Custom Home Building Contracts Explained: Cost Plus vs. Turn Key Pricing

In the last question on the FAQ page, I provide a brief explanation of the types of contracts commonly used between a builder and a homeowner. Here, I’ll go into more detail about those contracts to help clarify the differences.

First, the following are the two types of contracts I use for custom home builds:

1. Stipulated Sum Basis for Construction on Owner's Land – which I simply call a Turn Key or Fixed Price contract.
   
   
2. Cost Plus a Fee Basis for Construction on Owner’s Land – which can be structured as either Cost Plus a Percentage or Cost Plus a Set Fee. This is how my builder’s fee is calculated.

What Documents Do You Need Before Pricing a Custom Home?

Before I can provide an accurate total cost to build your custom home, I must have two completed documents:

1. A completed and approved set of house plans.
2. A document called Construction Specifications.

These two documents are essential in order for me to determine an accurate total cost to build your home.

The Initial Meeting & Ballpark Pricing

Before we move forward with a contract, we’ll have an initial meeting, either by phone or in person. I’ll ask you questions like:

• How many square feet of finished floor space do you plan to have?
• What exterior and interior finishes do you envision?
• Do you want a basement?
• What kind of countertops, cabinets, tiled showers, and flooring are you considering?

Once I have answers to these questions, I can provide what’s called a “Ballpark Price.” This Ballpark price is what I use as a basis for another contract I use called a “Retainer Agreement.” 

What is a Retainer Agreement in Custom Home Building?

The Retainer Agreement would be considered a preliminary contract and becomes part of either a Turn Key or Cost Plus contract if a total cost to build is agreed to by the homeowner. However, there are exceptions to the Retainer Agreement.

Retainer Agreement in Turn Key vs. Cost Plus Contracts

The Retainer Agreement is always a part of the “Turn Key” price contract but not always part of the “Cost Plus” contract. The reason is that the Turn Key contract requires extensive research due to the nature of the agreement that a “Fixed Price” will be provided to the homeowner as a total cost to build their custom home.

In fact, the Turn Key contract can take well over 100 hours of my time, including meetings with the homeowner, on-site meetings with subcontractors, phone calls to material and product suppliers, and detailed takeoffs for every aspect of the custom home build.

If you’re wondering why this process takes so much time, it’s honestly the only way to provide an accurate and competitive total cost to build your custom home. I usually ask for 1%-3% of the “Ballpark Price” in the form of a check as a retainer for my services.

For example:

• A house in the Ballpark price range of $1,000,000.00, I’d ask for 1% of the Ballpark price.
• If the Ballpark price is about $350,000.00, I’d ask for 3%.

The Retainer Agreement simply covers my time and effort in providing the most accurate total cost possible.

How Retainer Agreement Funds Are Applied

The Retainer Agreement is two pages long, and the funds supplied by the homeowner upon signing will become part of either contract as an initial deposit if the homeowner accepts the total “Fixed Price” for the “Turn Key” contract.

The Retainer Agreement funds are not additional costs; they apply toward the deposit when either the “Turn Key” or “Cost Plus” contract is signed by both builder and homeowner.

Refund Policy for Retainer Agreement

The Retainer Agreement states that these funds are NON-refundable. However, at the sole discretion of the builder, part or all of the funds may be refunded to the homeowner depending on the scenario.

I try to be as fair as possible when it comes to such situations. My goal is not to make a living off of Retainer Agreements but to ensure the best possible service and cost estimation for your custom home.

It’s important to note that you have the right to back out of any of these contracts mentioned, at any time, and for any reason, or no reason at all.

Let me walk you through two contrasting examples of how a Retainer Agreement can play out, from one extreme to the other.

Real Examples of Retainer Agreement Scenarios

Let me walk you through two contrasting examples of how a Retainer Agreement can play out, from one extreme to the other.

Example #1: Early Cancellation with Full Refund

Let’s say we’ve gone through figuring out a reasonable ballpark price, you’ve signed the Retainer Agreement, and given me a check for $10,000.00. At this point, I’ve only got a few hours of my time invested so far and haven’t started the pricing process.

