3 Things to Know About Allowances in a New Build

You could be at risk of going over budget if you have a lot of allowances.

If you're building a new home, you'll likely need to get a detailed quote from the general contractor who will be overseeing the project. This quote will be used to help you apply for a mortgage and give you a good idea of what your house will cost.

When you get your quote, you will likely see that there are many set prices for construction items in your contract. But there may also be some allowances too. An allowance is used when the exact price of items in your home isn't known, but the builder allots up to a certain amount of money for it.

For example, the builder may not be able to give you an exact price on how much your countertops will cost until you pick the material, but may provide an allowance of up to $5,000 for counters in your construction contract.

Although allowances are common, they can create financial problems for homeowners. Before you agree to build based on a contract with lots of allowances, there are three key things that you need to know.

1. Allowances can create budget uncertainty

When you have an allowance, you don't know for sure how much that particular item will cost you. As a result, it's hard to know how much the final price of your home will be.

This can make it more difficult to ensure that your mortgage amount covers the entire cost of the home. You could be left having to come up with money out of pocket to pay for certain items if you go over allowances. This could be really tricky for some people to do.

2. Some builders set allowances too low to look more competitive

In some cases, builders will set unrealistic allowances in order to make their price look more competitive than it actually is -- or to make a house appear to be within your budget if it actually isn't.

For example, if you tell a home builder that your maximum budget is $250,000 and they're at the upper end of that amount, they may give you an absurdly low allowance for flooring or kitchen cabinets or lighting.

The price of the home may appear to come in under your limit, until you actually discover that you'd have no floors in some rooms of your home if you stayed within your allowance. Often, by the time you find that out, construction is well underway and it's too late to do much.

3. There's a real possibility you'll end up going over them

In many cases, home buyers end up having to spend more than the builder's allotted allowance on construction items. For example, if you have a $1,000 lighting allowance, you may find that you need $2,000 in order to get the lights that you want.

It can be really hard not to exceed allowances if you fall in love with a particular kitchen design or floor that you can't afford. But if you do go overboard and overspend, that money has to come from somewhere.

How can you avoid problems with allowances

Having as few allowances as possible in your construction agreement can help you to prevent the problems that often arise with them. To limit allowances, you'll need to make more of your selections for your home before you get started.

While this can be time consuming, it's typically worth doing. After all, you'll eventually have to make choices about what goes into your home anyway. Why not make those decisions up front so you'll have a more accurate price?

If you do have allowances in your contract, take the time to shop around and see what they'll buy you -- and whether they are reasonable or not. If you find that a flooring allowance would leave you spending $1 per square foot for floors, for example, a quick visit to a flooring store to compare prices could show you that's way too low.