Friday, November 4, 2011

Labor rate changes

Contractually how do you deal with potential labor rate changes? There are two types of wage changes that could occur. There may be government mandated changes such as changes to the minimum allowable labor rate that may be paid. There may also be changes that are part of a union collective bargaining.

I believe that most jurisdictions would allow for claims for contract price adjustments when the labor under the contract was being paid the minimum and the government imposed rate changed what
the must be paid. They must comply with the law. So irrespective of whether your contract provided for them you could still be billed for them,

For any other type of labor rate changes, do you need to have terms in your contract that will address changes in the rates? If you have contracts where the performance will extend past the expiration dates of known labor contracts I think its important to address those changes in the contract.

If you are the subcontractor or supplier, you want to be able to collect those additional costs that will occur. If there is no a provision to adjust the prices when those labor rates change, to protect yourself you would need to include contingencies in the price to cover those future costs.
As the owner or buyer that is paying the price you want to avoid having the supplier carry significant contingencies in their price. Contingencies are normally based upon what they expect will be the change and when the change will occur.They may be based on worst case estimates. If the change happens later or the rates agreed are less than they predicted, the owner / buyer would have paid for costs the contractor or subcontractor never incurred. If you don’t want the supplier to be profiting at your expense in this manner, you need to allow for labor rates and the price to be adjusted, the key is what do you allow them to adjust and how much.

In many agreements you may negotiate specific hourly rates for various classes of labor. Those hourly rates are fully burdened with contributions to benefits, overhead, and profit. If you include a clause that allows for the adjustment of labor rates you also need to agree upon what portion of that stated rate is subject to adjustment. Clearly you would need to adjust the amount that would actually be paid to the employee and for taxes or fringe benefits that are directly tied to the rate. Changes to the rate for other areas that would provide additional contributions to the supplier’s overhead and profit should not happen. You include the adjustment so the supplier doesn’t lose money when they occur, not so they can make more money.

When I negotiated services contracts I used the rule of thumb that the hourly rate quoted was approximately 2.5 times the actual rate being paid to the individual. The 1.5 amount was made up of benefits contributions, contributions to overhead and profit. So if I had an hourly rate of $25.00 per hour, I would assume that the employee was paid $10.00 per hour. I would also take the employers contributions into to mandatory programs (In the US that would be Social Security (6.2%) and Medicare (1.45%) that are based on a percentage of the salary. I would further include any vacation or holiday pay that might be earned and break that down to an hourly rate. For example is an employee earned 3 weeks of vacation and had a average benefits rate of 40%) this amount would be $10.00 + (10.00 x .40) x 40 hours x 3weeks or $1,680 ad divide that by 2080 which equals $.81 an hour. The adjusted rate would be
$10.00 rate
$ .62 social security
$ ,15 medicaid
$ .81 vacation
$ 11.58
That would be the amount I would base the adjustment off. So if there was a ten percent increase I would add $1.16 to the rate making it $26.16. If the mark up was different in the industry I would use that. That would be my starting point for what I would offer to be subject adjustment. I would look to the supplier to prove that other benefits contributions or overhead were tied directly to the rate. If they weren’t I would adjust them.

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