SURE to read the ENTIRE contract … clauses and all!
Be sure your builder includes a VERY detailed specification (specs) list in your construction contract so he can’t simply choose the lowest priced materials to save money. Your builder will take this list of specs to all of the subcontractors to get a bid. It can take some time to collect all the bids before he can provide a final cost for your house.
Typically, you will pay your builder (via your construction loan) in a pre-determined draw schedule (i.e. a detailed payment plan in which you make payments to the contractor as work is completed). Again, this is something you want to be very clear on before you start building.
- You know in advance how much your house will cost
- Your builder/contractor will look for the best deals on materials
- Your builder/contractor will move the job along efficiently to save money
- There aren’t any surprises because you are already quoted your final price (provided you don’t go over your allowances or do change orders to upgraded materials)
- Your builder is responsible for paying for any mistakes and material/labor price increases (again, read all clauses in your contract!)
- Your bid might not be as competitive as a cost-plus bid because your contractor needs to build in a small contingency fund for unforeseen events related to the build
- Construction can be delayed because it takes a while to receive all the subcontractor bids
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With a cost-plus contract, you pay the builder the actual cost of construction PLUS an agreed upon fee to your builder (typically a percentage of the home cost; however, some builders take a fixed fee). YOU (the homeowner) are responsible for financially covering mistakes and any material/labor price increases during your build. Not only do you pay more for these price increases and/or mistakes, but your builder fee also goes up because it is a percentage of the final cost of the house.
Builders tend to use cost-plus pricing when house costs are harder to predict (e.g. large custom home or very unique home). Basically, your builder will give you a rough estimate of what he *thinks* it will cost to build your desired home. There is very little data (i.e. bids) collected from subcontractors.
- This can be more competitively priced than a fixed-price home build because the builder takes on less risk
- Even with a competitive estimate, your cost can skyrocket if expensive mistakes pop up or there is a rise in material and/or labor costs during your build
- There is little incentive for your builder to competitively price materials because the cost is passed on to the homeowner PLUS the builder’s percentage fee goes up if material pricing goes up (because this affects the final cost of the house)
- There is little incentive for your builder to complete your home build in a timely manner because he isn’t paying for the extra cost of loan fees and/or potential material and labor price increases
- Uncertainty with the final price of the completed home
Note: Please contact a local builder, local attorney, and/or local lender for more detailed information. I am simply supplying the base information you need to get started. This is not a substitute for actual legal or financial advice!
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In this post, we covered the two typical ways that custom home builders charge clients: fixed-price and cost-plus. Both options have their own pros and cons; however, a fixed-price contract appears to benefit the client more than a cost-plus contract.
The bottom line is that you need to choose a builder you feel comfortable with. The most important thing is that your builder is completely transparent and that he clearly communicates all material/labor specs in your construction contract.
If you want to dive a little deeper, be sure to download my *FREE* Custom Home Build Prep Guide and learn the 5 crucial steps to prepare for a home build with less stress, more confidence, and without blowing your budget!