A construction business with gross receipts under $10 million can use the completed contract method on construction projects that last less than two years. Use a journal, spreadsheets, or construction accounting software to record day-to-day transactions like accounts payable, accounts receivable, labor costs, and material costs incurred. Generally speaking, all companies with gross revenue above $25 million must use this method for projects that take two years or more (unless it is a qualifying home construction project). This is the most common construction accounting method, particularly for large, multi-year projects.
Beyond tracking expenses and revenues, it requires careful management of overhead costs and an understanding of the unique aspects of each construction project. Construction accounting involves unique practices such as job costing, revenue recognition and managing overhead costs that are specific to each project. The document outlines 10 key best practices for construction accounting that help contractors improve job profitability and manage cash flow.
WIP reporting is essential for percentage-of-completion revenue recognition, cash flow forecasting, project profitability analysis, and stakeholder communication. Non-compliance can result in costly fines, legal issues, project delays, loss of government contracting eligibility, and reputational damage. Compliance is essential because construction companies must navigate complex regulatory environments with significant financial and legal consequences for non-compliance.
Construction accounting explained: 6 methods & how to use them
For example, construction businesses and contractors will want to understand the 179D tax incentive for energy efficient projects. The budgeting tools in QuickBooks Online enable construction companies to forecast expenses and revenues accurately, ensuring better financial management and project profitability. QuickBooks Online (QBO) is a popular accounting software used by a broad variety of businesses, including construction companies, contractors and the trades. The construction industry uses a number of financial reports to measure revenue and project costs. Real-time monitoring of job costs enables immediate adjustments to keep projects within budget, optimizing cash flow and resource allocation.
What Is Job Costing?
Just as you have project managers overseeing each job site, it might make sense to hire a professional accountant to help you reconcile a variety of transactions for various jobs and services. However, you can take a “completed contract” approach as well, which involves calculating taxes owed on each contract. You’ll also want to categorize these expenses by service, and by individual job so you can easily track how much money came in as well as how much you spent on expenses. The first step for all construction firms is to open a separate business bank account that will be used exclusively for your business. Many construction companies operate in multiple states, making the payroll process more complex.
Together with your team, a consultant can work to develop an action plan to meet your specific pain points and goals based on the type of contracts you’re working on. Contractors who report less in gross receipts may be able to pick other approaches based on what can provide the most benefit per contract. The key is to keep it simple when establishing a list of cost codes.
Beware of double taxation in construction accounting
Job costing is essentially charting out a project’s financial roadmap — a comprehensive exercise that tabulates the entire cost landscape of a project. After adopting construction-specific accounting software, an astounding 67% of firms reported an uptick in profitability by an average of 14%. Massey and Company CPA is a boutique tax and accounting firm serving individuals and small businesses in Atlanta, Chicago and throughout the country. This approach ensures that revenue is matched with incurred expenses, enhancing clarity in financial reporting.
Percentage Of Completion Method (PCM)
Labor costs have the ability to impact schedules, project timelines, budgets and, ultimately, the total profitability of your contract. Although it may seem like there should be one right approach when it comes to construction accounting, in reality construction companies may choose from several different methods of accounting. Job costing is the practice of accounting for your company’s true costs at the project level. Between overseeing multiple projects, client expectations and managing your team, even the most financially savvy contractors can struggle to balance their books.
Federal prevailing wages are publicly available and must be adhered to, and many states also set prevailing wages for any state-funded projects. In this method, the company charges a fixed amount for each ‘unit’ completed. The fixed price method has pros and cons—on one hand, it allows the customer to see the entire price of their project upfront, which can make it easier to make a deal. Retainage refers to the portion of payment that is withheld until project completion (or another pre-specified time). ASC 606 states that companies must recognize revenue according to their obligations to the customer, with each obligation having a price attached to it.
As the economic forecast begins to show more promise for builders who can react quickly to market changes, construction companies should be strengthening their accounting processes. These common financial mistakes can be a construction company’s worst nightmare. Learn how to use your construction software to properly measure revenue and stay ahead of the curve.
Business Insight
The percentage of completion method recognizes revenue based on the percentage of work completed, making it useful for long-term projects where revenue and expenses span multiple years. These factors make construction accounting a more focused discipline that draws on the same basic principles as general accounting but with distinct features that impact project management. Proper overhead cost management impacts both profitability and taxes, making it essential for successful construction business operations. For construction companies, understanding these methods is essential to ensure financial health and tax compliance. These components work together to establish solid project foundations, enable effective cost control, prevent scope creep, and ensure projects remain profitable while meeting client expectations and contractual obligations. The Percentage of Completion Method (PCM) recognizes revenue and expenses proportionally to work completed, providing accurate ongoing financial performance representation and required for many larger contracts.
