Time And Materials vs Fixed Price: How To Choose For Your Software Project
Fixed Price vs Time And Materials
Time and materials means you pay for the hours worked and the materials used, usually against an estimate or a cap. Fixed price means you agree one total price for a defined scope before work starts. With fixed price the vendor carries most of the cost risk, and with time and materials you carry more of it.
Most buyers meet this choice when quotes arrive in two different shapes. One vendor offers a single number for the whole project, and another offers an hourly rate and an estimate. Neither is better in every case. Each one moves risk to a different party, and the right pick depends on how clear your scope is and how likely it is to change. You may also see the choice written as fixed price vs time and materials, T&M vs fixed price or time and material vs fixed price. All of these mean the same thing.
This guide explains both models in plain language, compares them side by side, covers the middle options and gives you five questions to choose with. It is written for business owners and managers who are buying custom software or an AI system, and it assumes no technical background. If you are still deciding who to hire, start with our guide to choosing a custom software development partner.
What Is A Fixed Price Contract?
A fixed price contract sets one total price for a defined piece of work, agreed before the work starts. The price stays the same whether the vendor finishes early or runs over. The vendor takes on the cost risk, and you take on the job of defining the scope clearly enough that both sides know what the price covers.
The US federal acquisition rules describe it the same way: the price does not change with the contractor's actual costs, so the contractor carries the greatest share of the risk and keeps any profit or absorbs any loss (FAR 16.202-1 (opens in a new tab)). Government rules do not bind a private business, but they describe the trade-off clearly.
In software, a fixed price usually comes with a written scope, a list of deliverables, a schedule and payments tied to milestones, such as a share on signing, a share when a working version is delivered and the rest on acceptance. Anything outside the written scope goes through a change request: the vendor describes the change, prices it, and you approve it before work starts.
Fixed price gives you budget certainty and a clear finish line, and it asks little of your time once the scope is agreed. The costs show up in three places. Writing a scope precise enough to price takes effort from both sides. Changes are slower, because each one is priced separately. And because the vendor carries the risk, quotes usually include an allowance for unknowns, so you pay for uncertainty whether or not it happens.
What Is A Time And Materials Contract?
A time and materials contract, often shortened to T&M, pays the vendor for hours worked at agreed hourly or daily rates, plus the cost of materials such as software licenses or cloud services. You usually get an estimate and often a cap. You carry more of the cost risk, and you keep more control over what gets built.
The federal rules define it the same way: labor hours at fixed rates, with materials at actual cost. They allow it only when the amount of work cannot be reasonably predicted at the start, they require a ceiling price, and they warn that the contractor has no profit incentive to control costs, so the buyer must monitor the work closely (FAR 16.601 (opens in a new tab)).
That warning is the practical lesson for private buyers too. With time and materials, nothing in the contract itself pushes the vendor to work faster, so the controls have to come from you: an estimate, a cap, a weekly report of hours and progress, and the right to stop. A 2019 guide from the US General Services Administration's 18F team advised agencies buying agile software work to prefer a labor-hour contract over a firm fixed price, because they were buying developers' time. It said time and materials with a spending ceiling gives more flexibility when quality can be checked continuously, and that you can stop giving work to a team that is not delivering (18F guide (opens in a new tab)).
Time and materials works well when the work is uncertain or will change as you learn. You can reorder priorities every week, drop a feature that is not paying off and add one that is. The costs mirror those of fixed price. The final cost is not known on day one, you need to spend time reviewing progress, and a vendor with no cap has no built-in reason to stop. To see what sits behind an hourly estimate, SensViz explains how a build estimate is made from work packages and day rates (opens in a new tab).
