What to include in a custom software development contract

11 min read
January 12, 2023


In an ideal world, software projects get done on time, delays don’t happen, and there’s zero conflict throughout development.

Unfortunately, in reality, things get messy. Unexpected emergencies can derail timelines, and miscommunication can lead the project in the wrong direction.

That’s why contracts are essential when working with custom software development teams.

A contract lays out the terms of the relationship, thereby helping to avoid confusion and conflict.

And even if unfavorable circumstances do arise, a good contract should include provisions to tackle them effectively.

Here are some elements that your custom software development contract should have.

Types of software development contracts

Contracts generally fall into two categories based on how the team prices its services.

Time and materials contract

In a time and materials contract, the team charges the client based on the actual work done and the costs incurred on the project. This is often done through an hourly rate.

Time and materials contract

Source: Bay Tech Consulting

Many consider the time and materials contract one of the fairest compensation models. That’s because developers are paid exactly for the amount of work they put in.

At the same time, clients don’t spend unnecessarily.

Moreover, the time and materials approach is flexible thanks to its pay-as-you-go nature. If requirements change in the middle of development, developers are still paid fairly for their work.

This results in far better control over the project. There’s less stress over money on both sides, enabling everyone to focus more on the project.

Time and materials contract pros and cons

Source: Jelvix

The drawback is that it’s difficult to set a budget and stick to it. If the project needs additional work, then costs will rise accordingly.

Nevertheless, a time and materials contract is your best bet for most software projects—especially complex apps with varying requirements and scope.

It’s why the DECODE teams swear by this approach.

Fixed price contract

In a fixed-price contract, the client and development team agree on a set fee at the beginning of the project.

The price is usually decided after a thorough evaluation of the requirements and an estimation of the resources needed to fulfill them.

Fixed price contract

Source: Bay Tech Consulting

The biggest advantage of a fixed-price scheme is that it’s easy to set up. It also favors the client more because the budget remains set even if the scope changes.

Of course, the flip side is that the development team loses out when this happens. They’ll often end up getting less pay for more work.

Otherwise, the client would have to settle for subpar software.

It could easily become a lose-lose situation.

In short, getting the right cost estimate for larger, more complex projects is difficult, so there’s a risk of under- or overpaying the development team.

Fixed price contract pros and cons

Source: Quora

Because of these drawbacks, a fixed-price contract is only suitable for smaller projects with set requirements.

What to include in a custom software development contract

A contract needs to have the following components to be effective.

Project scope

The project scope lists all the tasks, deliverables, and timelines the team needs to accomplish to complete the project.

It’s perhaps the most critical part of your software development contract because it can settle disputes about the workload and deadlines.

It also allows the team to set up their schedule in a way that allows them to meet project timelines in a timely manner.

Having a clear project scope also helps you set the boundaries and limitations of the project. This is crucial for preventing scope creep.

The term scope creep refers to the tendency of a project’s requirements to change over time, either intentionally or unintentionally.

For example, a client might decide to add a feature midway through development.

Unfortunately, scope creep is bad for everyone because it adds unnecessary time, effort, and cost to the project.

Scope creep illustration

Source: Microtool

Having a clearly defined scope in the contract prevents this from happening. If changes are required, the cost and timeline should be adjusted accordingly.

It’s also a good idea to break down your project deliverables into specific activities, which you can compile into work packages.

Doing this gives you a clearer view of the project and its requirements.

Project work breakdown structure

Source: Wrike

The bottom line is that project scope forms the basis of your development team’s work. Thus, it should be the part of the contract you spend the most time refining.

Payment terms

Payment is always a sensitive topic in any working relationship.

Thus, it would be best if you spared everyone some future grief by laying out the project’s payment terms as early and clearly as possible.

At this stage, it’s important to specify whether the project is going for a fixed-price or hourly rate. You should then determine the actual rate in dollars.

The contract should also clearly lay out the payment schedule, which will vary depending on your agreement with the development team.

This can be paid out in a set period (such as weekly or monthly) or after a certain milestone has been reached.

Some teams would also negotiate for an initial down payment at the beginning of the project. Make sure that’s also clearly stated in the contract.

It’s also wise to determine the payment method to ensure smooth future transactions.

For example, you should agree on a preferred channel for sending payments (such as Wise or Paypal).

If it takes time for you to make a payment after the team sends the invoice (due to processing times or accounting procedures), good faith dictates that you make a note of it in the contract.

The point here is to be upfront with everything regarding payment. This will make future transactions hassle-free.

Intellectual property rights

One of the more confusing topics with software projects is ownership. In other words, who owns the app after development is complete?

This is why an intellectual property clause is crucial.

Such a clause lists all aspects of the software and who owns them, including the source code, branding, proprietary algorithms, and trade secrets.

You should also explicitly state what the development team can and can’t do with the project assets after.

For most projects, the expectation is that the client owns the app.

