Construction Agreement: A Guide for Owners and Contractors

What is a Construction Agreement?

A Construction Agreement is a legally binding contract between a property owner (Client) and a construction contractor (Contractor) that defines the terms for a building or renovation project. This document outlines the scope of work, payment terms, timeline, responsibilities, and procedures for managing the construction process from start to completion.

A well-drafted construction agreement protects both parties, prevents disputes, ensures quality work, and provides a clear framework for managing complex building projects.

Types of Construction Contracts

Lump Sum (Fixed Price)

• Total price agreed upfront
• Contractor assumes cost risk
• Simple and predictable for owner
• Best for well-defined projects
• Contractor responsible for cost overruns

Cost Plus

• Owner pays actual costs plus contractor's fee
• Contractor's fee is percentage or fixed amount
• More flexible for changes
• Requires detailed cost tracking
• Better for complex or uncertain projects

Time and Materials

• Owner pays hourly labor rates plus materials
• Used when scope unclear
• Maximum price cap often included
• Detailed records required
• Higher risk for owner

Unit Price

• Price per unit of work (per square foot, per cubic yard)
• Good when quantities uncertain
• Final cost depends on actual quantities
• Common in civil engineering projects

Essential Components

1. Project Description

• Property location and address
• Detailed scope of work
• Plans and specifications
• Materials and finishes
• Permits and approvals required

2. Contract Price

• Total contract amount or pricing method
• Payment schedule tied to milestones
• Retention (typically 5-10% held until completion)
• Allowances for uncertain items
• Handling of change orders

3. Timeline

• Start date
• Completion date
• Intermediate milestones
• Liquidated damages for delays (if applicable)
• Extensions for weather or owner delays

4. Payment Terms

Typical Schedule:

• Deposit/mobilization: 10-20%
• Foundation complete: 25%
• Structure/framing: 25%
• Enclosed/roofed: 20%
• Substantial completion: 15%
• Final payment after punch list: 5-10%

5. Change Orders

• Process for requesting changes
• Pricing of additional work
• Written approval required
• Time extensions for changes
• No work proceeds without signed change order

6. Warranty

• Workmanship warranty period (typically 1-2 years)
• Structural warranty (often 5-10 years)
• Manufacturer warranties on materials/equipment
• Exclusions from warranty
• Remedy procedures

7. Insurance and Liability

• Contractor's liability insurance
• Workers' compensation
• Builder's risk insurance
• Owner's property insurance
• Indemnification clauses

Rights and Responsibilities

Contractor's Obligations

1. Performance: Complete work per plans and specifications
2. Quality: Use proper materials and workmanship
3. Schedule: Complete on time or communicate delays
4. Safety: Maintain safe work site
5. Permits: Obtain required permits (if specified)
6. Cleanup: Keep site reasonably clean and perform final cleanup
7. Warranty: Honor warranty commitments

Owner's Obligations

1. Access: Provide site access
2. Payment: Pay per schedule
3. Decisions: Make timely selections and decisions
4. Cooperation: Don't interfere with contractor's work
5. Final Inspection: Conduct timely inspections

Contractor's Rights

1. Payment for completed work
2. Reasonable time to perform
3. Notice of defects for correction
4. Payment for extra work (change orders)
5. Lien rights if not paid

Owner's Rights

1. Quality work per contract
2. Timely completion
3. Correction of defects
4. Access to site during construction
5. Withhold payment for cause

Payment and Change Orders

Progress Payments

• Tied to work completed, not time
• Inspected before payment
• Retention withheld
• Lien waivers obtained
• Payment within specified days (e.g., 7-14 days)

Retention

• Percentage held until project complete (typically 5-10%)
• Protects owner if work incomplete or defective
• Released after final completion and lien waiver
• May be reduced for substantial completion

Change Orders

Must Include:

• Description of change
• Cost impact (increase or decrease)
• Schedule impact
• Signed by both parties
• Issued before work begins

Common Contract Clauses

Substantial Completion

• Project usable for intended purpose
• Minor items remain (punch list)
• Triggers final payment timeline
• Warranty period begins
• Certificate of occupancy obtained