You contact me after a few days of signing the Retainer Agreement and tell me that you’ve changed your mind and want to wait before building the house. I don’t need to know the reason why. There could easily be 100 of them. Life happens to all of us, and sometimes things change, and one just has to make an adjustment.

In this scenario, I would send you a complete refund of the $10,000.00. I would wish you well, with no hard feelings, and hope that perhaps we could get together again somewhere down the road. If not, that’s okay as well.

Example #2: Late Cancellation with Partial or No Refund

Now, let’s say we’ve gone through figuring out a reasonable ballpark price, you’ve signed the Retainer Agreement, and given me a check for $10,000.00.

But this time, I did get started on the pricing process. Let’s also say four weeks have passed since the signing of the Retainer Agreement.

You contact me after the four weeks have transpired, and I’m just about complete with the pricing process, ready to provide you with the total cost to build your home. But then you tell me that you’ve changed your mind about building the home.

Once again, I don’t need to know the reason. However, in this scenario, I would retain most, if not all, of the Retainer Agreement funds. Chances are good I’d have 100+ hours invested in the pricing process by then.

Still, I would wish you well, with no hard feelings. If you were to decide to start the pricing process over in the future, I’d have almost all the pricing done. There may be some pricing adjustments needed due to market fluctuations.

Of course, a lot of this would depend on how much time has elapsed since the cancellation of the Retainer Agreement.

Now, I could have come up with an example #3, but I think you probably get the gist of what I’m talking about.

Bottom line, I’ll be as fair and amicable as possible with returning funds if we sign a Retainer Agreement and you cancel at some point during the pricing process.

Understanding Cost Plus Contracts for Custom Homes

Okay, so far, I’ve discussed how a Retainer Agreement works with a “Turn Key” contract. However, you may remember that I mentioned it is not always necessary with a “Cost Plus” contract.

Why is a Retainer Agreement Not Always Needed for a Cost Plus Contract?

With a Cost Plus contract, we can determine an estimated cost through a much quicker process. I created a spreadsheet many years ago that I still use to calculate the cost of building any home. However, I still need a completed set of house plans and construction specifications.

Once I have those documents, I enter the data into my spreadsheet. The built-in formulas handle most of the calculations for me. Unlike the “Turn Key” process, this method requires very little research, no extensive phone calls, no meetings with subcontractors. The pricing is simply based on cost-per-square-foot estimates from past projects.

This is a very fast way to get an estimated cost to build your home. In fact, it usually only takes an hour or two.

The Downside of Cost Plus Pricing

It’s important to understand the word “Estimated” and how it plays into a Cost Plus contract. The downside of this type of pricing is that it can be inaccurate. It could easily be 10% off, whether higher or lower than the estimated cost.

More importantly, with a Cost Plus contract, you are responsible for paying ALL costs. I’ll explain this in more detail later.

When Do You Need a Retainer Agreement for a Cost Plus Contract?

If you’re comfortable with this method of estimating costs, then a Retainer Agreement is not necessary.

However, if you want a very accurate price and still prefer to sign a Cost Plus contract, then we’ll need to sign a Retainer Agreement as well. As I’ve mentioned before, a lot goes into creating an accurate price to build a home.

Now that we’ve covered the Retainer Agreement, let’s move on to the details of the “Turn Key” and “Cost Plus” contracts. Since we’re already on the subject of Cost Plus, let’s go over that one first.

How Does a Cost Plus Contract Work?

A “Cost Plus” contract is exactly what it sounds like. The “Costs” include all building and project expenses associated with constructing the home. The “Plus” refers to the builder’s fee for managing the project.

As mentioned earlier, the “Plus” can be structured in one of two ways:

1. Cost Plus a Percentage
2. Cost Plus a Set Fee

Cost Plus Pricing: How the Percentage Fee Works

If we agree on a percentage-based fee, my general rate is typically 15% of all costs. However, I have pricing thresholds that adjust based on the project’s estimated cost.

For example:

• If your custom home build is estimated at $250,000.00, my fee would be 20% of all costs.
• If your custom home build is estimated at $2,000,000.00, a project I know from experience will take at least 18 months, my fee would be 10%.
  

It’s important to note that these numbers are based on average project estimates and should not be considered final. Every project is evaluated individually, and my pricing is determined by the specific merits of each job. That said, these percentage figures are fairly close to reality.

