This section will cover estimating the costs that are usually incurred either before a construction project begins or early in the building process. Expenses include building plan costs, engineering and development costs, building lot costs, building permits, plan check fees, and hookup and impact fees.
Building Plan Costs
Many building projects do not have a building plan cost associated with them because in the traditional building model, the owner contracts separately with an architect or engineer to design the project. In this case, the expenses for the design and engineering of the project is the responsibility of the owner and not the contractor, and it doesn’t need to be included in the estimate. There are times, however, when the contractor will have design and engineering expenses. An example of this would be if the contractor were to undertake a spec building project, such as building a house with the anticipation of selling the home either during the construction process or shortly after it is completed. In this case, there will be design and plan costs which will need to be included in the estimate.
On larger buildings, an architect is usually hired to design the project. The architect usually charges a fee based upon a percentage of the building cost estimate. The percentage that is charged can change with the size and complexity of the project. A typical fee percentage could be anywhere from a low of three percent to a high of ten percent or above.
Usually, the greater the cost of the project, the lower the percentage of the fee. For example, a project that was valued at $3,000,000 might have an architect fee valued at five percent of the cost of the project. In this case the amount to be included in the estimate would be:
$3,000,000 × 5% = $150,000
On a smaller project such as a home valued at $200,000, the percentage might be 10 percent or higher. In this case, the cost of the plan to be included in the estimate would be
$200,000 × 10% = $20,000
In either case, additional engineering such as the design of the mechanical or electrical systems of the building are considered part of the design expenses and are included in the architect’s fee.
Because of the high cost of using an architect, many smaller buildings including most homes are built without the aid of an architect. In this case, the plans are likely purchased from a plan service.
Plan service companies usually have thousands of different home plans covering many different styles and sizes. Some even provide a service where the plan can be customized for the individual owner. The cost of purchasing the plans depends upon a number of factors, including the size and complexity of the building and the number of copies of the plans that are needed. In most instances, purchasing a set of plans gives the buyer the right to build the building one time, but some companies offer volume discounts where the same building can be built a number of times and the cost for the plans each time it is built is reduced. Figure 6-6 shows a sample of a small house plan from a plan service and the associated costs for purchasing the plan to build the house a single time.
Engineering and Development Costs
The process of changing an undeveloped piece of real estate into an approved building lot can be some of the most complex and expensive expenditures associated with any construction project. A wide range of engineering and development costs may be encountered, including soil tests, installing roads, sewers, and other public utilities, making zoning changes, subdivision development, and recording fees. The development and engineering of building a subdivision is a specialty subgroup within the construction industry, and a detailed explanation of these costs is outside the scope of this text; however, a brief explanation of some of these costs will be given below.
It is often desirable to conduct soil tests before beginning a building project to determine the nature of the soil and rock below the surface of the ground. This is done to determine if there are any hidden issues, such as high ground water levels, sinkholes, or unstable soil. A soil test is done by using a drill to take core samples, which are then analyzed to determine things, such as the nature and bearing capacity of the soil. In addition, if fill material is brought in to raise the ground level, other soil tests such as a compaction test will need to be performed.
Underground and Above-Ground Utilities
Most projects require the installation of a combination of both underground and above-ground utilities on the building site before construction can begin (Figure 6-7). The number of required utilities both underground and above-ground can be very extensive.
Roads will need to be built before any building process can begin. Many times, the developer is required to install streets, sidewalks, curbs, and gutters that will be deeded to the municipality (Figure 6-8). On other occasions, private roads will need to be built. In either case, the cost of designing, engineering and installing the road will need to be included as part of the development costs.
Zoning is a form of land use planning that controls the type of development that can occur in a specified zone. In practice, geographic regions within a municipality are separated into zone categories that specify the nature of the development that can occur within that zone. For example, zones may specify that buildings with similar usages be grouped together or separated from each other, such as the practice of separating single family homes from industrial facilities (Figure 6-9). There are times in the land development process that it is desirable for the developer to seek either a zoning change or a conditional use permit. This can be one of the most time consuming and expensive processes in the construction process. The time and costs involved can vary dramatically between municipalities and projects and should be carefully planned and estimated before attempting to undertake the process.
