Accounting for construction: 5 tips & best practices

This method of revenue recognition allows you to recognize your gains and losses related to the project in every reporting period during which the project is active. Milestone payments are payments paid out after achieving a defined stage of progress on a project. To ensure you aren’t surprised by a customer withholding part of the fee you’re owed, make sure you account for contract retainage properly when budgeting for a project and invoicing clients. Whether you decide to do job costing manually or using software, the same steps apply.

Use the right accounting method

The first step to building more accurate accounting processes is recognizing that construction accounting is different. It’s definitely a mindset shift, but the good news is, no matter what kind of contractor you are, your construction firm’s needs are going to look pretty much the same. It’s how (and how much) you lean into practices like WIP reporting and job costing that will ultimately begin to move the needle for you. Construction bookkeeping is a form of bookkeeping unique to the construction industry. Its purpose is to enable construction companies to have a better understanding of their financial situation through tracking and recording both expenses and incoming payments.

Percentage of Completion Method

• This process helps contractors understand the profitability of each project and make informed decisions about resource allocation and pricing.
• If you want to be able to plan better, and proactively address problems before they eat into your profit, you need this document.
• Whether you’re an owner of a commercial or industrial cleaning company, or running a residential business, it’s only natural that you’re always on the lookout for new ways to…
• One common construction billing format is known as AIA progress billing, named after the American Institute of Architects, which produces its official forms.
• These tools often include features for job costing, financial statements, progress billing, and WIP reporting.

In general, a construction business with gross receipts (also known as Business Tax Receipts) over $10 million must use the percentage of completion revenue recognition method for tax purposes. A construction business with gross receipts under $10 million can use the completed contract method on construction projects that last less than two years. They’re only required to use the percentage of completion method for construction contracts that extend over two years. Put simply, job costing is about tracking a specific construction project’s direct and indirect costs, revenue, and profit margin. The cash method of accounting for contractors is a system that records all cash transactions when they occur. This method is often used in construction accounting because it allows contractors to accurately track their cash flow and the progress of their projects.

• What’s more, you may find yourself paying higher taxes if your business operates in multiple states.
• If you’re an emerging contractor still wrestling with the unique challenges of construction accounting, this guide will make sure you’re equipped with the tools to make sound financial decisions.
• So, a single employee might have multiple prevailing wage rates and fringe requirements on a single job, depending on what they’re doing each hour.
• To properly record and track retainage, you’ll need to include an account for retainage receivables on your company’s Chart of Accounts.
• It’s essential that contractors have an effective method for keeping track of income and expenses, and for reconciling every transaction.
• Contract retainage, which is the amount of money that customers can withhold until they are satisfied with a project, is typically 5-10% of a contract’s value.

How to Record Construction Expenses

You can also track and manage your construction projects with QuickBooks Online. Contractors and real estate developers use GAAP construction accounting to  increase their financial accountability and provide valuable peace of mind to customers. Income recognition is an important part of the construction project cycle and a feature of accrual accounting. Also referred to as “revenue recognition”, it represents the point at which a construction project becomes profitable. Under the cash method, you will record expenses as you pay them out, and income gets accounted for when payments are received.

• Implement systems to accurately track and report all payments to employees and contractors.
• To ensure job costing is accurate, businesses must monitor and track their billing process closely.
• Under a unit-price contract, the contractor bills a customer at a fixed price-per-unit rate.
• Tracking money coming in and going out provides insights into the financial health of your contracting business.

• If your construction business follows generally accepted accounting principles, you should use the percentage of completion method for financial statements as well.
• Her work has appeared in Business Insider, Forbes, and The New York Times, and on LendingTree, Credit Karma, and Discover, among others.
• In other words, it tracks how money “accrues,” or accumulates, in holding before it moves as cash.
• First, prevailing wage payroll may include and sometimes requires non-cash compensation called “fringe benefits,” such as health care or continuing education.
• Unfortunately, it is not as simple as merely establishing a compensation agreement with the worker.
• This guide to construction bookkeeping will give you the best practices when managing your books and performing accounting tasks.

There are four revenue recognition methods, but for the sake of this guide, we’re going to focus on the percentage of completion method (POC), which is what most contractors end up using. With this information in your accounting system, tracking things like retainage and change orders, issuing purchase orders or subcontracts, and keeping client billings on schedule becomes much easier. You’ll also use the contract’s total cost and scope of work to develop the project’s schedule of values, which breaks down individual billable tasks and their value. Regardless of the type of payment schedule you use for each contract, long-term contracts require meticulous bookkeeping records. Apart from multiple prevailing wage and union rates, contractors commonly deal with multiple rates for numerous other reasons.

Once you complete the project, you can then issue a final invoice for the entire value of the retainage. The simplest way to account for retainage https://www.merchantcircle.com/blogs/raheemhanan-deltona-fl/2024/12/How-Construction-Bookkeeping-Services-Can-Streamline-Your-Projects/2874359 is to include two sets of information on your invoices. This helps you get a better idea of how much money is coming in and going out of your business every month. It allows you to estimate labor, material, and overhead cost, as well as determine how much you should charge for the project. Note down all the information from your receipts and invoices in case you ever need it. Apart from giving you insight into where your money is going, receipts also serve as proof of your business expenses in case you ever get audited.

Properly accounting for retainage is essential for accurate financial reporting and effective cash flow management. No matter your trade, financial and accounting education is vital to ensuring your construction business stays healthy and profitable. One thing that is undeniable is the importance of accurately tracking your numbers and evaluating those numbers to make better decisions.

Tip 6: Choose the right revenue recognition method

Construction companies How Construction Bookkeeping Services Can Streamline Your Projects also have to watch that they don’t overpay on unemployment tax when an employee works in multiple states. Reporting requirements for a particular union may exist on a national or a local level. Contractors can typically determine their requirements, especially when entering another jurisdiction, by checking with their local union business manager. For example, a crew might have a home union but work on a project within another union local’s jurisdiction.