Explore the Types of Contracts in Construction Projects

Choosing the appropriate contract type is highly decisive in construction projects.  

A contract between the owner, the contractor, and all the stakeholders explains and frames all sorts of dos and don'ts regarding the management of the project, risk allocation, and, ultimately, the success of the endeavor.  

There is a need to manage the uncertainty surrounding the construction work by knowing the various types of contracts to ensure easy smooth execution without delays, cost overruns, or disputes. 

Knowledge of which contract is best suited for your project can assist in mitigating risk and clarity throughout the project lifecycle for construction workers. 

In this blog, we will take a closer look at the different types of contracts used by the construction industry and trace through how each impacts the pace and outcome of a project. 

Key Takeaways: 

• Construction contracts clearly define the roles, risks, and expectations of the parties involved. 

• There are various contracts to suit particular scopes and conditions of a project. 

• The right contract choice mitigates risk, controls costs, and ensures compliance.  

Choosing the Right Contract  

One of the earliest and most important decisions you are likely to make when starting any construction project is the type of contract that governs the work.  

A construction contract does much more than manage the flow of money between the owner and the contractor.  

Unlike so many other industries, construction faces many external risks, fluctuating material costs, unpredictable weather delays-and the list goes on. That makes construction contracts very important since they define both the legal and financial frameworks in which the risks are being managed.  

Misallocated or misunderstood risk leads to a total ability of disagreement. Hence, the challenge is aligning your contract with the specific needs and complexities of your project.  

Learn about the most commonly used types of contracts in construction and see where they fit. 

1. Lump Sum Contracts (Fixed-Price Contracts)

For most projects, lump sum contracts are often favored. This is simply because they provide clarity. The other name for such contracts is known as the fixed-price contracts.  

They refer to an agreement where a specified agreed-upon price is set for the entire project. Such contracts are best for any projects where a clear scope is defined from the very beginning.  

Suppose, for example, you are doing a residential construction project. In this case, a lump sum contract is appropriate because you likely know what needs to be done from foundation to roof.  

As the owner, you would know the cost, while the contractor takes responsibility for administering costs for labor, materials, and equipment.  

However, there is a catch involved, that is, any increase in cost borne by the contractor, which means, as a result, they tend to add some cushion. That sometimes makes the initial cost higher. Any change order after signing the contract may raise a dispute, and the change orders tend to pump up any six-figure project too. 

2. Cost-Plus Contracts

This cost-plus contract focuses more on reimbursing the contractor for actual project costs, with an additional fee designed to be representative of profit.  

This type of contract really tends to work best where the scope of work is ambiguous or in any instance where the scope of work may evolve.  

A cost-plus contract is the best choice if you are managing a project with many unknowns, such as a large commercial development with design elements which change mid-construction.  

Flexibility and adaptation to the ever-changing character of the project will be possible, with the contractor being paid for actual costs incurred.  

The biggest risk to the owners is the cost overrun. Without any maximum price limit, costs could move into the stratosphere. That's why many cost-plus contracts possess a Guaranteed Maximum Price (GMP) clause, capping total project cost at a certain level. 

3. Time and Material Contracts

Time and material contracts can be applicable if the scope of a project is vague, but work has to start immediately.  

They pay the contractor according to time and materials consumed during construction. It pays only for what one has consumed, so it's a good option where project details change with time.  

Suppose you are managing a big renovation of a historical building. Hidden challenges may emerge as the work starts, depending on the condition of the structure. A time and material contract pays for time and materials while avoiding the price setting in advance.  

While helpful as this contract can be in managing flexibility, it definitely does come with ballooning costs. It's often a very monitored type of contract in order not to let the project get too expensive over time.  

4. Unit Price Contracts

Unit price contracts are always preferred for civil engineering projects such as roadways or infrastructure, where the amount of work or materials may fluctuate.  

In these unit price contracts, a large project is divided into measurable units, for which the contractors are paid according to the work done or the amount of materials used.  

Such an agreement type would ensure payments and are quite relevant to work progress, given the fact that the risk of overpayment before much significant work is less probable.  

Unit price contracts have implications on the management process only if accurately monitored and measured. If, in fact, there is no follow-through record of work on that particular job, you will find a disparity between what has been done and what has been paid for.  

5. Design-Build Contracts

Design-build contracts combine into one both the design and construction phases of the contract. Here, designing and construction get confined into one piece, so this is an excellent choice for the owner wanting it streamlined as well as reduce the time spent from conception to completion.  

Such contracts are also particularly useful for projects where time is of the essence, especially infrastructural work within a government or private sector firm where speed to market is an urgent factor.  

The advantage of a design-build contract is that it puts a stop to the back and forth between designers and contractors in traditional projects.  

6. Design-Bid-Build Contracts

On the other hand, design-bid-build contracts are more traditional in application.  

This separates the designing and construction into two separate stages; first, the owner engages a design team to prepare architectural and engineering plans, then the owner solicits bids from the contractors, and construction commences once the winner of the bid is determined.  

This method enables the owner to have more control over design, but projects based on this method usually take longer than other available methods.  

Also, design feasibility or material selection issues may cause designers or contractors to dispute it.  

7. Guaranteed Maximum Price (GMP) Contracts

One of the more owner-protective contract options is GMP.  

The GMP, or Guaranteed Maximum Price contract, is a contract that protects owners, any items that might exceed the predetermined ceiling would be borne by the contractor.  

This would provide the owner with cost certainty because the contractor would bear the risk of any cost overrun.  

However, because the contract holder is at much greater risk in this scenario, the contractor may include higher profit margins in his bid for himself to be safe in case of unexpected expenses.  

8. Integrated Project Delivery (IPD) Contracts

IPD contracts are all about collaboration.  

The benefit of such a contract is that designers, contractors, owners, and even suppliers have to be collaborative participants since the project begins.  

Shared risk and transparency form the core essence of the IPD contract, promoting teamwork and reducing adversarial relationships that may arise from a traditional contract structure.  

IPD contracts will, thus be applied in complex projects like a health facility or a big infrastructure project requiring cross-functional collaboration for the purposes of solving technical challenges.  

Final Thoughts 

There are too many complex construction contracts to work with.  

Knowing the various types can actually clarify issues and make for better decisions.  

With a robust contract management system like Dock 365, this whole process can be streamlined. Built on the trusted Microsoft 365 platform, Dock 365 features can manage the lifecycle of contracts-from creation to tracking, reporting, and compliance management. 

Dock 365 integrates very well with Microsoft Word, SharePoint, and Teams, offering real-time collaboration and centralized data storage to avoid the risks of miscommunication or delay. 

Although it seamlessly integrates with Microsoft Word, SharePoint, and Teams, integration of Dock 365 means that there is real-time collaboration, which reduces the chances of miscommunication or delay. 

Whether your contract is a simple lump sum contract or a more complex IPD agreement, Dock 365 can automate key processes and give you real-time visibility into how your contract's performing.  

This will help your management of contracts be streamlined, reduce possible risks and strengthen collaboration, so your construction project stays on track. 

Take your first step towards easier, more successful projects today by requesting a demo with Dock 365 and help you manage your construction contracts much better. 

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