It’s hard to remember a time when building costs were less stable than they are currently, which makes the rise and fall clause in building contracts red hot right now.
Rise and fall clauses allow some flexibility and wiggle room on building costs for a development project, with the risk shared between financier, developer and builder.
With volatile building costs, builders want to try and reduce the risk of signing a fixed price contract which could leave them having to cover all rising costs over the construction period.
A rise and fall clause in the building contract allows the builder to share those fluctuating building costs with a client.
Under such a clause, after the contract has been signed, the builder can pass on any increases or reductions in the cost of any building work, and in the current post-COVID supply chain climate of across the board cost increases most of these will be increases rather than decreases.
Any changes to the cost of labour, materials or anything else can be adjusted and passed on to the customer via a pre-agreed formula despite the contract having a final explicit sum.
It differs from the standard practice of a fixed price contract where any changes to costs after the contract is signed can’t be passed on.
Rise and fall clauses can actually benefit buyers too. By setting up an agreement that clearly defines how costs increases or decreases will be handled reduces the risk to the builder and gives them the confidence that could lead to the client paying a lower price.
Builders can often factor in excessive amounts in a fixed quote to cover unknown contingencies so if that can be eradicated then the price at the end of the day could well end up being lower for the client.
Developers can limit their risk when using a rise and fall clause with a builder by some of the following mitigation strategies:
- A cap on total amount payable
- Link rising costs to market indices for verification purposes
- Include only a handful of materials that apply
- Enforce required notification of increased costs to give developers time to mitigate
- Require three comparable quotes as per proper due diligence
- Ensure developer has ultimate discretion on approved cost increases
