9 Essential Steps for Setting Up a Construction Accounting System

As contractors create, modify, or restore assets, they encounter specific challenges that demand a nuanced approach to financial management. Construction accounting is a vital discipline that extends beyond the traditional bounds of financial management. It’s the backbone of successful construction project management, providing the framework necessary to track, evaluate, and control costs throughout the lifecycle of a project. Whether you’re managing small residential builds or large-scale infrastructure projects, mastering construction accounting is essential for ensuring profitability, compliance, and financial stability. All of these factors can lead to irregular cash flow cycles and difficult financial management for construction companies.

Retainage Billing

This means that after completing a project, the contractor or subcontractor has to wait months or years before collecting all of the money owed to them. Retainage often limits a contract and subcontract’s cash flow and may cause financial hardships. As a business owner, you need to know all the retainage terms and retainage rules of the state you’re working in before signing any contract. Besides debits, credits, and financial statements, contractors have many additional aspects that need to be managed and accounted for. Job costing helps you track many variables in your project-centric decentralized business. Maintaining well-organized construction accounting is not easy, especially for small construction companies.

• The Percentage of Completion Method (PCM) that are used to recognize revenues, expenses, and taxes over the life of the construction contract based on its completion percentage.
• Similarly, when the business receives a bill from a vendor or supplier, it will be recorded as an expense even if payment hasn’t yet been sent.
• When it comes to payroll accounting between unions, it gets even more complicated.
• Put simply, job costing is about tracking a specific construction project’s direct and indirect costs, revenue, and profit margin.
• Reports turn large amounts of data into summaries to help you make day-to-day decisions while keeping your eye on the big picture.
• That means a contractor’s profit margin may be held back long after their portion of the work is complete.

Benefits of WIP Reporting

General contractors need to subtract subcontractor payments from revenues to calculate working capital turnover, as this money simply passes through the GC from the owner. Whether you are the one withholding retainage or it is withheld from your payments, accounting for retainage requires an addition to the chart of accounts. Retainage doesn’t belong in accounts receivable or payable, because it is not collectible (or payable) until the contract conditions have been met for its release. Learn more about the differences between cash and accrual methods of construction accounting. https://www.bignewsnetwork.com/news/274923587/how-to-use-construction-bookkeeping-practices-to-achieve-business-growth Of course, if you want to make your life easier, construction accounting software like CrewCost will do a lot of the heavy lifting for you.

Difference between Construction Accounting and Regular Accounting

The compensation becomes part of the contract revenue if the claim is valid and meets contractual criteria. Unit price billing is used in contracts where the work is divided into quantifiable units (e.g., cubic yards of concrete, square footage of flooring). The contractor and client agree on a price per unit, and billing is based on the number of units completed. Time and Materials (T&M) billing is commonly used when the project scope is not well-defined at the outset, or when changes to the scope are expected. Under this method, clients are billed for actual labor hours worked and materials used, plus a markup for overhead and profit.

It is essential to check all costs regularly and ensure they are included in the overhead calculation. Overheads may consist of office expenses, insurance, maintenance, and training. Production is usually done at the project site in the construction business, which could vary in location, thus affecting the transportation, workforce, and equipment costs. Some jurisdiction contractors need to be aware of double taxation, which is especially problematic if the employee lives in one state and works in another.

• Technology has emerged as a pivotal driver, revolutionizing construction accounting in various ways.
• You should also ensure it’s compatible with the size and type of company you have.
• Technology and professional insight are paramount in the construction industry, where uncertainties and complexities are par for the course.
• Importantly, the income sheet’s view of profit must match the change in equity reflected on the balance sheet.
• According to the IRS, only construction businesses with less than a set average annual revenue can use the cash method for tax purposes.

This means accounts payable and accounts receivable aren’t recognized until a check is written to pay the bill, and revenue isn’t recorded until payment is received and deposited into the company’s account. Accounting is one of the most important parts of business management and administration. In the construction industry, contractors face certain difficulties in accounting due to their unique challenges. In this article, we aim to full construction bookkeeping fill contractors with the basic knowledge of construction accounting and the key differences between construction accounting and regular accounting.

• Regardless of the type of payment schedule you use for each contract, long-term contracts require meticulous bookkeeping records.
• Unlike product sales, where companies recognize revenue when a widget is sold, bookkeeping and accounting in construction have different ways when it comes to revenue recognition.
• Income is registered when cash transactions occur, irrespective of a project’s actual progression.
• The additional cost of constructing the pool becomes a variation, increasing the contract revenue.
• Construction bookkeeping is unique because of the nature of the business, so it’s even more important to hone your bookkeeping skills and use the best tools available, to make sure it’s done right.
• Whether you’re managing small residential builds or large-scale infrastructure projects, mastering construction accounting is essential for ensuring profitability, compliance, and financial stability.

Job profitability reports provide a clear view of a project’s financial performance,… Costs including materials, labor, equipment, and subcontracts are listed on the income statement. These costs include both direct costs (which are easily assigned to a specific aspect of a project) and indirect costs (which are necessary for a project but are not easily tied to a specific component). Retainage can have a substantial effect on your cash flow because the amount, generally 10% is approximately the same as the net profit that most contractors can expect to make on any given project. Considering that your profitability likely is funding future projects, it doesn’t take long for this to get out of hand.

• This method provides a more granular view, tallying revenue with ongoing progress, be it through cost-to-cost or units-of-delivery evaluations.
• While G&A costs are not directly tied to specific jobs, they must still be accounted for within the overall financial management of the business.
• Equipment used for a single job will simply be listed under construction costs.
• Also, projects can be run for a whole year, during which the expense could be outweighed by the income.
• By keeping records accurate, you can ensure returns are sent off by the deadline.

However, to reduce confusion and inaccuracies, you need to decide on and stick to one set way of recording your income and expenses. WIP is like a tally of costs for a project that haven’t been billed or paid yet. It includes both direct costs (such as materials, workers, and subcontractors) and indirect (like office expenses, insurance, and interest). On the balance sheet, WIP is listed as something valuable, showing the money a project is expected to bring in. In constructing a new office building, direct costs would include the wages of on-site workers, materials like concrete and steel, and payments to subcontractors hired explicitly for the project. If you need help getting started or have outgrown handling your construction company’s books on your own, schedule a call with Slate.