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Negotiating a construction contract – What type of contract should I use?

Standard form contracts are the best starting point to negotiating a construction contract. They are used commonly throughout New South Wales, are tried and tested, have often been the subject of judicial review and therefore set an initial common ground upon which the parties can build upon (excuse the pun) by adding special conditions, instruments of agreement, etc.
Following is an introduction to some of the questions and issues which arise when an owner or developer turns their mind to need to procure the works, and initiate negotiation.

Lump Sum Contracts

A lump sum contract is a contract which specifies a fixed price for a fixed scope of works.
 Things to consider before signing a lump sum contract:
  •  Contractor caries the majority of the risk that the work must be completed within the lump sum price. This usually results in the contractor including a contingency amount within the lump sum.
  • There is lower risk to the owner that the price will exceed the lump sum however the owner may pay a premium for this.

  • There may be a benefit to both parties in knowing the total cost from the outset of the project.

  • If the contractor has under-priced the work this may lead to a compromise on quality in order to complete the work with the lump sum price. Accordingly, it may not always be beneficial to an owner to accept a price which is significantly lower than the others.

  • The lump sum price is not a guaranteed maximum price and will increase in some circumstances, such as if changes are made to the works (i.e. “variations”), if the physical conditions of the site are different than anticipated (i.e. “latent conditions”), if some of the work could not be accurately costed and was estimated as a provision with the lump sum price (i.e. “provisional sum”).

  • Lump sum contracts are the most common types of contracts for residential building work.

The main standard form Lump Sum contracts available include:

  •  Master Builders Association BC4 Contract (for residential building work).
  • Office of Fair Trading Home Building Contract for work over $20,000.

  • AS 4000-1997 General Conditions of Contract.

  • AS 2124-1992 General Conditions of Contract


Cost Plus Contracts

A cost-plus contract is a contract which provides that the owner/developer will pay the contractor’s actual cost to undertake the work plus an amount for profit. The profit component is usually expressed as a percentage of the cost of the works however it may also be an allowance paid on a weekly, fortnightly or monthly basis.
Under a cost-plus contract:
  •  There is little, if any, risk to the builder. The builder is not exposed to risk of under-pricing the work.
  • Work can commence prior to completion of the design and there is flexibility to alter the design.

  • Depending on the nature of the work, the detail in the design documents and the extent to which the design has been completed, cost-plus contracts may result in the work costing more and taking longer than anticipated due to “on-the-go” design changes being made. Sometimes the owner in a cost-plus contract falls into the habit of providing instructions to the builder on a “do and charge” basis and in the process loses sight of the increase in costs.

  • A cost-plus contract (for residential building work in New South Wales) should include an estimate of total cost to complete. The original estimate will be of limited relevance however if substantial changes are made to the works.

  • In our experience, disputes arise more often with a cost-plus contract for residential building work as compared with a lump sum contract.

  • Sometimes what constitutes a “cost”, or how a cost is valued, under the contract, may be confusing. This is especially the case when the contractor spends time on the design related work such as researching materials, fixtures or fittings.

  • Theoretically, on an apples-for-apples comparison, the contractor should be able to undertake the work for a lower price if a cost-plus contract (as opposed to a lump-sum contract) is used however in reality, due the nature and risks associated with construction work, such a benefit may be difficult to realise.

The main standard form Cost-Plus Contracts available include:

  • Master Builders Association Cost Plus Residential Contract.

  • Master Builders Association BC3 Contract (for commercial building work).


Construction/Project Management Agreement

A Construction Management Agreement or Project Management Agreement is not a building contract per se as the construction manager or project manager does not perform and is not usually responsible for the building work. The building work is undertaken by the “sub-contractors” who are engaged and paid directly by the owner/developer.
  • The construction/project manager may or may not be a licenced builder however the agreement will usually stipulate that the manger is not undertaking the work as a builder but is acting as the owner/developer’s disclosed agent.

  • In the case of residential building work (as defined by the Home Building Act 1989) the owner/developer will be required to obtain a home building permit from the Office of Fair Trading.

