Guaranteed Maximum Price Contracting

If you’ve never met a GMP contract, let me provide an introduction. GMP is a handy tool put to good use by many contractors.

Back in July of 2010, I explained why home improvement contractors in six states (CA, IL, MA, NV, PA and TN) use GMP contracts. In those states, time & material contracts aren't legal for most residential work and can't be enforced. That makes GMP contracts an obvious choice. What I didn’t explain back in 2010 was how to write a GMP contract. So here goes.

Think of GMP as a hybrid T&M contract. You invoice for time and materials but also have a guaranteed maximum price. A deal like that meets state requirements, no matter where you build.

Here’s how to draft a good GMP contract, step-by-step:

1. Define the contract price. That’s your cost plus a fee. Your fee could be a percentage of all other costs or a lump sum or a set amount per week or month.
2. Define your cost. That’s usually labor, materials, subcontracts, equipment, supervision and overhead. Make your definitions tight enough so there’s no room for quibbling. More about this later.
3. Decide what records you’ll provide with each invoice. A spreadsheet with receipts and timecard backup is best.
4. Set a guaranteed maximum price in dollars and cents – usually about 25% more than what you would bid on a fixed price basis.
5. Finally, decide how any savings will be split. Fifty-fifty is a good starting point for negotiations. If actual job cost is less than the GMP, savings are split between owner and contractor by this formula.

As with any contract, careful drafting will head off most disputes. Here are the hot spots in any T&M contract:

• What’s included? The answer: Everything reasonably necessary to finish the job. Subpart 31.201-3 of the Federal Acquisition Regulations has the best definition I know for “reasonable” in a construction setting.
• Labor cost includes wages plus taxes, insurance and benefits based on payroll. If you want, list hourly costs for each trade and specialty. Is overtime allowed? At what rate?
• Material and subcontract costs are what you pay after any discount. Remember, under a GMP contract, you have an incentive to keep costs down.
• Equipment costs should include your rental expense and a billing rate for any contractor-owned equipment on the job.
• Supervision expense should include only time a supervisor spends on the job site.
• Overhead expense is usually an estimate expressed as a cost per week or month.

You still have to write change orders – modifying the GMP – for any significant change in scope of work. You still need a weekly or monthly draw schedule based on your costs. And you still could lose money on the job if costs exceed the GMP.

Not every job or client is right for GMP contracting. But if you use Construction Contract Writer, it’s easy to offer alternate contracts – both a GMP and a fixed price contract. Let the owner decide what’s best. An owner who has confidence in your work and understands the advantage of risk-sharing will probably choose the GMP deal.