- Key challenges include fluctuating costs, change orders, decentralized operations, and compliance with industry regulations.
- Proper revenue recognition ensures financial statements accurately reflect project progress, supports informed decision-making, maintains compliance with accounting standards, and provides stakeholders with transparent insights into company financial health and project performance.
- Whether you’re a seasoned construction professional or new to the industry, this guide will equip you with the knowledge and tools needed to navigate the complexities of construction accounting and drive your projects toward financial success.
- Mobile technology helps companies stay on top of project progress and costs.
Cash method
- This dual process guarantees a robust check on cash flow, profitability and ensures compliance with stringent tax and legal obligations.
- If a business’ sales exceed that amount, they’ll have to use another method for tax purposes.
- This is important because over or under-billing can greatly impact reported revenue, which will affect your numbers come tax time.
- These may include administrative salaries, office rent, utilities, and other general operating expenses.
Managing the financial intricacies of a construction business requires expertise, precision, and a deep understanding of industry-specific accounting practices. Implement a system to track and manage costs in real time, including labor, materials, equipment rentals, and subcontractor expenses. In fact, many construction contracts take years to complete, and expenses often hit a company’s cash flow long before payment comes in the door. It also involves identifying payment terms in construction contracts, complying with industry regulations, and managing project-specific financial risks. Construction accounting tracks the costs related to materials, labor, and equipment, as well as managing project budgets and cash flow.
Appropriate and consistent job costing helps companies accurately estimate projects and keep a stringent track of actual and estimated costs. Ultimately, construction firms manage costs by tracking individual projects’ actual expenses and production activities that make up the job costs. The decentralized nature of construction projects, coupled with fluctuating costs and long-term contracts, necessitates a more dynamic and adaptive accounting approach. The specialized area of financial management is accommodating the unique complexities of the construction sector, where businesses must navigate project-based financials, fluctuating costs, and decentralized operations.
These accountants need solid skills in both mathematics and communication, as well as excellent time management skills. Construction accountants need to maintain accurate bookkeeping for multiple business expense categories across multiple job sites and often multiple bank accounts. They also prepare important financial statements such as annual revenue reports, profit and loss statements, and so on. Regularly review financial records and reports, such as profit and loss statements, balance sheets, and cash flow statements. This will ensure that progress billings are prepared accurately and submitted on time to maintain a steady cash flow. Assigning unique codes to each cost category can provide more visibility into your cost structure and help you generate accurate 8 key construction accounting best practices for contractors financial statements.
Enterprise companies (over $500 million) need comprehensive systems like JD Edwards EnterpriseOne for extensive project management, financial, and supply chain capabilities. Large companies ($ million) require robust solutions like Viewpoint Vista, Acumatica, or NetSuite that handle complex projects and intricate financials. They help identify over-billing situations (where billing exceeds costs incurred) or under-billing situations (where costs exceed billing), enabling proactive project management. WIP reports show the relationship between project costs, billing, and completion percentages, offering snapshots of project profitability and financial health. Proper compliance ensures accurate financial statements, protects against liabilities, maintains eligibility for projects, and supports business credibility and growth opportunities. Choosing the right software for your construction company requires understanding your unique needs and selecting a solution that can grow with your business.
Construction Accounting Methods
In this method, revenue and expenses are recognized when cash is received or paid. Job costing is an essential part of running a financially stable construction business. To stay on top of cash flow and keep your books in check, you will need a flexible yet organized construction accounting system. It’s essential that contractors have an effective method for keeping track of income and expenses, and for reconciling every transaction.
This approach helps construction companies monitor expenses, assess profitability, and stay compliant with industry regulations. This construction accounting program helps you optimize budgeting, control expenses, and maximize profitability with ease. HashMicro’s Construction Accounting Program simplifies financial management with automated cost tracking, real-time reporting, and compliance management. Job to Date reporting, project-driven accounting, mobile access, and document management are all features that can improve financial visibility, streamline workflows, and increase profitability. Large contractors must use the percentage of completion method, which is a type of accrual accounting. Proper accounting for a construction company’s success requires the right tools, expertise and commitment to industry best practices.
Using a construction accounting program enables firms to handle multiple contracts efficiently while managing fluctuating expenses in real time. Construction accounting is the process of tracking costs, managing budgets, and maintaining cash flow for ongoing projects. There are plenty of reasons to make FOUNDATION your choice for job cost accounting and construction management software — just ask our clients! According to the IRS, only construction businesses with less than a set average annual revenue can use the cash basis method for tax purposes.