Purchased Building Lot
A builder may not have the time, the resources, or the desire to go through the delay and the expense of the development process and may choose to purchase a build-ready lot from a developer instead. In this situation, the developer undergoes the time and expense involved in the engineering and development process and passes those costs along to the buyer as part of the selling price of the lot (Figures 6-10 and 6-11).
In addition to the lot, there are usually additional expenses associated with the buying and selling of real estate. These additional costs include items such as title insurance and recording fees.
The purpose of title insurance is to ensure that the buyer of real estate has a clear, unencumbered, and protected title to the property. It is a two-part process. First, the title professional will perform a search of public records, often going back many years, to ensure that that there are not any clerical errors, mistakes, unknown heirs, liens, or fraud involved with the property title, and that the seller really owns the property and is free to sell it. They will work to resolve any of these issues before the title is transferred. It is estimated that one-third of all title searches in the United States reveal unresolved concerns that must be cleared up before the title can be transferred. Second, the title company will work with an insurance vendor to underwrite an insurance policy to protect the buyer’s interest should any future undiscovered issues be made known.
The cost of title insurance has two separate elements: the cost for doing the research and correcting any issues that arise, and a separate cost for the insurance policy to protect against any future problems. The cost can vary widely based upon the specifics of the policy, location, and individual title company. An online rate calculator can be useful in estimating title insurance costs.
Another cost that is associated with purchasing property is a recording fee. This is a fee charged by the municipality to record the property sale on the public records and update the title records. There is usually a minimum charge associated with the recording of the first page and a charge for each additional page. For example, the recording fee for Madison County, Idaho, is $10.00 for the first page and $3.00 for each additional page.
Estimate Example 6-4 shows the summary of the building lot costs based upon the following figures:
- $30,000 purchase price for the completed ready-to-build lot.
- $352.00 title insurance costs calculated using an online rate calculator.
- $37.00 title recording fee for recording a ten-page title record, based on $10.00 for the first page and $3.00 for each additional page.
Most jurisdictions require the issuance of a building permit before the construction process is started. The cost for purchasing a building permit is usually based upon a percentage of the value of the improvements to the property. There is often a sliding scale where the actual percentage charged decreases as the value of the improvements increases. Table 6-2 shows the building permit fees for the city of Rexburg, Idaho, in 2018. Improvements valued at $500 or less are charged a base fee of $23.50. Improvements valued at $50,000 to $100, 000 are valued at 0.007 or .7%. Using this chart, a new home that was valued at $85,000 would have a permit cost of .007 × $85,000 = $595.00.
Table 6-2 Rexburg, Idaho, 2018 building permit cost
Per Construction Value of $ 0-500 Base
Per Construction Value of $ 501-2,000
Per Construction Value of $ 2,001-25,000
Per Construction Value of $ 25,001-50,000
Per Construction Value of $ 50,000-100,000
Per Construction Value of $100,001-500,000
Per Construction Value of $500,000-1,000,000
Per Construction Value over $1,000,000
Many building departments establish the value of the improvements based upon a square footage valuation. Typically, different types of construction and different building areas have a different square footage evaluation. For example, the National Construction Estimator lists the square footage costs for a typical residence in the third quarter of 2017 as $121.69 per square foot of the living area. It also explains that the cost of a finished basement would be 30% of the cost of the main floor, or 30% x $121.69 = $36.51 per square foot. In addition, the square footage cost outlined in the National Construction Estimator includes a 450 square foot garage and explains that the price can be adjusted for a larger or smaller garage by using 50% of the living area cost (NCE Figure 6-1).
To adjust the price for a smaller 440 square foot garage, the size of the garage would be subtracted from the 450 square foot standard.
The square foot price of the garage would be determined by dividing the $121.69 square foot cost in half.
The amount that would be subtracted from the house price would be
The square foot cost should be adjusted for the area that the house will be built in. The area modification factor for Idaho Falls, Idaho, will be used for adjusting the square foot cost. NCE Figure 6-2 shows the area modification factors for Idaho with Idaho Falls highlighted showing a minus nine percent average.