Time And Materials vs Fixed Price: Side By Side
Table 1 compares time and materials vs fixed price on the points that matter most when you are about to sign.
| Point | Fixed price | Time and materials |
|---|---|---|
| Who carries the cost risk | The vendor, within the agreed scope | You, unless a cap limits it |
| Price certainty | High: one number | Lower: an estimate, a range or a cap |
| Changing the scope | Possible, one change request at a time | Built in: reorder the work as you learn |
| What you need before starting | A written scope detailed enough to price | A clear goal, a team and a first estimate |
| Your time during the project | Low until delivery and acceptance | Higher: weekly reviews and approvals |
| What you can see along the way | Milestones and the final delivery | Weekly hours and working software |
| Best when | The scope is clear and stable | The scope is unclear or will change |
Table 1: Fixed price and time and materials compared.
Fixed price buys certainty and costs flexibility, and time and materials buys flexibility and costs certainty. The next sections show when each trade is worth making.
Who Carries The Risk In Each Model
Every software project faces four kinds of risk: the work takes longer than planned, the scope changes, the quality falls short, and you need to leave. The two models split them differently.
The work takes longer than planned. Under fixed price, the vendor absorbs the extra time unless the delay comes from a change you asked for. Under time and materials, you pay for the extra hours, up to the cap if there is one.
The scope changes. Fixed price handles it through change requests, each priced and approved. Time and materials handles it by reordering the work, which costs nothing extra unless it adds hours.
The quality falls short. A vendor losing money on a fixed price has a reason to cut corners, so clear acceptance checks matter. A time and materials vendor has no such pressure, but also no pressure to finish, so reviewing working software every week matters.
You need to leave. Leaving a fixed price project halfway can mean disputes about what was delivered and what is owed. Time and materials lets you stop at any weekly boundary, though the contract must say what you own at that point.
Where a risk lands should follow who is better placed to manage it. A vendor can manage estimating risk when the scope is clear. Only you can manage scope risk, because only you know what the business will need next quarter.
When Fixed Price Is The Better Choice
Fixed price fits when you can describe what you want in enough detail that two vendors would build roughly the same thing. These situations point toward it:
The scope is written down, with screens, rules and connections to other systems listed, and it is unlikely to change.
The work is small or familiar, such as a standard website, a simple internal tool or a well-understood integration.
You have a hard budget limit that cannot move, such as a grant or an approved project fund.
You have little time to review progress and need a clear finish line.
An earlier discovery or design phase already produced a detailed specification.
Fixed price goes wrong when the scope only looks clear. If you and the vendor picture different things behind the same line of the scope document, change requests begin in week two. Before you sign, ask the vendor to read the scope back to you in plain language, and check that the list of exclusions is as specific as the list of inclusions. Our software RFP template guide shows how to write the brief that makes this easier.
When Time And Materials Is The Better Choice
Time and materials fits when you know the problem but not yet the full solution. These situations point toward it:
The scope will be shaped by what you learn, for example once real users try a first version.
The project is large or will run for months, and priorities are likely to change.
You want to start soon and refine as you go, with a first release in weeks and not after a long specification phase.
The work involves research or uncertain technology, such as connecting to an old system, where effort is hard to estimate in advance. Our guide to legacy software modernization explains what makes that work hard to estimate.
A named person on your side can give a few hours each week to review progress and make decisions.
Time and materials is safe only with controls. Ask for an estimate with a range, a cap you can raise only by choice, a weekly report that shows hours by task, and a demo of working software every one or two weeks. If a vendor offers time and materials with none of these, you are signing a blank check. If you are unsure what a sensible first release looks like, our guide to what growing businesses build first can help.
The Middle Options: Capped, Milestone And Phased Pricing
Most real contracts sit between the two ends. Figure 2 puts the main pricing models on one scale and shows how the cost risk moves between you and the vendor. The list after it explains the two middle models and adds two more common arrangements.
From Fixed Price To Open Time And Materials
Flexibility: low
Flexibility: between phases
Flexibility: high
Flexibility: highest
Time and materials with a cap (also called not to exceed). You pay hourly, but the total cannot pass an agreed ceiling without your written approval. The vendor tells you early if the work will reach the cap, so you can cut scope or raise it on purpose.
Fixed price per phase or milestone. The project is split into stages, each priced and approved separately, so you commit one stage at a time. This suits work where later stages depend on what the first one teaches.
