Planning a Budget for a Construction Project

Managing construction projects requires excellent planning, organization and execution skills. To successfully manage a construction project, contractors need to work closely with developers to define the project's scope. It takes a team of both professionals and suppliers to accurately plan and deliver a successful construction project.

Construction is typically a time-sensitive industry, requiring thorough scheduling of project milestones, which includes their associated costs. To ensure the success of a project, contractors must develop and follow a thorough budget.

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Why Is a Construction Budget Important?

A construction budget is used to anticipate the total cost of any given project, whether it’s a new building, road or bridge. A general contractor develops a construction budget with the help of professional estimators and quotes from suppliers and subcontractors. A contractor develops a budget for accounting purposes for the client or developer, which may be a private investor, corporation or a government body.

A construction budget often determines how quickly you can complete a project, the level of skill you’ll hire and the types of technologies and equipment you can utilize. A smart budget is thoroughly pre-planned to allow you to have the most productivity and efficiency while keeping overhead costs in check.

Planning Your Construction Budget

There are many ways you can plan a project budget, and typically experience determines what method works best. One of the most common and proven ways to plan a construction budget is to divide expenses between hard and soft costs. In accounting terms, a construction project’s soft costs are any expenditures that aren’t directly related to the physical building of the project. You can think of these as any services you need pre- and post-construction. Also known as intangible expenses, soft costs typically account for 30 percent of a construction project’s total budget.

The other 70 percent of a construction project’s budget is attributed to hard costs. Also known as “brick and mortar” expenses, hard costs are expenditures that are directly related to the physical construction of the building, road, bridge or whatever project is in question. Because hard costs are tangible — physical products with a fixed cost — it's usually easier to estimate and control costs in this category. Soft costs are essentially all of the other expenses that do not fall into this category. Compared to hard costs, soft costs are more difficult to estimate because service fees tend to fluctuate.

Dividing your construction budget into these two categories at the outset helps you better manage your budget. You can get a better sense of all your expenses in either category, and it becomes easier to identify any potential costs you may have accidentally left out. When you think of your costs in terms of hard vs. soft, you can more clearly see what expenses your project management team can firmly apply cost-control measures to, and which expenses are less under your control.

1. Property

Property costs vary greatly depending on location and project scope. In highly-desirable locations, land costs can account for as much as 60 percent of a project’s budget. In less desirable locations, your land cost may attribute for less than 10 percent of your budget. Regardless of land value, it’s essential to set a realistic budget range for your property investment. Remember, the land cost doesn’t stop at just the lot price itself. It also includes the real estate fees, financing and taxes that make up your total investment.

In accounting, land is considered a capital cost — a one-time expenditure that will maintain or continue to contribute value for more than a single financial year. Land acquisition expenses are a crucial aspect of a construction project’s budget because they will also determine the product’s profitability in the end. With a new construction project, the land value will inevitably increase. Calculating an accurate value from the beginning will show you or the client how much the value has increased thanks to the investment in the constructed asset.

2. Professional Fees and Services

Construction projects require a wide range of professional consulting and other services, which are considered soft costs. Depending on the scope of your project, you may be subject to dozens of different professional services and approvals required to proceed with construction. Various fees will accumulate during the construction project, but here are some of the initial fees associated with pre-construction:

  • Building and occupancy permits from local governments and associated costs to file permits and facilitate transactions
  • Surveying, studying and testing fees, such as geotechnical or environmental
  • Architectural and design services, including master planning
  • Professional engineering stamps, such as from structural, electrical, mechanical or civil engineers
  • Accounting, banking and real estate fees

Getting highly detailed and accurate design plans is essential to understanding your total costs for the project. Project drawings define the scope of work, and without thorough plans, you can run into serious cost overruns. Well-established and clear drawings help mitigate budget issues at the top of the project.

Once the project drawings and permits are approved and all pre-construction services are complete, the project progresses to the construction phase, where you may be faced with additional fees. Depending on your area, you may need to pay local waste disposal fees for construction debris and waste materials. Post-construction, your project will be subject to additional inspection fees and final accounting services.

3. Materials

Many costs associated with construction are non-negotiable. It’s pretty tough to barter with the city or architects over the costs of permits and drawings. Your material expenses are the key area in which you can tighten a budget and derive more value from your project. That's because contractors have opportunities to establish relationships with suppliers where they can negotiate costs based on volume, especially when they're able to source multiple materials from a single vendor.

Material expenditures take up the most significant portion of any given construction budget, so it’s good to review these closely. As with any purchase, you get what you pay for. Get the best quality materials that fit within the budget. Unlike services that can come with scope creep, materials have fixed costs, and you can get these costs quoted from your supplier.

