The media is now full of horror stories about the cost of building materials and the impact on builders. Specifically, the number of builders in financial distress. News.com.au, in an article published on 19 June, 2022, repeated claims that:
- 80% of builders are losing money;
- 50% of building companies have negative equity; and
- This is causing regular mental health breakdowns and related issues.
Clearly, those clients in the process of signing new building contracts need to consider carefully the financial health of their builder. Some builders claim that owners can’t lose if the contract is terminated. However, the reality for home owners when the contract is terminated is that the project is delayed, there are a range of unwanted hassles and the cost to engage another builder to complete the work is higher.
HomeBuilder?
An interesting question is how much HomeBuilder and other government incentives have contributed to this problem? In short HomeBuilder led to an increase in residential building projects which allowed many builders to take on more work (at fixed prices) than they usually would. Some reports suggest that large builders signed 4 times more contracts than usual in the 12 months after HomeBuilder!
The consequence is that there was a major increase in demand for building materials and building trades at the same time as many builders have more than usual projects to deliver under fixed price contracts.
I believe that this is another example of a well meaning government program that has had disastrous effects because those implementing the program failed to fully consider the implications of the program.
The Builders’ Response
In response to increasing material and labour prices many builders are seeking to pass this risk onto owners.
One strategy is to include special conditions that allow the builder to pass on the cost of rising material prices. As discussed in a previous article, drafting these special conditions requires some care.
The second strategy is to include more items as provisional or prime cost items. That is, the builder includes an estimate in the contract and the owner is responsible for any increase in the actual cost of the items. In some case these provision or prime cost items are representing a substantial (think 25% +) proportion of the building contract price.
Both these strategies increase the risk to owners. Many owners feel like they have little choice but to agree. However, I believe many owners don’t understand the extent of the risk they are taking on and / or aren’t able to fund possible substantial cost increases.
The Emerging Dilemma
The less obvious issue for owners is obtaining construction finance.
The issue here is that banks and other lenders want a fixed price building contract. Many lenders are quite firm on this issue and won’t accept cost plus contracts or the sorts of cost escalation clauses that many builders want.
This is not a simple problem to resolve – and in an environment where inflation is likely to be an issue for some time – the building industry and the banks need to find some middle ground.
In the meantime, this leaves many owners caught between a rock and a hard place.
You Need an Ally!
At Lewis O’Brien & Associates we work with home owners and property investors facing these and other building contract issues. We combine legal knowledge, decades of experience and a practical approach to problem solving to provide our clients with the resources you need. When you find yourself between experienced builders and institutional lenders you need an ally on your side!
An example of this is our Building Contract Review service. For a fixed fee of $750.00 plus GST we will provide a formal written review of your domestic building contract, suggest the special conditions you need to make it fair and follow this up with a phone / zoom call to answer your questions and explain the Review.
If you or someone you know is about to sign a Victorian residential building contract – contact Lewis O’Brien & Associates to arrange your review today!