Paid discovery, then a choice. A short, paid first phase produces the scope, a clickable design or a prototype and a better estimate. Then you choose fixed price or time and materials for the build. It is a common way to handle an unclear scope on a tight budget.
Monthly team or retainer. You pay a fixed monthly amount for a named team's time. Cost is predictable each month, and the results depend on how well you direct the work. It suits ongoing development and support, which our overview of software maintenance contracts explains.
How To Choose: Five Questions
Answer these five questions about your project. Figure 3 turns the answers into a starting point, and the list below explains each question.
Which Pricing Model Fits?
Can you write the scope down in enough detail to price? If two vendors reading it would build the same thing, fixed price is possible. If your honest answer is "it depends", it is not yet.
How likely is it to change? Expect change when users have not yet seen a working version or when the business is still deciding how the process works. The more change you expect, the more time and materials or phased pricing helps.
How firm are the budget and the deadline? A hard ceiling points toward fixed price or capped time and materials. A flexible budget with a firm goal points toward time and materials. For what drives the schedule, see our guide to the custom software development timeline.
How much time can you give? Time and materials needs a named person who reviews progress every week. If nobody has the time, fixed price, or a phased contract with clear acceptance checks, is safer.
How well do you know the vendor? With a new vendor, start small: a paid discovery phase or a capped first phase. With a proven vendor, you can use the model that fits the work.
Answers that point in different directions are normal. Many projects start with a fixed price discovery phase and move to capped time and materials for the build. If a contract of any kind feels wrong for the work, compare it with hiring directly in our guide to in-house and outsourced development.
What To Put In The Contract Either Way
Whichever model you choose, the written agreement decides what happens when something goes wrong. The first two lists below are specific to each model, and the third applies to both. Have a lawyer review the final text, because ownership, payment and termination clauses have legal effect. This guide is general information, not legal advice.
If You Choose Fixed Price
A written scope with inclusions and exclusions.
Acceptance criteria that say how each deliverable counts as done.
Payments tied to milestones, not calendar dates.
A change request process: describe, price and approve before work starts.
What happens if the vendor misses a milestone.
If You Choose Time And Materials
A rate for each role, and the names of the people who will do the work.
An estimate and a cap, with written approval needed to raise it.
A weekly report of hours by task, and a demo of working software every one or two weeks.
An approval step if weekly hours go above an agreed limit.
The right to pause or stop at any time, and what you receive when you do.
In Both Cases
You own the code, designs and data created for you, with source code access and handover documents.
Support, hosting and fixes after launch, priced separately and in writing. Our guide to development cost versus maintenance cost shows what to budget beyond the build.
Confidentiality, and rules for subcontractors.
Warning Signs In A Quote
Some quotes look attractive for the wrong reasons. Watch for these:
A fixed price far below the others. Either the vendor has misread the scope or plans to recover the difference through change requests.
A fixed price with no assumptions or exclusions listed. You cannot tell what the number covers.
"Unlimited changes included." Ask what counts as a change and who decides.
Time and materials with no estimate, no cap and no reporting. Nothing limits cost or shows progress.
A quote that names roles but not people, or does not say how many hours a week each person will work.
Pressure to sign quickly in return for a discount.
Ask every vendor for the assumptions behind their number. Vendors who answer plainly are usually easier to work with later.
Does The Choice Change For AI Projects?
AI projects carry more uncertainty than most software projects. Whether a model can reach the accuracy you need often cannot be known until it is tested on your own data. That makes one fixed price for a whole AI system hard to quote honestly, and a vendor who offers one may be padding the price heavily or assuming the problem is simpler than it is.
A common approach is to price the test separately. Pay for a short, time-limited proof of concept, either fixed price or capped, that answers one question on your real data, then decide how to price the build. Our guide to running an AI proof of concept explains how. Running costs sit outside the build price, and our guide to what AI agents cost covers them.
A Worked Example: A Distributor Prices A Customer Ordering Portal (Illustrative)
This example is hypothetical, and the numbers are invented to show the mechanics. They are not typical prices.