This means they can do whatever they want with the source code—even have another development team modify it if they wish.

However, you’d be surprised that many development teams aren’t aware of this. Since they created the software, they believe they can use parts of the code in other projects.

An IP clause can help prevent that.

Non-disclosure agreement

A non-disclosure agreement, or NDA, is a provision that establishes confidentiality in the contract.

Specifically, it prohibits either party from revealing any relevant project information to outsiders. If they do, the other party can sue them.

When to sign an NDA

Source: Aglowid

NDAs are critical for protecting your intellectual property, such as trade secrets and proprietary data, from theft. This can help you maintain a competitive edge in the market.

It’s also important for sensitive projects, such as those for the government.

As such, NDA should be a vital addition when creating any app development contract. This gives you peace of mind when working with third-party contractors.

Like any legal agreement, you need to be thorough with your NDA.

Critically, you should state everything that you deem as confidential. This prevents unintentional leaking that stems from confusion, ignorance, or misunderstandings.

The NDA could also force participants to take reasonable steps not to let others access sensitive information.

For example, if the development team revealed sensitive information due to a security breach, an NDA can make them liable for any ensuing damage.

Lastly, an NDA should specify the duration of the agreement. Will it be binding in perpetuity or end upon project completion?

Non-compete clause

A non-compete clause is a provision that prevents your development team from working on similar software once your project is done.

Think of it as an extension of your NDA. It helps protect your competitive advantage in the market, as it keeps your app unique for a longer period.

It also ensures that developers can’t apply your trade secrets to a competitor’s app.

Non-compete clauses are generally trickier to write because they have more legal loopholes and issues.

For instance, some states in the US don’t allow non-compete agreements, so you need to be careful.

Noncompete bans by state map

Source: Bloomberg

You should also be specific with the details of your non-compete clause.

One of the more critical provisions is the duration. Normally, non-compete clauses last from six months to a year.

Anything longer than this is either illegal or unacceptable, as it can limit the opportunities for your development team.

You also need to state the competition for which the development team isn’t allowed to work for. You can list specific companies or a particular niche.

Also, you must state the specific scope of work that a development team can’t provide to your competitors. This might include specific technologies, methods, or best practices.

Lastly, the non-compete clause must also define the location where it will take effect. That’s because enforcing the clause in every country worldwide is impossible.

Warranties and liabilities

Warranties and liabilities define the responsibilities and limitations of a software development relationship. As such, they are important elements in any contract.

Let’s start with warranties—the promises and responsibilities both parties commit to the project.

At the minimum, you should write down the expected commitments of any software developer. These include a professional work ethic, following the law, and fulfilling the terms of the contract.

In some situations, you might have specific requests.

For example, you might have unique company policies that you need the development team to follow. These should be stated explicitly in the warranties section.

On the other hand, liabilities determine situations where the development team must reimburse the client when obligations or claims arise.

For example, when a user sues the client due to damages caused by the software, that’s a liability.

However, a contract mostly defines things that a development team is not liable for. In the example mentioned above, it’s explicitly understood that the team isn’t liable when a user sues.

That’s because they have no control over how people use the software.

The important thing to remember is never to assume that something is too obvious to put down as a warranty or liability. It’s better to be clear—and safe!

Dispute resolution clause

Despite best intentions, things don’t always go as planned. There’s always the possibility that disputes could arise, so it’s crucial to prepare for this.

And that’s what a dispute resolution clause does.

It outlines the protocols in case of litigation, breaches of contract, non-submission of deliverables, and other legal issues.

The goal is to settle things amicably when relationships are still good. This can help avoid a legal trial, which could get expensive for either party.

It also helps you fix things swiftly before the issue escalates.

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Any dispute resolution clause must include the method with which it should be settled.

For instance, you can specify that the aggrieved party must first address their concerns with the project manager before going to upper management.

You can also include a third party to arbitrate the dispute. This can help make the proceedings fairer.

Finally, it’s best to have a backup option in case the dispute resolution fails.

Final remarks

Before we end this article—one caveat.

Note that the things we listed here are just suggestions and are not meant to be legal advice. It’s still best to consult a lawyer when drafting a software development contract.

With that said, we hope we’ve enlightened you on what a good contract looks like.

Having it is certainly one of the most important things when managing a dedicated software development team.

By the way, if you need more details about this topic, we have written an excellent article you can check out here.

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Written by

Marko Strizic

Co-founder and CEO

Marko started DECODE with co-founders Peter and Mario, and a decade later, leads the company as CEO. His role is now almost entirely centred around business strategy, though his extensive background in software engineering makes sure he sees the future of the company from every angle. A graduate of the University of Zagreb’s Faculty of Electrical Engineering and Computing, he’s fascinated by the architecture of mobile apps and reactive programming, and a strong believer in life-long learning. Always ready for action. Or an impromptu skiing trip.

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