  • For the purposes of the Home Building Act 1989, an owner builder is not a builder but an owner. Accordingly, all sub-contractors who contract directly with an owner for an amount over $20,000 must have home warranty insurance (i.e. Insurance under the Home Building Compensation Fund). This will likely add to the cost of the work and may reduce the pool of sub-contractors willing and able to undertake the work.

  • In our experience Construction Management Agreements or Project Management Agreements are usually not ideal for residential building work.

  • Construction Management Agreements or Project Management Agreements are often useful when the work is of limited nature but is complicated or subject to tight tolerances and requires specialist advice, testing, commissioning and supervision.

  • Under these agreements the owner/developer retains a high level of control over the work however this may also become an administrative burden, particularly so if multiple sub-contractors make claims under the Building and Construction Industry Security of Payment Act 1999.


Design & Construct Contracts

A Design & Construct Contract makes the contractor responsible for design. The degree of responsibility and the time the contractor becomes responsible for design differ from project to project. The contractor may be responsible for design at the initial development phase, or responsibility may be novated to the contractor once the owner/developer is satisfied its design requirements are met.

In relation to Design & Construct contract:

  • These are favoured by developers, particularly in relation to the construction of residential strata buildings however are also often used for individual high-end residential dwellings.

  • In addition to the construction risk, the contractor also takes responsibility for the design build-ability. Essentially the contractor represents that the design will be suitable for the specified requirements and this requires the contractor to have professional indemnity insurance with run-off cover for 6 years. Naturally, the contractor charges a premium for this however there are different pricing mechanisms which may be used depending on the design functions being performed.

  • A benefit of having the contractor involved in the design, particularly at an early stage, is to identify potential cost savings which may arise from alterations to the design.

  • May involve the developer’s design consultants being novated to the contractor and this will usually require an induction process which best occurs prior to the contract commencing.

  • If the design consultants are not novated to the contractor, the owner/developer will retain more control over the project however it will also be responsible for design related defects.

The main standard form Design & Construct contracts available include AS 4902-2000 and 4300-1995. These may be used where the contract price is a lump sum or is based upon a schedule of rates.


Superintendent Administered Contracts


A superintendent Administered Contract is one which provides that a third party, engaged and paid for by the owner/developer, performs certain functions under the contract either as an “administrator” on behalf of the owner or as an independent “certifier”. The superintendent is not a party to the contract.

  • The main aim of having a superintendent under the contract is to assist the owner/developer in maintaining quality control and compliance with the contract terms and design concept.

  • Superintendence is obviously an additional charge and whether it is justified usually comes down to the owners/developers personal time and knowledge to administer the contract, desire for unique design and superior quality of construction.

  • Prior to entering into the contract it is important for the owner/developer to consider the role the superintendent will play under the contract and the those functions which will be performed as an agent for owner/developer (i.e. as an administrator”) and which functions will be performed, if any, as a independent certifier.

  • The distinction between a superintendent acting as an administrator and as a certifier is important. Where the superintendent performs a function as a certifier there will usually be a requirement that that function is performed reasonable and in good faith. The owner/developer will also have an obligation to ensure that superintendent satisfies this requirement. At times, this may be perceived as a detriment to owner/developer.

  • Often the superintendence is performed by the architect who was responsible for the original concept or design. Sometimes this may be the cause of tension between the contractor and the superintendent as the contractor may claim that issues in the build arise from design and the superintendent may respond that the issues arise from poor workmanship, lack of experience, etc. on the part of the contractor. For example, conflict may arise in such circumstances where the superintendent is required to certify delay costs payable to the builder or extensions of time to the builder.

  • Sometimes the superintendent is an employee of the developer.

The main standard form contracts providing for superintendence include:

  • ABIC Major Works or ABIC Simple Works Contracts (provide for superintendence by an Architect).

  • AS 2124-1992.

The information provided in this article is general information only and should not be relied upon as legal advice or be used as a substitute for obtaining legal advice. The specific circumstances relating to you impact upon your legal rights and obligations and personal legal advice based upon your circumstances should be obtained. This area of law changes frequently and the law may have changed after the time this article was prepared, up-to-date legal advice should be obtained. Please do not hesitate to contact Williamson Lawyers if we may be of assistance.

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