Types of Construction Contracts and their Comparison [PDF]

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There are different types of construction contracts, and their comparison is presented in this article. A construction contract is an agreement between two or more parties to execute the construction works as per certain terms and conditions.

A construction contract contains general and special conditions of agreement, details of construction project work, their specifications, time limits, payments and penalties for delivery delays, etc. and ensures every party's rights and obligations.

A construction contract document is a valid document that can be enforced under a certain authority or law.

Types of Construction Contract Documents

At the early stages of any construction project, the owner with his engineer or consultant prepares necessary documents for the tender process, which will be included in the contract. These documents are called contract documents.

Types of Documents in a Construction Contract

The different types of documents in a construction contract are as follows-

1. General conditions
2. Special conditions
3. Drawings and specifications
4. B.O.Q (bill of quantity)
5. Letter of acceptance
6. Contractor bid

Conditions of Construction Contract

The conditions of contract are terms that rule the relationships between the owner and the contractor, define each party's rights and obligations, specify the method of payment and determine actions required when existing any disputes between the owner and the contractor.

1. General conditions of contract
2. Special conditions of contract

1. General Conditions of Contract

They are standard terms that suit the majority of projects; they include:

1. Definition of the project
2. Contract components
3. Rights and responsibilities for the owner and the contractor
4. Project schedule
5. Payment method
6. Warranty and delay penalty

2. Special Conditions of Contract

They are the modifications required to suit the uniqueness of the project, make the contract flexible for the nature of the project, and achieve project objectives.

Selection of Type of Construction Contracts

One of the characteristics of construction projects is uniqueness. Every project has its particular circumstances, so it's crucial to select the contract type which suits the project. The owner develops the process of selecting the type of contract.

Factors affecting the selection of construction contract

1. Project objectives

The type of contract should meet with the project objectives.

2. Project constraints

There isn't any construction project without constraints. Thus, project constraints should be considered while selecting the type of construction contracts.

3. Project delivery method

The project delivery method determines the relationships between parties getting involved in the project and how they interact with each other, from project initiation to project closure.

Types of Construction Contracts

There are many types of contracts used in construction. Each type has its advantages and disadvantages concerning the owner and the contractor. They are categorized into two major groups as per the method of payment to the contractor. The following are the types of construction contracts generally used in construction projects:

1. Lump-sum contract
2. Unit price contract
3. Cost-plus contract
4. Target cost contract

Price-based Construction Contracts

1. Lump-Sum Construction Contract

In this type, the contractor bids a single fixed price for overall activities in the project scope. The contractor is responsible for estimating project costs from drawings then adds overhead and his profit to determine the value of the project.

All risks are assigned to the contractor, and there isn't any risk carried by the owner. The contractor has an incentive in this contract as he is rewarded for an early finish, and there is a penalty for a late finish.

This contract is ideal when the project scope is well defined at the design stage because there is limited flexibility for modifying the design during the construction period.

2. Unit Price Construction Contract

The total price of the project in the unit price contract is based on the price of each item's unit. The contractor is paid as per the rates of items specified in the bill of quantity.

The risk is shared with the contractor and the owner. This type of contract has more flexibility for design changes than the lump sum contract.

The construction of the project can be started before finishing the designs, so the total cost of the project will be uncertain at the early stages of the project.

Cost-based Construction Contracts

3. Cost Plus Construction Contract

The contractor is paid based on the actual cost of the project, including direct and indirect costs, plus a specific fee. This fee could be a fixed fee or percentage of costs.

All risks are assigned to the owner, and he gets involved with the contractor in the management of the project. The contractor has no risk in case of increasing the cost of the project; also, there isn't any incentive for an early finish.

This type of contract is ideal when the project scope is uncertain in the early stages of the project. The contractor can start the execution of the project before finishing the design. It is impossible to estimate the cost of the project before the construction has been completed.

4. Target Cost Construction Contract

Target cost contract has common features of the lump sum and cost-plus contracts. The contractor is paid based on the actual costs plus a certain fee either fixed or percentage of total cost in case of the cost of the project doesn't exceed certain target cost specified by the owner.

There is a risk carried by the contractor in case of an increase in the cost of construction projects. The contractor is also rewarded a percentage of any savings between target and actual cost.

Comparison Between Different Types of Construction Contracts

Table 1: Comparison Between Different Types of Construction Contracts

Point of Differentiation	Lump-Sum Contract	Unit Price Contract	Cost Plus Contract	Target Cost Contract
Advantages with respect to the contractor	Incentives for early finish	Low risk	No risk	Rewards for any savings between actual and target cost
Disadvantages with respect to the contractor	High risk	No incentives for early finish	No incentives for early finish	Share risk with the owner
Advantages with respect to the owner	No risk   Total cost is defined at early stages	Share risk with the contractor	Can start a project without finishing designs	Target cost is defined at early stages
Disadvantages with respect to the owner	Contractor desire to decrease costs may be to the detriment of quality	Total cost is uncertain at the early stages	High risk   Total cost is uncertain at the early stages	Share risk with the contractor
Flexibility of design changing	Limited flexibility	Has flexibility to change design	More flexible to design stages	Limited flexibility

FAQs

Read More: 
1. Change Orders in Construction Contracts – Types, Features, and Components
2. What is Construction Bidding?
3. FIDIC Contracts – Forms of FIDIC Contracts and Their Uses