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Home builders can protect their bottom line with escalation clauses

Graphic of blue house stacked on top of money

The COVID-19 pandemic brought a host of changes to the United States. One major shift no one expected: a red-hot housing market.

With Americans forced to spend more time in their homes, homeowners developed a renewed interest in living space and home functionality. As a result, the demand for new home construction began to explode amid a global pandemic.

Manufacturers and supply chains were poorly equipped to meet demand. Multiple government-imposed lockdowns slowed — or entirely halted — the flow of goods and materials across the globe. As the demand for new homes rose and supply chain issues worsened, we saw a shortage of raw building materials lead to sharp price increases.

Skyrocketing prices in the middle of construction jobs left fixed-price builders in difficult situations. The options: take on the rising cost of materials or ask clients for more money.

Thankfully, there’s a certain type of contract clause that can protect your construction business: escalation clauses. Learn more about what they are and how to use them below.

What is an escalation clause?

An escalation clause is a contract modification provision, working hand in hand with force majeure clauses, that allows builders to control the otherwise uncontrollable. A force majeure clause is a provision in a builder’s contract freeing both parties if something prevents you or your client from performing. This includes major events such as storms, war or labor disputes.

Escalation clauses lay out that when a specific force majeure event triggers a price increase (in either all materials or a specific one like steel), the builder is entitled to adjust the contractually agreed-upon price.

Here is an example where an escalation clause is beneficial

Builder B agrees to build a house for Client C using a fixed-price agreement. In the middle of building the home, supply chain interruptions cause lumber prices to increase 30%.

Instead of absorbing the cost, Builder B has included an escalation clause in his residential construction contract which states that he’s entitled to equitably adjust the price should a force majeure event occur. The force majeure section defined supply chain disruptions as a type of force majeure event, thereby triggering the escalation clause. This means that Builder B’s job profit margins are protected from soaring material prices.

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Benefits of escalation clauses in your building contracts

Escalation clauses safeguard your construction business from drastic changes in the market. If anything does change, you know clients are legally bound to honor agreements in the contract.

1. Protect your profits

Protect your businesses in a world of demand, inconsistent prices and unstable supply chains. When prices rise, builders with escalation clauses can worry less about the impacts to their job profit margins.

2. Reduce job delays

Reduce potential job delays. Disputes often arise when the builder raises the total cost of the home, which can lead to job delays and scheduling conflicts. But, by including an escalation clause within the initial contract, you have a contractual provision you can point to as a reason for rising prices.

3. Improve client relations

Create transparency between you and the client. As we’ve mentioned before, the key to a good builder’s contract is transparency. Escalation clauses in construction help set the expectations between both parties from the start. The clearer you can be upfront, especially on matters concerning costs, the better the business relationship with your client.

When communicating a price increase to your client, be sure to:

  1. Contact the clients directly, either by phone or email
  2. Explain the reason behind the price increase as many homeowners may not know the disruptions your business is facing
  3. Inform the client of the specific provisions within the contract that justify you in raising the price
  4. Be understanding of their position as rising costs can be one of the most difficult conversations to have with them

To include your own escalation clause relating to a force majeure provision, be sure to contact your attorney*.

*The materials available in this blog are for informational purposes only and not for the purpose of providing legal advice. You should contact your attorney to obtain advice with respect to any particular issue or problem.

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On matters legal, marketing and construction technology, there’s more advice where this came from. The Buildertrend Blog has hundreds of articles, spanning a wide variety of topics to help keep your business in protected and profitable.

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Sam Garrett serves as a law clerk for Buildertrend, previously holding roles as a customer success intern, corporate development and legal affairs analyst. Throughout his time at the company, Sam has become well versed in the legal issues facing today’s builders and spends time researching ways to help construction pros overcome those challenges. He is currently pursuing his Juris Doctor from the University of Oregon.

About The Author

sam garrett - law clerk at buildertrend

Sam Garrett Sam Garrett is a law clerk at Buildertrend

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