How do you Rehabbers deal with new contractors?

Question

I’m moving on to a new contractor.  Had a trusting relationship with my last guy until he started cutting corners without telling me.

So I have a big job ($90k rehab) for my next crew who I’ve never used before. My building contractor is pretty big in a local area, has several crews and does a lot of work.  His portion of the work will cost me $75.5 (interior work, roof and plumbing).

He wants $20k down and I don’t feel comfortable at all with giving him that much money up front and I don’t know if he will really put the permits in, get the materials, show up for the job etc.

So my plan was to pay him $2k after he submitted the permits. Pay for the permits when they’re ready ($2500) and then give him another $5500 until he shows up at the site at the agreed upon day and time (he now has $7500 of my money at this point).

After he shows up to the job site give him the remaining $12.5k until we pass the rough inspection (that’s the $20k). Another $15k is given after the rough and then the balance when he’s done (he’s agreed t o the $15k after the rough and the balance at the end but I haven’t talked to him about the initial deposit).

Your thoughts? How would you experienced rehabbers handle it?

John Moore · Answer

Run it like a business.  When pre-determined construction phases are completed the contractor submits a bill and is paid within 10 days.  I would either elect to pay for the permits or obtain them myself.  I assume you have done your due diligence with selecting the contractor and had him supply you with copies of the necessary insurance coverages.  You might also shop for smaller contractors who might be more eager for your job and provide more attractive terms.  You should tell the contractor how you pay and if that is not acceptable - keep looking.

Brian Mathews · Answer

I would do it as you said.  Set up milestones and pay promptly upon completion of those milestones, because he has people to pay as well.  Pay for materials he needs so he's not out that money.  Remember trust is a 2 way street, he may not trust you to pay him.

Michael Woodward · Answer

Dave Martel, I can see why you feel that my post was one-sided. I was focused on the perspective from my "side of the table" and didn't tell the other half of the story.

I agree that contractors have significant risk as well.  I have a great contractor that I'm extremely happy with. He typically has outstanding balances of $10k - $20k with customers that slow/no-pay.  It really makes things difficult for him so I make sure that anytime he needs payment on my projects, I'm right there to take care of it.

It's unfortunate that people don't treat others fairly and ethically all the time but it's just the way it is I guess.

Best to you and your business!

Dave Martel · Answer

I have to respectfully disagree with a few of Michael Woodward's points.

To say that he is never at more risk than you I think is false.  There are definitely some shady contractors out there but if he is an established contractor and he takes your money and runs he is done when word gets out.

I'm sure you're all upstanding citizens that pay your bills on time but if you happen to be late you can really put your contactor in a bind.  Everyone has credit limits and its not hard for a busy contractor to run up hundreds of thousands of dollars per month in expenses.  And its not like he can just report you to the credit agencies to put some pressure on you.

As far as liens go, they are basically worthless IMO.  Liens go away after x number years and if you think you can't sell the property or get a CO you are mistaken, you can bond around a lien.  I've had It done to me in the past and I know someone doing it right now.   Sure I can slap a lien on your property for a few hundred bucks but it can cost tens of thousands to forclose on that lien.  Its been my experience that most cases get settled without attorney fees being included so after all said and done it ends up being a wash, or close to it.

I personally think it is good money management to get deposits up front.  It allows me to negotiate lower prices for materials by paying cash, in turn being able to offer lower prices to you.  And if you're late paying I might be paying interest. GRRR.  He's not robbing Peter to pay Paul, he's borrowing from Peter to pay Paul's expenses.

I had a much different experience in 2008.  I had customers making their boat payments INSTEAD OF PAYING ME!!!  When the market tanked, I didn't get paid for months.  How easy do you think it was doing business running balances during the credit crisis?

How can you say a contractor has no incentive to finish on budget if he gets money up front?  If you have a contract he is locked into a price, any overages come out of his pocket.  And most contractors that don't provide fast quality service usually don't last very long or get much repeat business.

I wish everyone would show up the day I'm finished with a check, if they did I probably wouldn't want a deposit either.  Most of my work is on a 30 day draw, I work  all month, bill you at the end of the month, and don't get paid till the end of the following month.  My money is out there for 30-60 days.