Understanding "Cost Plus" with a "Set Fee"

Now, let’s talk about the “Cost Plus” contract with a “Set Fee.” In practice, I don’t handle a “Set Fee” agreement any differently than a “Cost Plus” contract based on a percentage. The only real difference is that the “Set Fee” remains a fixed amount, agreed upon upfront.

Cost Plus Pricing: How the "Set Fee" Works

For example, if your custom home build is estimated at $500,000.00, we may agree on a Set Fee of $75,000.00 (15% of the estimated cost). This means your total estimated cost would be around $575,000.00.

What Are Your Cost Responsibilities in a Cost Plus Contract?

Remember, with a “Cost Plus” contract, you are responsible for ALL costs associated with the project. No matter what the final costs are, you must cover them. You may end up exceeding the original estimated cost, or you may come in under budget.

The Advantage of a "Set Fee" in a Cost Plus Contract

The key benefit of choosing a “Set Fee” Cost Plus contract is that you will never pay me more than the agreed-upon fee. This is why most of my past clients prefer this option, it provides certainty about the builder's cost, making budgeting easier.

Why Do Costs Fluctuate in a Cost Plus Contract?

That said, I can’t emphasize this enough, you must be prepared for cost fluctuations. At some point, you will likely ask why certain costs exceeded the original estimate. This happens in every “Cost Plus” contract I’ve signed.

Why? Because it is impossible to price every single phase of construction perfectly. Some costs will be higher than expected, while others may be lower.

If we’ve implemented a Retainer Agreement, I can assure you that my final estimate will be as close as possible to the total project cost. However, expect some fluctuations, it’s simply the nature of the construction industry. Even after decades in this business, achieving absolute precision remains a challenge.

Important Considerations for a Cost Plus Contract

There are a few more points to be made regarding a “Cost Plus” contract that you need to be aware of.

Who is Responsible for Cost Overruns in a Cost Plus Contract?

Once again, it is crucial to understand that you are responsible for paying all costs associated with the custom home building project. I emphasize this because several of my past clients who chose a “Cost Plus” contract believed they would have control over how construction funds were spent throughout the entire project.

While there is some truth to this, in reality, the only control you’ll have over spending is on finish items. You will not have control over the exact expenditures for grading, clearing, foundation, framing, and other similar costs. That being said, I will have these construction phases itemized in the proposed “Cost Estimate” well before we break ground. However, there are always unknown variables that may arise.

Example #1: Soil Composition Leads to Unexpected Cost Increase

One example is gravel usage. Let’s say I estimated 10 loads of gravel for the entire project, including the driveway and the foundation area. However, due to the type of soil on your property, perhaps one that absorbs gravel excessively, the actual requirement turns out to be 15 loads instead of 10. This could result in an additional $2,500 in costs for gravel.

Example #2: How Homeowner Revisions Can Affect Quotes and Costs

Another common situation occurs when, well into the project, the homeowner decides to make a change after the framer, plumber, electrician, and HVAC subcontractors have already provided their quotes based on the original house plans. Even if the change is small, it could impact each of these subcontractors, leading to additional costs and delays in the project timeline.

This type of situation is covered in the “Cost Plus” contract under “Change Orders.” However, I typically do not require formal Change Orders unless the homeowner insists. This is simply because if a Cost Plus contract has been signed, you are already committed to covering all costs, including those resulting from changes. To me, additional documentation for Change Orders is unnecessary since it does not alter the agreement.

What Are Allowances in a Cost Plus Contract?

Another aspect addressed in the “Cost Plus” contract is Allowances. Similar to Change Orders, I generally do not invoke this document because, under a Cost Plus contract, you have already agreed to pay all costs. This means you have complete flexibility to purchase whatever finish items you prefer.

This is where you do have some control over spending. An Allowance document typically includes items such as:

• Appliances
• Cabinets
• Countertops
• Flooring
• Tile
• Interior and exterior doors
• Gutters
• Door hardware
• Shower enclosures
• Bathroom accessories
• Plumbing faucets and fixtures
• Electrical fixtures

Planning and Budgeting for Finish Items in a Cost Plus Contract

Before construction begins, the homeowner and I will have an in-depth discussion about the aforementioned items. The costs for these items will be based on our conversation, reference pictures, or even examples taken from online suppliers. These details will then be recorded in the Cost Estimate, providing you with a realistic budget guideline for your finish items.