Punch List

• List of minor incomplete or defective items
• Created at substantial completion
• Contractor corrects within specified time
• Final payment after completion

Liquidated Damages

• Pre-agreed daily amount for late completion
• Must be reasonable estimate of actual damages
• Not a penalty
• Calculated from completion date
• Owner deducts from payments

Force Majeure

• Excuses delays from events beyond control
• Weather, strikes, disasters, pandemics
• Contractor entitled to time extension
• Usually no additional payment
• Notice required

Warranty Period

• Typically 1-2 years from substantial completion
• Contractor repairs defects in workmanship
• Materials covered by manufacturer warranties
• Normal wear and tear excluded
• Owner's abuse excluded

Dispute Resolution

Prevention

1. Clear specifications
2. Regular site meetings
3. Written communications
4. Prompt change orders
5. Fair dealing

Resolution Methods

Negotiation: Direct discussion between parties

Mediation: Neutral facilitator helps reach agreement

Arbitration: Binding decision by arbitrator

Litigation: Court proceedings as last resort

Termination

Termination for Cause

Owner may terminate if contractor:

• Abandons project
• Fails to perform per contract
• Violates material terms
• Becomes insolvent

Contractor may terminate if owner:

• Fails to pay
• Repeatedly interferes
• Suspends work without cause

Termination for Convenience

• Owner may terminate for any reason
• Pay for work completed
• Reimburse mobilization costs
• Pay reasonable profit on work done

Common Mistakes to Avoid

1. Vague Scope: Unclear what's included
2. No Written Contract: Relying on verbal agreement
3. Inadequate Insurance: Insufficient coverage
4. Poor Communication: Not documenting issues
5. Rushed Decisions: Not reviewing thoroughly
6. Ignoring Permits: Starting without approvals
7. No Change Order Process: Informal changes
8. Unrealistic Schedule: Too aggressive timeline

Best Practices

For Owners

1. Get Multiple Bids: Compare at least 3 contractors
2. Check References: Verify past work quality
3. Verify Insurance: Confirm coverage is current
4. Review Plans Carefully: Understand what you're getting
5. Set Realistic Budget: Include 10-15% contingency
6. Don't Pay Upfront: Limit initial deposit
7. Inspect Regularly: Visit site frequently
8. Get Lien Waivers: With each payment
9. Don't Rush: Take time to review decisions
10. Keep Records: Document everything

For Contractors

1. Clear Scope: Define exactly what's included
2. Detailed Estimate: Break down all costs
3. Written Changes: No verbal change orders
4. Document Conditions: Photos of existing conditions
5. Communicate Proactively: Alert owner to issues early
6. Quality Subs: Use reliable subcontractors
7. Maintain Insurance: Keep coverage current
8. Clean Site: Maintain professional appearance
9. Meet Deadlines: Or communicate delays immediately
10. Honor Warranty: Stand behind your work

Legal Considerations

Licensing

• Contractor must be properly licensed
• Verify license current and in good standing
• Different requirements by jurisdiction
• Specialty licenses for certain trades

Permits

• Building permits required for most work
• Electrical, plumbing permits for those trades
• Contractor usually obtains (verify in contract)
• Work must pass inspections
• Certificate of occupancy at completion

Lien Rights

Mechanic's Liens:

• Contractor's security for payment
• Can be filed against property if not paid
• Strict notice and timing requirements
• Owner should obtain lien waivers with payments

Bonding

Payment Bond: Guarantees subs/suppliers paid

Performance Bond: Guarantees project completion

Typically required for:

• Public projects
• Large commercial projects
• When owner requires protection

Conclusion

A comprehensive Construction Agreement is essential for any building project. It aligns expectations, defines responsibilities, establishes clear payment terms, and provides mechanisms for handling changes and disputes. Both owners and contractors benefit from taking time to negotiate fair terms and document everything properly.

Success in construction requires clear communication, realistic expectations, quality work, and fair dealing. A well-drafted agreement provides the foundation for achieving these goals.

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Disclaimer: This article provides general information only and does not constitute legal advice. Construction laws and requirements vary significantly by jurisdiction. Consult with qualified legal and construction professionals for specific projects.