The planning process for large commercial construction projects is extensive, but nearly every job comes with unexpected surprises. These unknowns may be due to no fault of the project owner or contractor, such as weather delays or discontinued materials.
In the end, surprises cost money. Construction contingency funds are a way for both the contractor and the project owner to help mitigate risks. When working with a construction manager or general contractor, make sure you ask the right questions and understand how contingencies work before entering into a contract.
1. What is a contingency fund in construction?
A contingency fund is an amount of money included in a project budget or estimate to help pay for unanticipated expenses or changes to the scope of work. It is a risk management tool that acts as “insurance” to cover the cost of items that can’t be determined up front, benefiting both the owner and the contractor.
Contingencies can be structured differently, and clear parameters need to be outlined to ensure that all parties agree to the terms and who’s responsible for what.
There are generally two types of contingency funds: a contractor contingency and an owner contingency.
A contractor contingency is built into the budget as a line item. Once agreed upon by both parties, the contingency amount is controlled by the contractor.. At times, a designer might also make decisions about the use of funds.
Sometimes referred to as an owner reserve, an owner contingency is an amount of money set aside by the project owner to help pay for changes to scope, and is controlled by the owner. These scope changes are often driven by the owner and not the contractor. Funds are not accessible to the contractor without prior approval from the owner.
Regardless of the type of contingency, managing scope creep is the responsibility of both the owner and the contractor, helping to ensure that a contingency fund isn’t exhausted. In either case, the owner technically pays for the contingency in the end, but the type of contingency determines which party controls the funds.
3. How much should be in a contingency fund?
Contingencies in construction can range from 2–10% of the total construction budget, but can vary based on the type and size of the project.
4. What expenses can a contingency fund be used for?
The contract and conversations you have with your construction team should clearly outline permitted uses for contingency funds. Permissible uses can vary widely depending on which type of contingency fund is agreed upon. Some examples of uses might include:
Inclement weather conditions and delays
Fluctuations in material or labor prices
Overtime or shift work
Minor changes to work
Unknown conditions (concealed remediation requirements, site issues, etc.)
Incomplete designs, errors, and defects
General cost overruns
5. What happens with left over money in a contingency fund?
Contingencies can be structured in different ways as part of the contract, so be sure everything is spelled out. The contract should specify whether any unused contingency funds revert back to the owner or whether the owner and contractor share in the savings. Sometimes, remaining contingency funds go entirely to the contractor as an incentive.
Because of the many ways that construction contingencies can be structured, it’s critical to outline expectations in the contract, including:
The amount of the contingency
A detailed approval process (who, how, what, when, etc.)
Who retains any remaining contingencies
6. Doesn’t a contingency simply inflate the budget?
Commercial construction contingencies are a common practice in the industry and are not intended to inflate a project’s bottom line. On the contrary, it helps project owners mitigate the risk of going over budget by being realistic about the inherent risks associated with volatile pricing, poor weather conditions, and other unforeseen issues.
Project owners sometimes question the use of a contingency fund, stressing the importance of establishing trust between owners and contractors. If an owner is concerned that the contractor will use any contingency funds improperly or cut corners, there are bigger issues at play. Partnering with a general contractor and construction manager who have in-depth experience can help ensure accurate bids and a well-planned budget based on real-time data in the first place. Just as important is ensuring transparency between the construction teams and project owners.
The commercial construction industry can be unpredictable, especially for larger projects that span years from concept to completion. The end goal of any project is to get the project completed on time and on budget according to the specifications. That said, there’s value in working with a collaborative construction team who delivers on their promises and makes it an enjoyable experience along the way.