A food distributor with 25 employees wants a portal where customers can see their own prices and place repeat orders. Two vendors reply. Vendor A offers a fixed price of $60,000 for the scope in the brief. Vendor B offers time and materials at $110 an hour, with an estimate of 400 to 520 hours and a cap of $60,000. Table 2 shows what the distributor would pay in three scenarios.
| Scenario | Vendor A: fixed price | Vendor B: time and materials |
|---|---|---|
| The scope stays as written and the work takes 460 hours | $60,000 | $50,600 (460 hours) |
| The scope grows by about 15 percent and the work takes 530 hours | $68,500 ($60,000 plus $8,500 in change requests) | $58,300 (530 hours) |
| The work is harder than expected and would take 600 hours | $60,000, and the vendor absorbs the overrun | Reaches the $60,000 cap at about 545 hours. Finishing means cutting scope or approving about $6,000 more |
Table 2: An illustrative comparison. The vendors, rates and hours are invented to show the method.
In the first two scenarios, time and materials costs less because it has no allowance for unknowns. In the third, fixed price protects the distributor, though a vendor losing money on a fixed price may cut corners or argue about what is in scope. Fixed price caps your downside and costs more when things go well. Time and materials costs less when things go well and needs a cap to protect you when they do not.
The distributor's price lists have several exceptions that nobody has written down, so the owner picks Vendor B. She asks for a weekly report and a demo every two weeks, and she agrees with the vendor that any increase to the cap needs her written approval.
How Fossilite Approaches Project Pricing
We start with how the work is done today, not with a price. When the problem and the scope are clear, a fixed price for a defined phase can work well. When they are not, we would rather suggest a short, paid discovery step or a small first release and price the build once both sides know more. We also check whether an existing tool or a simpler change would solve the problem before recommending custom software or AI.
Frequently Asked Questions
These are the questions buyers ask most often about time and materials and fixed price. Each answer stands on its own.
Is Time And Materials More Expensive Than Fixed Price?
Not necessarily. Fixed price quotes usually include an allowance for unknowns, so they can cost more when a project goes smoothly. Time and materials costs less when work goes well and more when it does not, and a cap limits the downside. Compare the total cost under several scenarios, not only the first number you are quoted.
Can I Change The Scope Of A Fixed Price Project?
Yes, but each change goes through a change request: the vendor describes the change, prices it, and you approve it before work starts. Changes cost time and money, so write the scope and the exclusions clearly first. If you expect many changes, time and materials or phased pricing usually fits better.
What Is A Capped Time And Materials Contract?
A capped time and materials contract bills hours worked at agreed rates, but the total cannot pass a set ceiling without your written approval. It gives you the flexibility to change priorities and a limit on cost. When the work nears the cap, you decide whether to cut scope, stop or raise the limit.
Which Pricing Model Is Better For An MVP?
A minimum viable product, or MVP, is the smallest working version of a product that you can test with real users. Because you expect to learn and change direction, time and materials with a cap, or a fixed price for a small first phase, usually fits better than one fixed price for the whole product.
What Happens If A Time And Materials Budget Runs Out?
It depends on the contract. With a cap, the vendor should warn you before the limit and stop work at it, and you choose to cut scope, add budget or end the project. Without a cap, nothing stops the spending, which is why an estimate, a cap and weekly reporting belong in the contract.
Should An AI Project Use Fixed Price Or Time And Materials?
Usually neither for the whole project at the start. AI results depend on your data, so a short, paid proof of concept, either fixed price or capped, is a safer first step. Once it shows what is achievable, you can price the build as fixed price or time and materials with better information.
Who Owns The Code Under Each Pricing Model?
The pricing model does not decide ownership. The contract does. Whether you pay a fixed price or by the hour, the agreement should state that you own the code, designs and data created for you, and that you receive source code access and handover documents. Have a lawyer review the wording.
Once the build is priced, the next question is what happens after launch. Our overview of software maintenance contracts explains what support agreements usually cover and how they are priced.