However, under a Cost Plus contract, you are free to spend as much or as little as you choose on these items. The need for an Allowance document in this contract type is, therefore, a moot point.

Managing Finances in a Cost Plus Contract

Managing finances in a Cost Plus contract requires careful tracking and transparency between the homeowner and the builder. Unlike a Turn Key contract, where costs are predetermined, a Cost Plus agreement involves ongoing expense tracking and shared financial responsibility.

Below, we’ll cover key financial aspects of this contract, including homeowner access to records, how expenses are tracked, and what happens when the builder covers costs upfront.

Homeowner Access to Financial Records in Cost Plus Contracts

Another important aspect of "Cost Plus" contracts is that the homeowner is entitled to receive copies of all original quotes, invoices, and receipts for materials, products, and subcontractor services.

For some, this is a significant advantage, as it allows full transparency into where every penny is spent on the custom home build.

In addition to these records, I provide an expense report along with a credit report detailing all funds spent and received as draws to the builder. (I will explain the Draw Process more in-depth at the end of this article.) 

Shared Cost Responsibilities in a Cost Plus Contract

Another important point regarding the "Cost Plus" contract is that both the builder and homeowner participate in the construction funds spending process.

In other words, it does not matter whether the builder or the homeowner pays for any of the costs associated with the custom home build. Costs are costs, and they must be paid either by the builder through the Draw process or by the homeowner, who may choose to cover certain costs out of pocket.

Expense Reports and Tracking in a Cost Plus Contract

There are typically two expense reports involved in this process. One is generated directly from my project funds tracking software. The other is created using invoices or receipts collected from the homeowner.

I generally title the homeowner’s expense report as "Homeowner Out-of-Pocket Expenses." Together, these two reports form the complete record of all expenses associated with the custom home build.

Can the Builder Cover All Costs Instead of the Homeowner in a Custom Home Build?

If the homeowner chooses not to pay any costs out of pocket, that is not an issue. In this case, the builder simply pays for 100% of all costs through the Draw process.

Final Thoughts on Cost Plus Contracts

By now, you may have noticed that this type of contract can be quite involved. If you choose the Cost Plus route, you might find yourself constantly monitoring every detail and expense.

There is nothing wrong with that. In fact, I have worked with clients who enjoy being highly involved in the project. If that is your preference, I have no issue with it.

That said, a "Turn Key" contract offers key differences that create a more relaxed dynamic between the builder and the homeowner.

How Turn Key Contracts Work in Custom Home Building

Now, let's explore the Turn Key contract in more detail.

A "Turn Key" or "Fixed Price" contract requires signing a Retainer Agreement, with funds provided to the builder upon signing. These funds are based on the "Ballpark Price" established after an initial meeting between the builder and the homeowner.

A "Turn Key" contract is not signed until the pricing process is complete and the homeowner approves the Fixed Price provided by the builder. Once both parties agree on the total cost of building the custom home, that amount becomes the Turn Key price, which is then written into the contract as the maximum amount the homeowner will pay.

Breakdown of Turn Key Pricing and Essential Documents

The Turn Key price is based on an in-depth pricing process. This includes meetings between the builder and homeowner, onsite meetings with subcontractors, and extensive research into labor, material, and product costs.

For a "Turn Key" contract, three essential documents are required:

• House Plans
• Construction Specifications
• Selections & Allowances Document (explained further below)

Once the "Turn Key" contract is signed, the Retainer Agreement funds are applied to the deposit, which acts as the first draw, and an estimated start date for construction is set. Now, it's time to start building your dream home.

How Fixed Pricing and Change Orders Work in Turn Key Contracts

There is an important condition in a "Turn Key" price contract: the Fixed Price will not change unless the homeowner makes modifications. This is one of the main differences between "Cost Plus" and "Turn Key" contracts.

If the homeowner decides to make changes to the house plans after signing the "Turn Key" contract, a "Change Order" must be issued. The builder typically prepares this document. Change Orders can be implemented at any stage of construction, whether they involve a major foundation layout change or a minor adjustment before the "Certificate of Occupancy" (C.O.) is issued.

