Fixed cost vs. Cost plus pricing

Hello again from Olson Defendorf Custom Homes.

Today we are going to discuss fixed cost building vs. cost plus building.

Everyone knows that a homebuilder is in business to make money by building homes. The path homebuilders take to determine the amount they make is paved with many intentions, some good and some bad. There are two main ways to come up with a cost to build your home, fixed cost and cost plus.

Below is an explanation of both.

Fixed cost method
This requires the builder to obtain bids upfront from their subcontractors, before construction starts. The builder then requires that subcontractor to honor the bid after the work is complete. There are no price changes unless the homeowner changes something from the plan. The advantage to you by building a home this way is that you will know what the cost is before you even begin. You know what the subcontractor costs are, and what the builder is making for profit. There is never an “over budget” situation, unless you make changes.

Cost plus method
This method uses a percentage above the cost to determine profit for the builder. The builder and you agree on a percentage, usually between 10-20%, and you pay all bills for construction plus the agreed upon percentage. This method is inherently flawed in favor of the builder because there is no incentive to keep the price down. The more the subcontractor charges, the more money the builder makes. Some builders prefer this method because they are not responsible for any budgets, upfront bids, timelines, etc. They give an estimate that is usually lower than a fixed cost “bid” to get your business. When the final bills come in, and they are more than the estimate (they are always more than the estimate) there is nothing you can do. There is no accountability. Actually the builder makes more money, and typically you are too far along to change builders.

We have actually finished many homes for our customers who “fired” their builder because of this method. Some customers have said they can solve this problem by paying the subcontractors directly, cutting the builder out except for his percentage. However, here are two of the most common examples we see with a builder getting around this.

#1 - The builder tells his subcontractor he doesn’t care what the bill is because he already has signed the contract with the customer. The bill, as usual, comes in higher than normal, and the builder doesn’t question it because the more the subcontractor charges the more the builder makes. This is the most common scenario.

#2 – The builder tells the subcontractor to pad or add money to his bill, and once you pay the bill they will split the difference or go on a fishing trip, etc. This isn’t as common, but we’ve still seen it happen.

We never recommend using the cost plus method to build a home. It is lazy on the builder’s part. You will be disappointed, and it will cost you more money in the end.

Olson Defendorf Custom Homes is a fixed cost builder. You will know the price to build your home before we begin construction, or even sign a contract for that matter. There are no “surprises.”