Understanding GMP Contracts
What Homeowners Should Know About GMP Contracts
Guaranteed maximum price contracts (GMPs) are attractive options for homeowners seeking to hire contractors. Here are the pros and cons of GMP contracts.
Why They Are Used
When it comes to choosing a home construction contractor, homeowners may have differing priorities. Some might prefer the lowest bid, while others want top value for their money. Still others may wish to reduce their financial risk as much as possible. This latter motivation can cause homeowners to ask for guaranteed maximum price contracts or GMPs.
In essence, a GMP says the customer will pay the contractor for the expense of doing the job, plus a specified amount of profit, up to an agreed upon maximum level. In turn, a contractor will need to absorb cost overruns, while cost underruns go to the customer. It’s no wonder, then, why GMPs appeal to many homeowners.
Contractors are subjected to more risk.
Since GMPs transfer risk from the homeowner to the contractor, the latter needs to mitigate this risk. Some choose to do this by charging homeowners more; however, they can be undercut in competitive bidding situations. Modern construction estimating software can help contractors minimize risk by reducing “bloat” via greater accuracy and precision in costing jobs.
Homeowners will require accurate cost reporting.
GMPs demand visible and transparent cost accounting. This can become inconvenient as construction jobs become bigger, and the need for cost reviews becomes more frequent. Cloud-based construction management software is a good way to create a faster, more seamless review process. It can also be a strong selling point when bidding for the job in the first place.
Changes lead to reviews of the GMP.
Whenever a customer decides to alter the job specs, all parties will need to assess the impact on the GMP and agree on an acceptable outcome. Remember, while the “G” in GMP does stand for “guaranteed,” this only applies to initial project specifications or any agreed upon changes.
GMP savings can be shared.
In certain instances, it may be mutually beneficial for both the homeowner and the contractor to benefit from any cost savings. From a customer’s point of view, this will encourage the contractor to search for savings that benefit the customer. Savings can be shared on a fixed percentage basis or as varying percentages applied to set levels of cost-saving achievements.
GMPs can accelerate the process.
Since it establishes a final contract price, a GMP can make it easier to obtain financing, compared to open-ended agreements without upper limits. Construction can also begin before designs are completed or on items that aren’t fully costed at the beginning of a construction phase.
When to use a GMP?
As with any pricing strategy, there are times when a GMP is appropriate – and times when it is not. If you don’t have a complete set of plans, a GMP can help you avoid unwieldy costs. If, on the other hand, your plans are 100-percent complete without many unknowns, it makes sense to use a lump-sum contract.
Bear in mind, also, that guaranteed maximum prices aren’t final, because they usually allow for contingency funds for unforeseen costs built into the agreement. GMP contracts are also not the only option: EMP or Estimated Maximum Price contracts allow contractors and homeowners to share the cost of underruns and mutually fund the cost of overruns.
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