Question

Why do construction contracts usually have a provision for a major share of around 20% of the total cost to be paid only after the project has been completed and approved?

Answer 1

                        Construction contracts refers to the contracts given for the construction purposes either in the public domain or in the private domain. It may be related to the construction of roads, buildings, tunnel, bridges etc. Most of the construction contacts works out an equation in which more than 20% of the approved cost would be given to the contractor only after the project is completed. The economics behind the same are as follows.

· Once the entire cost is provided at the beginning, then the contractor may lose the enthusiasm in the completion of the work which would result in loss of opportunity cost to those who gives the contract.

· The provision of full cost at the beginning would mean that the contractor can now afford to generate mechanisms of cost of production which can include faulty practices like usage of improper standards of construction which cannot be questioned at a later stage

· The above process of early provision of full cost of production would deny the ability of the contract provider to question the faults in the work once the work is over and hence could cause losses to them.

· Once the project is completed, then there is an option of checking the condition of the same and any differences felt could be discussed and the reductions for the same can be effected in the remaining payments.

· It would have an effect of improving the dedication of contractor in the work as he would have the fear of losing the remaining money in case of any discrepancies in the work undertaken.

Thus, considering all the above factors of construction, it can be understood as to why the contractors are given a share of the contract only after the contract is over and approved.