All that being said, I realize I'm sitting on the opposite side of the table as most people on this site and have a different perspective.

Sorry for the long post as well!!

J Scott · Answer

I have plenty of contractors who I'm willing to pay upfront fees, but they are all guys who have done work for me in the past, and who I know (as much as anyone can ever know) will not screw me over.  But, when it comes to new contractors I've never worked with before, I don't pay any deposit that I'd lose sleep over losing.

Sure, I'll pay $500 or $1000 to someone if it makes the process easier, but I'm willing to risk $500 or $1000 on someone, especially if they came recommended or I talked to references.  But, I'd never be willing to risk $20,000 on a contractor I haven't worked with in the past.

My biggest issue here is that you're working with a contractor who will be doing $75K worth of work.  Any contractor who gets a job that big should be stable enough that they can float payroll and expenses for a few days -- meaning they don't need the money upfront to buy materials or pay their guys.  If their rationale is that they need to know that you're able to pay, that's perfectly fair.  In that case, offer to buy materials and have them delivered, or offer to pay in short milestones until both sides are comfortable (heck, give him a check at the end of every single day if that makes both sides feel better).

As an example, we're in the process of doing our first new construction project.  We hired a company to do all the framing, dry-in, siding, roofing and front deck construction.  Total of about $43,000 in work.  Payment schedule -- pay when the work is complete on a Net 30 payment schedule.  Personally, I think this is unfair to them.  But, it says to me that they're a successful company and are confident that they will deliver as promised.  I've never worked with them before, but am about as comfortable with them as I ever have been with any contractors, just based on how they are willing to assume all risk on payments.

Long story short -- I wouldn't pay them anything upfront that you weren't willing to risk losing.  If they're uncomfortable with that, buy materials or hand them a check at the end of each day until both sides are comfortable.

J Scott · Answer

Double post, sorry...

Michael Woodward · Answer

Ibrahim S....sorry to make my lengthy reply even longer but I meant to include that I only pay for work after it's complete.  We agree ahead of time what will be done and what the price of each item will be and I pay him the moment it's finished. If he quoted the roof at $5000, then I bring him a check for $5000 the same day he finished it.....ok, I'm done.

Michael Woodward · Answer

Ibrahim S, I'm by no means the most experienced person at this business but I've rehabbed 15 houses and built six new houses and have NEVER given a contractor (or sub) a deposit.... I don't think anyone has ever even asked for one......in fact, last year I offered to pay a contractor before he completed a project and he turned me down.  He said (quote), "I don't pay my subs ahead of work-completed and I don't think you should either".

I think it would be a huge mistake to give him any sizable deposit. He's never at as much risk as you are because you can't run away with his money.  He always has the option to put a lien on your house if you don't pay. You obviously can't load up your house and drive away in the middle of the night so his risk is small.

In my opinion, if a contractor has to ask for money up front then he probably isn't managing his money properly. If he's robbing Peter to pay Paul then you could be the guy that gets left out in the cold if something happens to his business....or if he decides to make his boat payment instead of buying your drywall......I actually saw some of that kind of thing when the market collapsed in 2008.

The other major problem that paying deposits creates is that it eliminates the driving motivation for the contractor to get your job done quickly or on budget.  Most contractors are notoriously difficult to get good, quick service from so you need him to have LOTS of skin in the game.

If you come to a loggerhead and you still really want to use him, ask him to use an escrow agent that will serve as the middleman. That way you're both protected.  If he won't do that either....find someone else!

.....my two cents.....

Good luck!

Dave Martel · Answer

Did you do your homework before you hired him?  You said he is a big player in your area with lots of work and multiple crews, sounds pretty reputable to me.

@Brian Mathews is right, trust is a two way street.  You said he would have $7500 of your money but at that size job he's going to have tens of thousands of his money on the line in no time.

I read lots of posts on these forums that say to never to give upfront deposits.  I don't know any contractors that will even put you on the schedule until they get a deposit.

How do you Rehabbers deal with new contractors?

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