Excel Figure 6-1 shows the calculations for a house with 1,152 square feet of living area, a 1,120 square foot finished basement, and a 440 square foot garage built in Rexburg, Idaho. The Building Permit Adjustment Percentage of 91% will be used to reflect the Idaho Falls area average.
Plan Check Fee
Another element of the building permit that needs to be calculated is the plan check fee. This is a fee charged for reviewing the building plans to assure that the planned structure is designed according to the applicable building codes. The plan check fee is usually calculated as a percentage of the building permit fee. The master fee list for the City of Rexburg, Idaho, identifies a plan check fee as 10% of the building permit fee.
Other Permit Fees
Frequently, there are also other types of building permits that are required such as electrical permits, mechanical permits, and plumbing permits. Each of these also requires additional permit fees. Figure 6-12 shows the master fee list for the city of Rexburg, Idaho, and lists fees associated with electrical, mechanical, and plumbing permits. The first is the electrical plan check fee of 10% of the electrical permit cost. The second is an inspection fee of $130.00 for a residential electrical inspection, based on the cost for a residence between 0 and 1,500 square feet. The third is a fee of $65.00 for the installation and inspection of a temporary residential electrical service.
The mechanical and plumbing permits are also priced based upon the square footage of the residence. The price for homes in the 0 sq. ft. to 1,500 sq. ft. range is also $130 each for both the mechanical and plumbing permits. In addition, a plan check fee of 10% of the cost of the permit fee is accessed for both.
Impact, Connection, and Capacity Fees
In addition to building permit fees, municipalities also charge other fees as a result of construction. For example, part of the cost of operating and maintaining both a public and private utility structure is often recovered by levies and fees on the users of the utilities. The fees can include impact fees, capacity fees, and connection fees.
In June of 2000, the announcement that Ricks Junior College would transition into a four-year university named BYU-Idaho had significant impact on the city of Rexburg, Idaho. The following decade and a half saw a significant increase in the student population, faculty, and support staff for the university. Building activity in Rexburg increased ten-fold the following year and has continued to increase in the years after, as numerous houses, apartments, businesses, and roads were built (Figure 6-13). The growth put significant strain on the city’s public works structure and in September 2003, the city imposed an impact fee to help in expanding its public works infrastructure. The initial impact fee was set at $972.29 for a single-family home, $903.03 per unit in a single student apartment, $432.38 per married student apartment and $130.28 for commercial buildings. The fees have continued to increase as the impact of the university’s expansion has been realized. Impact fees for the city of Rexburg include fees for parks, police, fire, and streets.
In addition to impact fees, Rexburg assesses capacity fees for the additional water and sewer capacity that they are required to provide as the city’s population continues to grow. Originally called hook-up or connection fees, the fees associated with connecting to the city water and sewer structure are called capacity fees.
Often, utilities services are also provided by private utility companies. This would commonly include landline telephone service, internet connection service, electrical power service, and natural gas supply. In some places, the water and sewer are also supplied by private companies. Many of these private companies charge connection fees for their services. Figure 6-13 shows a view of the Rexburg city web page describing the impact and capacity fees required by the city.
Construction loans are short term loans that provide financing to cover the cost of building a project. When the project is completed and sold, the buyer acquires long term financing and the construction loan is retired.
Loan to Value Ratio
Oftentimes, a lender is unwilling to provide a loan that will cover the entire cost of the project. They want the borrower to have a stake in the project. The percentage of the total building costs that the lender is willing to finance is known as the loan-to-value ratio and is expressed as a percentage. In Estimate Example 6-6 above, the Adjusted Building Value is listed at $164,224.31. If a loan-to-value ratio was given by the lender of 90%, then the lender would be willing to finance 90% of the Adjusted Building Value.
$164,224.31 x 90% = $147,801.88
This would be the maximum amount that the mortgage company would be willing to finance for the loan. There are a number of costs that are associated with construction loans and each of these needs to be accounted for in the estimating process. Some of these potential costs include the loan origination fee and the interest reserve amount.
