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The Basics of Contingency on Construction Projects
Best Practices for Calculating, Managing, and Tracking Contingency on Construction Projects
Allocating contingency funds is crucial to project risk management. Real estate project managers factor contingency into the development budget to cover unknowable unknowns. (This is not to be confused with allowances which are the known unknowns. Basically allowances cover items that you know will happen but you don’t know exactly what they will cost yet.) Development projects have associated risk and having a contingency reserve can protect a project from some of the repercussions of these risks.
What kind of costs can contingency reserves cover?
Construction contingency covers any unanticipated construction costs such as:
- abnormal weather caused delays;
- cost overruns where the actual cost of an item exceeds the amount allocated to such item
- design errors
- unanticipated price of materials or interest rate increases
- contractor coordination issues and errors
- unforeseen soil conditions
- And many more
Where do I start when establishing my contingency reserve?
We recommend starting by answering the following 3 questions:
How much contingency do I factor in?
Industry standard for construction risk contingency is 3-10% of total hard costs. Some developers budget contingency for soft costs as well, typically 1% percent of total project costs or 10-20% of total soft costs. According to the DAE Group, “in addition to the actual dollar amount of the contingency budget, a construction contingency should also include a well-drafted process of how to access contingency funds, what conditions do and do not warrant using the funds and a detailed procedure concerning notices, paperwork, and approvals.”
What are my unknowns?
Unknowns are where a great deal of your risk is hiding. Weather, scheduling, and other factors that are out of your control are a good place to start.
Can I eliminate any of these risks before factoring them into my contingency reserve?
Strong communication with your vendors and subcontractors, detailed contracts, walkthroughs, drawings, etc are all ways to mitigate risk and unknowns.
A positive outcome of maintaining and tracking contingency is predictability.
According to the Project Management Institute, “by pooling the risk contingency costs together so the cost of any risk occurrence can be absorbed, it is easier to track risk occurrence. Data representation, such as charts and graphs, can be used to track the use of the reserve over time and how it affects the project schedule and budget. Without the contingency reserve, those extra days and money come out of the actual schedule and budget, causing delays and cost overruns. If this happens, then the project will be derailed. With this data, it is also easier to see where risks are coming from. For example, if time delays due to training cause eight days to be spent from the risk contingency reserve, that can become a lesson learned for future projects.”
When you’re tracking contingency usage, set yourself up for success in the future by also tracking the “WHY.”
Now that the importance of keen contingency planning has been established, the last thing you know about tracking a development budget, is the importance of tracking WHY contingency has been used. This helps developers plan contingency needs throughout the remainder of the project. Long term, tracking the “why” behind contingency usage helps better plan for future projects.
Where do I manage contingency?
There are tools available to help calculate, track, and manage contingency reserves. These tools are helpful when development managers are communicating budget and risk to relevant stakeholders. Our favorite tool for tracking and managing contingency usage is Rabbet. (no surprise there!)
Tracking contingency usage in Rabbet
Answering “where did the contingency go?” is now easier than ever with visualizations on the project-level budget. These new charts readily compare project progress with total contingency usage as well as provide a consolidated view of all budget reallocations across the project.
Rabbet’s contingency usage section shows:
- Adjacent visualization of project completion % and total contingency usage %
- Visualization of contingency usage (reallocated) by line item
- Visualization of line item adjustment totals across all draws
When development managers are tracking this outside of Rabbet, they are creating an excel graph or chart of the contingency total usage and project completion. This is not difficult, but requires maintenance and deliberate sharing. With Rabbet, the completion and contingency graphs are updated in real time based on the familiar workflows already occurring in Rabbet. Rabbet can also track which adjustments are reallocations between line items and which are users of contingency.
To learn more about how Rabbet can enhance the calculation, tracking, and management of your contingency reserve, schedule a demo of our platform today!