The Role of the Selections & Allowances Document in Turn Key Contracts

Another distinction between "Cost Plus" and "Turn Key" contracts is the "Selections & Allowances" document. This document serves as a budget guideline for all items listed under the Allowances category, such as:

• Appliances
• Cabinets
• Countertops
• Flooring
• Tile
• Interior and exterior doors
• Gutters
• Door hardware
• Shower enclosures
• Bathroom accessories
• Plumbing faucets and fixtures
• Electrical fixtures

How Adjusting Allowances and Contract Pricing Works in Turn Key Contracts

Not all items must be included in the Allowance list. For instance, some homeowners opt to exclude appliances from the contract price and pay for them separately. In such cases, the builder simply informs the homeowner when to have the appliances delivered.

This decision impacts the "Fixed Price" of the custom home build. Without the cost of appliances included in the contract, the Fixed Price decreases accordingly. In theory, a homeowner could pay for all Allowance items out of pocket, eliminating the need for a "Selections & Allowances" document altogether.

If this route is chosen, the contract would list these items as "Homeowner to Supply the Following," with a detailed item list included based on the homeowner’s preferences. This approach significantly affects the total contract cost of the home.

Financing Considerations for Turn Key Home Builds

Opting to pay for Allowance items separately does not necessarily result in overall savings. However, this strategy may be useful if a Lender is involved. The appraisal ordered by the Lender may impact the final mortgage amount. If the appraisal results in a lower loan amount than anticipated, the homeowner may choose to use savings or credit cards to purchase Allowance items separately.

It is important to consider that Lenders always assess Debt-to-Income Ratios, which could influence financing decisions. This factor should be weighed carefully when planning the purchase of Allowance items outside of the contract price.

Managing Costs in a Turn Key Contract

In a Turn Key contract, managing costs is more predictable compared to a Cost Plus contract, but it's still important to understand how selections and allowances impact your final budget. While your contract includes a fixed price, certain items, such as appliances, cabinetry, and flooring, may fall under allowances, meaning you have flexibility in choosing materials within a set budget.

This section will explain how allowances work, what happens if you go over or under budget, whether you can reallocate savings, and how unused allowance funds are handled.

What You Need to Know About Selections & Allowances in Turn Key Contracts

It’s important for you to understand how this document works within the "Turn Key" contract. If a "Selections & Allowances" document is part of the contract, the selections process is straightforward. You have the right to choose any of the previously mentioned items.

I will also provide recommendations on where to purchase these items and which manufacturers offer the best products. For example, I highly recommend Delta faucets due to their reliable track record and universal shower valve system, which simplifies trim package choices later in the project.

How Allowances Work and What They Cover

The homeowner and I will have an in-depth discussion about the items to be included in the Allowance list. We will talk about both the types and quality of items. If you have pictures of items you have seen online that closely match what you envision, those will be helpful.

After this discussion, I will have a clear idea of the expected costs for these items. I will assign values to each item on the Allowance list and present it to you for approval. Once you approve the stated values, the list is finalized and becomes part of the "Turn Key" contract.

Budget Guidelines and Payment Responsibilities in a Turn Key Contract

The amounts assigned to Allowance items serve as budget guidelines and also act as the maximum amounts to be spent on those items under the "Turn Key" contract. If you decide to spend more on any item, you will need to cover the additional cost out of pocket or pay through the Draw system.

I am only obligated to pay the agreed-upon Allowance amount. However, I always strive to work fairly with clients.

Applying Allowance Savings to Other Items

For example, if the Flooring Allowance is $10,000.00 and you choose flooring that costs $9,000.00, you are under budget by $1,000.00. If your Plumbing faucet and fixture Allowance is also $10,000.00 but you choose items that cost $11,000.00, you are over budget by $1,000.00.

I allow you to apply the $1,000.00 savings from the Flooring Allowance to the Plumbing Allowance because I have already allocated $20,000.00 for both items in the total build cost. You approved these amounts when signing the contract, making it a fair and balanced adjustment.

Total Allowance Amounts and Adjustments

There is always a total amount assigned to all Allowance items. For example, if the total Allowance is $80,000.00 for a $500,000.00 home, and after adjustments, you exceed the total Allowance by $1,000.00, then you will owe me $1,000.00.