Loan Origination Fee
A loan origination fee is a fee that is charged by a bank or other lender for writing a loan. The fee is charged up front and is usually priced as a percentage of the loan amount. Loan origination fees can vary widely between different lenders, types of loans, and circumstances. Commonly, loan origination fees cost 1/2% to 2% of the loan amount.
Once the origination fee percentage is provided by the lender, the cost of the fee can be estimated by multiplying the percentage by the loan amount. Using a loan amount of $147,801.88 from the previous example and a loan origination fee percentage of 1%, the loan origination fee would be calculated at
$147,801.88 x 1% = $1,478.02
A construction loan is structured differently than a conventional loan. With a conventional loan, the entire loan amount is distributed when the loan is issued, and the borrower begins making monthly or other periodic payments over a given period (fifteen or thirty years) to repay the loan amount and the interest that will accrue during the loan repayment period.
A construction loan is different in that it is a short-term loan and is issued for periods such as one or two years. Typically, it is expected that the construction loan principal and any accrued interest will be paid back by the sale of the property or refinancing with a long-term real estate mortgage and the ending of the loan.
Second, a construction loan is different in that the borrower often does not make monthly payments, neither interest nor principal, during the time that the loan is outstanding. This is because the borrower typically already has a mortgage or rent payment that must be made on their existing housing, and it would be difficult to make double mortgage payments. Nevertheless, interest does accrue during the loan period, but the periodic interest payments are paid out of the loan proceeds and then added to the loan amount. This is called the interest reserve.
Simple Interest Calculation
The interest amount on a loan, or what is known a simple interest, is calculated using the following formula:
Amount of Money Borrowed x Time in Years x Interest Rate
If $147,801.88 were borrowed for six months at an interest rate of 5%, then the total interest amount on the loan would be calculated using a formula of
* 6/12 is used because the money is borrowed for 6 months or ½ year.
Construction Loan Interest Calculations
Because the proceeds of construction loans are distributed over a period of time as the construction of the project progresses, the dollar amount that is due for the interest reserve also changes over time. In the typical construction cycle, the construction project starts out slowly as the builder acquires the necessary permits, mobilizes on the job site, and begins excavation. During these early phases of the project, the financial needs are relatively small, and only a small portion of the total amount of the construction loan is needed to pay these bills. Interest is paid on only the money that is actually dispersed from the loan account, so the amount needed to cover the interest reserve is small. As the construction cycle continues, the process accelerates as concrete is poured, the building is framed, and rough mechanical and electrical systems are installed. During this middle portion of the building cycle, the majority of the construction proceeds are distributed, and the amount needed to cover the interest reserve also increases. Finally, in the later portions of the construction cycle, the monetary requirements decrease as detail and punch list items are completed and the building is finished out.
Using the previous example of a loan amount of approximately $186,000 and given a construction time of six months, a month-by-month draw schedule might look something like the following:
- Month 1 = $5,000
- Month 2 = $12,000
- Month 3 = $33,000
- Month 4 = $50,000
- Month 5 = $37,000
- Month 6 = $10,802
Total = $147,802
The actual interest on the construction loan would be based upon the total amount of money that has been withdrawn at any given time
The actual interest costs would need to be calculated on a month by month basis using the total dollars of money borrowed up to that point. Using the draw schedule shown above, the actual interest cost for the first month would be
- Month 1 $5,000 × 1/12 × 5% = $20.83
The interest cost for the second month would be a based upon the total withdraws for both months one and two and would be
- Month 1, $5,000 + Month 2, $12,000 = $17,000
The actual interest cost for the second month would then be
- $17,000 × 1/12 × 5% = $70.83
The actual interest for the project the project would then be calculated as follows:
Month 1 = $5,000 × 1/12 × 5% = $20.83
Month 2 = $17,000 × 1/12 × 5% = $70.83
Month 3 = $50,000 × 1/12 × 5% = $208.33
Month 4 = $100,000 × 1/12 × 5% = $416.67
Month 5 = $137,000 × 1/12 × 5% = $570.83
Month 6 = $148,802 × 1/12 × 5% = $615.84
Total Interest = $1,903.34
In the early stages of estimating a project, it is difficult to get an accurate month-by-month cost breakdown of the project costs, and in reality, the actual disbursement of the loan funds may differ from any planned timetable. This will affect the total cost of the interest reserve amount. In order to account for this, it is common practice for estimators to assume that at any given time a total 50 percent of the loan funds will be dispersed to use that amount when calculating the interest reserve amount. Using this method, the interest reserve for the $147,802 construction loan would be calculated using the following formula:
50% of the Amount of Money Borrowed × Time in Years × Interest Rate
This would result in the following calculation:
The $1,847.53 amount of this calculation is 55 dollars less than the $1,903.34 that was estimated using a month-to-month formula in the example. Again, the month-to-month total could change based upon the actual disbursement schedule. Some estimators feel that the 50% figure is too low and use a higher percentage such as 55% or 60% of loan amount when calculating.