Depending on the nature of your project, you may incur material costs in the following categories:

  • Site preparation: Materials used to prepare and construct the lot itself might include paving materials, pipes and drains. Landscaping materials, such as plants, trees and fertilizer, can also be included in the hard material costs associated with site development.
  • Building structure: Hard costs associated with constructing a building might include framing materials, roofing, insulation, mechanical systems, doors, windows, flooring, drywall, paint and much more.

4. Labor

A fundamental aspect of realistic construction budgeting is predicting your labor costs. Tradespeople, subcontractors, equipment operators and any other professional will have costs associated with just showing up on site.

Construction labor costs are one of the most challenging expenditures to estimate. Until the project gets underway, it's tough to predict the exact amount of hours workers will require to complete the job. However, labor cost estimates are crucial to assemble and communicate with employees to keep production on track and on budget. Improving labor productivity is an essential way to maintain the profitability of your construction project.

When calculating your labor budget, keep in mind the true cost of human resources, including:

  • Hourly wages both for employees and subcontractors
  • Workers’ compensation costs and payroll expenses for employees
  • Vacation time and sick time for employees
  • Non-productive time and re-work, though these costs can also fall under a contingency budget

5. Equipment and Tools

Every construction project requires equipment and tools of various sizes and purposes. Depending on how equipment and tools are used, they may be hard or soft costs. Equipment required for demolition, clearing, grading and filling lots or paving driveways and parking lots is used in the direct construction of the project. If you already own specific equipment or tools, these are considered capital expenses for accounting purposes.

Contractors should use their materials and labor lists to determine the types of equipment and tools they’ll need for the job and how many of each. Based on this list, contractors may need to rent their equipment from trusted suppliers in their area. For construction projects that require heavy equipment rentals, the true cost of renting equipment takes into account several expenses, including:

  • Equipment rental fee
  • Delivery costs
  • Operating costs, including operators and labor costs
  • Fuel costs
  • Any maintenance and repairs you may be responsible for

Always choose a reputable equipment dealer when renting heavy equipment and tools for construction projects. Knowledgeable suppliers will work with you to choose the right tools and equipment and clearly define associated costs upfront.

6. Project Management

Construction projects require highly skilled and organized project management staff. Project management team members also require their own equipment and supplies to perform their jobs. The project management cost category will include the salaries of your project team members and their office expenses. Security staff, safety supplies and all other support roles and materials are also part of project management costs.

Consider such costs as office rent and utilities, internet connection, phone expenses and supplies like paper, ink and computer equipment. While some project management costs are capital expenses — assets used for more than a one-time investment — it's still critical to factor their use into any given construction budget. This is how your business remains profitable in the long-run.

Don’t forget to include any construction technology tools you use to increase your project’s productivity. Many companies today use project management, accounting and scheduling software. These soft costs aren’t directly related to physical construction, but they are critical expenses you incur to get the job done.

7. Liability Insurance and Professional Bonds

Construction projects of all sizes are legally subject to insurance coverage and the costs associated with liability protection. Professional liability insurance is a mandatory soft cost that must be factored into the overall budget. Depending on the nature of the construction project, you may also be required to pay a deposit or bid bond to guarantee your company will follow through with the project.

Payment and performance bonds are also required on certain projects, particularly any government contracts. These bonds ensure that all subcontractors, tradespeople and materials suppliers will be paid, and this prevents any liens on the project. If you belong to any builders or contractors associations, be sure to factor in their membership costs.

8. Utilities and Taxes

Depending on the project, you may require gas, water, sewer and electrical installations. These utilities have their own associated permit and hookup fees that must be factored into the overall construction project budget.

It’s possible that your project will also be subject to local and state level taxes, administered by various agencies. Tax rates depend on the scope and type of construction, with bigger construction investments being subject to more tax. Be sure to work with a certified professional accountant who is experienced in construction finance to ensure you’re properly accounting for all taxes.

9. Contingency

A budget may seem like a strict amount, but estimators intentionally leave lots of room to plan for the unexpected. Unforeseen costs always arise on any given construction project, so it’s crucial to include a contingency budget in a cost schedule.

A contingency budget is funding set aside to pay for unexpected expenses that arise once the project gets started. A contingency fund isn’t allocated to any particular category of costs. It’s available as an insurance fund to cover any type of expense that comes up. A safe contingency fund is between 3 and 10 percent of the total budget. Depending on the scale of the project, your contingency fund may be as high as 20 percent of the budget.

Some of the types of costs that a contingency fund is available for include:

  • Changes to the initial scope of the project
  • Design or material upgrades
  • Malfunctions and breakdowns of equipment and tools
  • Accidents, risks and acts of God
  • Any other unknown costs

Contingency plans in construction project budgets prevent costly delays in production because it gives you the capital to get back up and running no matter what happens.

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