On the other hand, if you only spend $75,000.00 when the total Allowance is $80,000.00, you may wonder if you get to keep the remaining $5,000.00. The answer is no.

Why Unused Allowance Funds Are Not Refunded

I receive this question frequently. My response is simple: I would be happy to credit you for any unspent Allowance funds, provided that you also agree to cover any additional costs I incur for clearing, grading, foundation, insulation, framing materials, framing labor, siding materials, siding labor, and many other essential components.

If we were to renegotiate the "Turn Key" price weekly, it would no longer be a "Turn Key" contract. Instead, it would operate as a "Cost Plus" contract. If that were the case, then the answer to "Do I get to keep the extra $5,000.00?" would be yes!

How the Draw System Works in the Custom Home Building Process

One last thing to cover is the Draw system, which works the same for both "Cost Plus" and "Turn Key" contracts.

I set up a draw schedule based on the percentage of completion. Each phase of construction has a value, determined through research, and a portion of my profit, or "Builder’s Fee" (depending on the type of contract signed), is included in each draw.

How Partial Draws and Supplier Payments Are Managed

I reserve the right to request a partial draw for a specific construction phase when needed. This is mainly because I work on 30-day accounts with my suppliers. The timing of material orders within a month affects when I require a draw to cover the monthly statement amount.

For example, most supplier statements are due on the 10th of each month. If I place an order on the 1st, I have about 40 days before payment is due. However, if I order something on the 29th, I only have about 12 days to make the payment.

Frequency and Limitations of Draws

I do not typically cap the number of draws, but I try to keep them to a minimum. That said, I request a draw when needed, which is usually about once a month, though it could be sooner.

How Lenders Handle Draws in Custom Home Building

If a Lender is involved, the process may work a little differently. Lenders generally release draws based on the percentage of completion, but only after inspecting the project site. Many Lenders also have a limit on the number of draws that can be requested for a single project. This is not usually an issue, but I believe Lenders charge a fee if more draws are requested than the set limit.

Choosing the Right Contract for Your Custom Home Build

By now, if you’ve read everything up to this point, you’ve probably realized there are pros and cons to both the "Turn Key" contract and the "Cost Plus" contract. Ultimately, it comes down to what you prefer to manage.

Is a Cost Plus Contract Right for You?

As I’ve mentioned, a "Cost Plus" contract can be quite involved. There is a lot to keep track of if you go this route, including a substantial amount of paperwork and a constant concern about exceeding the budget.

Now, I’m not trying to sway you one way or the other, but it’s important to understand what you’re committing to. There will be a lot of responsibility on your part. However, some people enjoy that level of involvement.

Whichever contract type you choose, I’ll be there to guide you every step of the way. You can count on that.

Is a Turn Key Contract Right for You?

A "Turn Key" contract, on the other hand, creates a much more relaxed experience for both the builder and the homeowner. You don’t have to worry about individual costs as long as you follow the plans, specifications, and allowance amounts without making changes.

All you need to do is make decisions about the finishes of your custom-built home, then watch it all come together.

Final Thoughts on Cost Plus vs. Turn Key Contracts

No matter which contract type we sign, I will handle everything. I’ll ensure the house meets all building codes and that the quality of work is upheld. I’ll coordinate deliveries, manage subcontractors, obtain necessary permits, and liaise with the power company.

For the most part, I will be responsible for organizing every aspect of your home’s construction. Most importantly, I am committed to building your dream home exactly as you’ve envisioned it.

The Home Building Journey

If this is your first time building a home, it’s good to be prepared and know it is a long journey. There will be some bumps along the way, but I promise there’s no challenge we can’t solve together. In fact, I’ve never encountered a problem during a home building journey that couldn’t be resolved in a reasonable amount of time.

That being said, building a home is an exciting and rewarding process. Watching your vision take shape, step-by-step, is an experience like no other. When all is said and done, you will have a beautiful, custom-built home that reflects your vision and lifestyle.

Ready to Get Started?

If you're ready to take the next step toward building your dream home, call me at 770-778-2997 or send me a message through the Contact Page. I look forward to bringing your dream home to life!