Wednesday, October 25, 2006

Time & Materials vs. Fixed Price Contracts

Most of the home improvement contracts that I see are fixed price contracts. Homeowners ask for proposals and then choose a competitive bidder. Contractors must price jobs carefully. They should charge enough to cover costs and build in a percentage of profit, but they don't want to charge so much that they lose out on jobs. This forces contractors to build in a cushion for possible changes in prices of materials and/or labor. If contractors do not put a provision in the contract for increased prices, or make their proposals time-limited, they may put themselves in an unfortunate position where they barely break even.

It is understandable that fixed price contracts may not offer the cheapest possible alternative for homeowners or contractors. For that reason, there seems to be an increase in the use of time and materials contracts. The arrangement for these contracts is that the contractor gets paid on a weekly or biweekly basis either in advance, or as each phase is completed. There is an hourly rate for labor, and there can be a certain percentage added to the materials and labor for profit. At first glance, this type of contract can be advantageous for both parties. Homeowners are not paying for that extra "cushion" that contractors build into fixed price contracts, and contractors are ensured that they will make their fair profit.

However, this arrangment shifts the risk of pricing completely from the contractor to the homeowner. In this kind of contract, the homeowner is at the contractor's mercy, unless there are some kinds of checks and balances for the types of materials used and the actual time spent. In addition, the homeowner should make sure that there is a cap on the amount of the contract, or he or she could be giving the contractor a blank check.

Whereas fixed price contracts place the total risk for the profitability of the job on the contractor, a time and materials arrangement shifts the risk to the homeowner. Neither alternative is optimal. As with all contracts, the best arrangement is one in which there is as much detail addressed as possible. As long as the scope of the project is clear, the types of materials or allowances for items are spelled out, possible increases in prices are accounted for, and expectations are discussed, the parties can work out a contract that is fair for both sides.


At 8:26 AM, Blogger Aaron said...

Hi Nice Blog .If your time is less valuable, then it is probably less worthwhile to labor time tracker.

At 8:36 AM, Anonymous Anonymous said...

Hi just wanted to add a little to your opinion because it is an opinion there is great risk in a time and material contract. Contractors take advantage of this type of contract by dragging the time to complete the task of the job were as fixed price dose not allow this to happen and they have to do the job in a timely manner in order to make money.With a fix price contract homeowners know exactly how much there going to pay were in a T&M they could end up spending thousands of dollars more. So the risk of T&M vs fixed are much greater I can almost guarantee if you use a T&M contractor you will pay and pay a lot.

At 1:58 PM, Anonymous Anonymous said...

Well I am a time and material contractor. Once i get into a job I charge 35.00 per hour plus material. I dont mark up the material and I supply all copies of the receipts. I project a time to complete. this was the client saves and gets a quality job done. A fixed price contract allows contractors to cut corners and make huge profits in a short time leave the client with a half ass job.

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At 9:31 PM, Anonymous Anonymous said...

If paying a contractor a percentage of the contract based on time and material....I understand I pay th etas for the material, but should I pay a percentage on that tax? In California it is 8%.....that adds up...

At 9:32 PM, Anonymous Anonymous said...

If paying a contractor a percentage based on time and material....I understand I pay the taxes for the material, but should I pay a percentage on that tax to the contractor? In California it is 8%.....that adds up...

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