Fixed Price vs Cost Plus in Custom Construction [the difference and clear choice?]

Found the lot? Choose the right contract, fixed price vs cost-plus, for your custom home.

If you’re building a custom home, the two main worries are how much and how long. Your answers depend much on your organization with the builder and lender you choose, and the contract you sign. While there is no universal contract for a custom home build, most buyers face two paths. A fixed-price contract, where the builder commits to a lump sum for a defined scope. Or a variable-price (cost-plus) contract, where you pay actual costs for labor and materials plus a builder fee. Both work really well. Since the pandemic, most deals I see have shifted toward cost-plus. The right choice comes down to how complete your plans are, how much flexibility you want, and how much risk you’re willing to own.

What a Fixed Price contract really means

A fixed price contract is straightforward. You and the builder agree on a number for a specific set of plans and specifications.  If the builder runs into material price increases or longer lead times, that risks rests on the builder, not you, as long as the scope does not change.

For example, the “Martin family” is building a 3,200 square foot home on a on a subdivided lot.  They have owned the parcel for years giving them the time they need to have complete plans, a detail spec sheet including selections for cabinets, counters, flooring, lighting, and appliances.  Their builder prices the job at a fixed number and includes allowances that match their selections.  During the build, the Martins decide to change nothing.  As their lender orders inspections, the draw schedule ties to clear milestones.  Friction is low, fundings are predictable, and the final cost breakdown matches dollar for dollar with the contract.

The trap with fixed price is a budget filled with estimates.  If the contract says “solid surface counters” without brand and level, and defined cost, that can leave you exposed.  If the lighting allowance covers builder grade materials but your selections live a tier higher, that gap lands on you.  You can protect yourself by insisting on a detailed costs sheet that lists brand, color, and model notes for key materials.  If the contract includes an escalation clause, push for a cap and a defined index that triggers it.

What a Variable Price contract really means

Variable price contracts value flexibility.  You pay actual job costs plus an agreed upon fee. This structure favors evolving plans or a builder that can supply subs with that prioritize delivery time or by costs.  Sometimes this set up can save money, time, or both versus a fixed number.  The tradeoff for the flexibility is increased risk.  If cabinets costs increase, you own the difference.  It may require you to reduce part of your budget on another line item.  We witnessed a lot of this during the pandemic, which reminds us controls matter.

Consider my clients the Jinerks.  They want a customized kitchen with glass railings, and a feature stair they will design during framing.  They picked a cost-plus contract with a transparent fee and weekly cost reports.  The builder agrees to targets in big categories like cabinetry, tile, and glazing.  Any cost above the threshold requires a written approval.  When the stair design comes in 150% more than they anticipated, they pivoted by downgrading the front door design.  This was they were able to stay within the budget without adding a cost overrun.  The project stays honest because the reporting is tight and they understand how to pivot.

Cost-plus goes sideways when the budget is soft, approvals are lax, or when materials are not ordered in accordance to timeline.  If you choose variable pricing, demand line item budgets, actual vendor bids for major trades, a clear fee structure, and weekly job cost reports that show original budget, committed amounts, and remaining to complete.  Set approval thresholds in writing so everyone knows when a choice needs a signature. Require two or three bids on large trades unless you document a sole source reason.

How the Contract changes the Closing

Signing your custom home contract? Compare fixed price vs cost-plus before you sign

The one thing I remind all of my clients building is that once you sign your loan papers, its not possible to increase the loan amount.   Cost increases are okay and normal, but the responsibility is all yours.  Prior to the pandemic most contracts were for a fixed price.  Lenders prefer a clean sheet.  Fixed price is usually easier to underwrite because the signed contract lines up with complete plans and a makes the appraisal a number they can match.  Draws are timely and predictable.  Title updates and inspections are simpler.

Cost-plus becomes a problem as lenders list to see a contingency line item.  Some lenders like to pad the figures with a flat 10% to add to the budget.  While there is no right or wrong number for the contingency that number should be between you and your builder.  There is no reason to add a 10% contingency on top of a variable priced contract IF the contract already calls for a 10% contingency.  Yet, we see many lenders struggle with what is sufficient to mitigate the risks of cost overruns.  Adding the extra contingency can complicate your qualifying by increasing the amount of capital your loan needs to close and the value your appraisal needs to meet. 

Typically, the greater the loan amount, the greater the downpayment.  If the appraisal comes in lower than the outlined costs then you may need a loan that allows for a higher loan-to-value or more down payment at closing.  It is difficult to modify the budget to adjust to the appraisal and get the lender to approach the same application with a second appraisal.  It happens, even in this market, and there are always solutions.  Partnering with a lender that offers some flexibility in LTV, a set contingency or reserve requirements can alleviate any appraisal deficiencies. 

What to expect next, 2026?

You do not need an analyst to plan well.  It comes down to an honest conversation with your builder, your lender, and adequate timelines.  Do not rush the process and use all the time you need before you break ground.

Rates have eased from the peak but still range bound in the 6 percent range.  A twelve-month build can live along or against interest rate cycles.  Lenders like to price interest rates according to the time of construction.  Larger timelines will usually increase the interest rate offered.  If your builder’s schedule says ten months, set your rate plan around that, not around hope.  Having a float down before your loan converts to permanent financing can help tremendously. 

Materials costs remain higher, but volatility is not gone.  Lumber, window packages and custom cabinets can still shift.  Fixed price shifts more of that risk to the builder if your spec is tight and the escalation clause is capped.  Cost-plus can handle change better if you set caps in big categories and take competing bids on large trades.

Most builders I meet with tell me that labor remains tight.  Protect schedule with realistic durations and a builder who shows current capacity in writing.  If a subcontractor backlog is the critical path, put that date on the calendar and connect on it weekly.

Ask your contractor about their process of who is responsible for permits and lead time.  New energy codes lift HVAC and input costs.  Research insurance requirements for the builders risk and permanent policy.  Some carriers have had a difficult time writing insurance due to fire risks or coverage limitations.   Build those realities into the budget before you sign.

Prospective buyer viewing a house under construction, researching contract types for 2026.

The Proper Contract?

If your know exactly what you wish to build and your site is straightforward, a fixed price is still the cleanest way to execute.  You gain payment certainty and fewer draw edits.  The price may include a builder’s volatility premium, but you get a calm build.

If you want the freedom to adjust during construction, and have the time and liquidity, a  cost-plus can work well.  Besides the time and money it will require discipline. You need weekly a clear outline on any change orders and targets for the big categories.  Set a realistic contingency and protect it from casual use.  When you treat cost-plus like a fixed budget that you can change on purpose, not by accident, you get the flexibility you want without losing the project to drift.

Famous Last Words

Finding a buildable lot and at a reasonable price remains a challenge.  For many of my clients, building a home is a lifelong goal, a decision that is not impacted by the cost of a mortgage.  As budgets shift, execution and a lender’s creativity matter more than headlines.  Both fixed-price and variable-price contracts can work right now and into 2026. Pick the structure that matches how you make decisions, then back it up with a plan that is clearly organized.  Identify your material specs, a draw schedule tied to realistic milestones, a builder approved contingency, with a single close loan that allows for a float down at delivery. That’s how you keep your custom home on budget and your stress in check.