Contractor Risk Mitigation

As discussed in the latest blog post, the single best way to mitigate contract risks is to depend on definite requirements. The contract itself should have very few if any, indefinite requirements. Note that I’m not just talking about the SOW, pricing and payment terms, but also the standard terms and conditions.

Each section will have its own assortment of risks that you should review prior to signing the contract. Ideally, you will have done most of this as part of the proposal evaluation and negotiation process. Within the SOW, the biggest concern is that all of the requirements have definite detail.

Are materials definite in terms of quality? In cases where equipment is provided, are the model numbers and quantities listed? Is the labor necessary to complete the project included within the scope (beware of proposals that state the bid includes a fixed number of hours, if they go over are you on the hook for a higher price)? Is a warranty period defined? Is there a commitment for project completion schedule?

Does the SOW capture everything that the contractor has committed to provide and do for you (have they made verbal commitments that are not noted)? If the contractor is pulling permits, it should be noted in the SOW.

Don’t neglect to specify that the contractor cleans the premises after their work is finished. Remember, the SOW is everything specific that the contractor is required to do under the contract. If you are satisfied that the SOW is definite and complete, well and good. However, if it is not, the contractor needs to fix that deficiency BEFORE you sign the contract.

Pricing should be clearly definite. If it is a fixed price for the entire SOW, that is clearly definite assuming that the SOW is definite. Where it gets less clear, is when there are various items which are not fixed in quantity value.

For example, the rock boring fee from the earlier discussed fence project, if your fence was in a very rocky area and every pole needed rock boring before setting in concrete, then the total price for the project could go up dramatically. Be watchful for situations like this, and aware of the pricing impacts which could occur.

You don’t want to end up in court arguing against paying a larger bill than expected if the contract pricing identifies it as a possibility because you will lose. Payment terms should be definite as well. On small, and short projects, there
should be one or two payments required. It should be clear as to when the payments are required as well as how much.

On large projects, payments should be tied to specific milestones of the project, rather than “1st Payment, 2nd Payment, …etc.”. Payment terms should also closely match the completion percentage of the project rather than being front-loaded. When payments are front-loaded, the homeowner is at heightened financial risk if the contractor abandons the job or doesn’t pay sub-contractors, because then the homeowner would have to pay additional to complete the project or clear any mechanics liens. If the payments track completion, the homeowner is still at risk for such events but at a lower level. Standard terms and conditions should have elements which reduce your contract risk.

Of those, several needed to be addressed at the contract stage. The big issues were those of the contractor is an independent contractor and consequently being responsible for their employees’ disability insurance and tax withholding.

Generally, there should be a paragraph which states that the contractor is responsible for those items and holds the homeowner harmless, should others claim against them.

While that is not a perfect defense, it does establish that your expectation was that the contractor (and any subcontractors) is an independent contractor and not your employee. Two related provisions are very useful, “proof of payment” and “lien waiver” clauses.

A proof of payment clause protects you from any liability if the contractor fails to pay subcontractors or materials suppliers. Similarly, the lien waiver clause provides that you withhold the final payment until the contractor provides either proof of payment or lien waiver forms for all subcontractors and materials suppliers.

Often there will also be a clause requiring that all subcontractors and materials suppliers be fully identified with contact information. Note that the issue of liens is more pronounced on larger projects.

I also recommend a requirement that the contractor will always be present onsite to supervise any subcontractors. Another standard clause to look for is one that speaks to how disputes are handled. This can involve third-party mediation before heading to court. A clause to be cautious of is the misuse of a “Substantial Completion” clause. An example of misuse is when a contractor’s final payment milestone is based on substantial completion.

Typically, when that point of the project has reached a contractor notifies the homeowner that they are ready for a final inspection. Note that things may not be completely finished at that point, as usually a list of deficiencies (punch list) is generated.

Never make the final payment until the project is fully completed, or sign any contract that requires otherwise. Reading contract terms is a struggle for many people, but one easier way to do so is to consider the language in its standard English meaning.

If there are provisions you don’t agree with, you may want to have them removed. You can instead strike through the portions you do not agree with, with initials signed next to the deletions at the time you sign the contract. It is cleaner to have the contract modified, but sometimes on a standard form that approach is less practical.

Of course, marking through terms means that the contract isn’t active until the contractor agrees to accept the order with your changes. In a perfect world, you would have already modified the terms during the negotiation/ask phase. However, there are contractors who wait until the final contract proposal to show you all of the terms of sale.