What if there are cost overruns during construction?Jun 08, 2021
What if there are cost overruns during construction?
Let's back up a little and recap what led you to the construction process. You recently closed on a new construction fourplex. That means you took title to the land, you have a construction loan, or you've got cash in escrow (if you're investing all cash). The builder is drawing upon those funds, sticking to the budget for the floor plan/project you're investing in. That builder is working toward the finish line to give you your completed fourplex.
Then, as an example, lumber goes way up during construction. Copper wire, air conditioners, paint all go up in price. Any number of costs can change during the 12 month construction period.
You'll naturally want to know if you're going to be on the hook for that. If you've closed on the property and actually taken title to the dirt, almost 99% of the time--you are not on the hook for that.
Cost overruns and budget increases that happen in the normal course of business is something that the builder has to accept the risk for. They must deliver a completed product at the originally agreed upon price.
Now, guess what happens? It cuts both ways. If costs go down during construction, you're still paying it. However, if we look at the cost of materials over time, they've not really decreased in a meaningful way over time.
There are aberrations. There are blips and construction costs that level out. We've not seen a particular line item tank and stay there. That would be like a disruptive technology that happened for some reason.
There are two instances where, in theory, the builder could come to you for more money during construction...
There are acts of God, and then there are municipal actions.
Those are two things that nobody can control, that everybody bears together. Example, a giant earthquake happens and part of the property was destroyed. That's something that the builder could come to you for.
Another example: What if a municipality changes building code during the middle of construction? The builder had obtained a permit and budget based on what the building code was at the time. Now they're required to say... put in fire sprinklers.
That's something where they would come back and say, "Hey, in order to get you a certificate of occupancy, we now have to do this thing that costs $10,000."
In summary, when it comes to cost overruns, the builder's not coming to you unless it's related to an act of God or municipal action. This applies to pretty much any builder contract you would see in the real estate market place.