Estimate Example 6-5 shows the construction loan cost for an $147,801.88 construction loan for six months at a 5% interest rate. The loan origination fee is set at 1%, and the interest reserve percentage is set at 55%.
Additional information about construction loans can be obtained at HGExperts.com.
Real Estate Commission and Fees
The costs and fees associated with either the development of raw land into a buildable lot or the purchase of a build-ready lot has already been discussed. These costs will need to be included in the estimate. In addition, the sale of the finished structure on the lot is a separate real estate transaction and there may be other real estate, attorney, or legal fees related to that sale. Some of these costs and fees are paid by the buyer and some are paid by the seller, which, in this case, is the construction company. These costs will also need to be included in the estimate.
The requirement to have an attorney involved in a real estate transaction varies from state to state and sometimes even between different counties in a particular state. A discussion of these costs is outside of the scope of this text other than to note that it is the responsibility of the estimator to be aware of the costs of the specific legal requirements of a real estate transaction and to include any relevant costs in the estimate. A brief explanation of each state’s specific requirements can be found at Escrowhelp.com.
Real Estate Commission
If a construction project is undertaken at the request of a specific owner, then a real estate commission usually will not be needed as part of the estimate; however, there are times when it is desirable for a builder to undertake a building project with the anticipation of selling the home during the construction process or after it is completed. This is known as building on speculation or what is called a spec home. Often, the builder contracts with a real estate agent to list and sell the spec home. In addition, some builders’ volume of production is such that they can justify the expense of having an in-house real estate department which is responsible to market and sell their homes. In most cases, the expense of having a real estate agent sell a home is paid for by charging a real estate commission based upon the sale price of the house.
Real estate commissions are usually set as a percentage of the selling price of the house. Percentage rates are negotiable, but normal industry standards are usually set around six percent. In a real estate transaction where there is both a buying and a selling real estate agent, they would split the commission with each getting three percent. Each agent would then split their commission with their real estate broker as each gets one and a half percent as a final commission.
Imagine a situation where a builder contracts with a real estate agent or a situation where a company has its own in-house real estate transaction. For that agent to have exclusive rights to list all of the builders’ homes, it might be necessary to negotiate a lower real estate commission percentage with the expectation that the lower rate would be compensated by a higher expected volume of sales. However, it would still be expected that an agent outside of this arrangement who brought a potential buyer to the table would expect to receive the normal three percent commission rate.
Establishing the Sales Price
The final sale price of any residential structure is highly variable and is based upon several factors including but not limited to the
- Hard costs of construction, including all labor and material costs.
- Construction company overhead requirements.
- Anticipate profit percentage.
- Total lot cost.
- Real estate commission.
City of Rexburg. (2018). City Fees Directory. Retrieved May 8, 2018, from http://rexburg.org/pages/fee_list.php
Designer 390. (n.d.). Two Bedroom Traditional HWBDO63438 Traditional from BuilderHousePlans.com. Retrieved May 8, 2018, from https://books.byui.edu/-NJwo do63438.html
Pray, R. (2018). National construction estimator 2018 (66th ed.). Carlsbad, CA: Craftsman Book Company.