Masonry Magazine August 1984 Page. 22
FINANCIAL STATEMENTS continued
of the necessary information is presented.
Looking at columns 1 through 5 we see estimated contract price costs, gross profit, cost to complete and percentages. One of the most difficult amounts to obtain is cost to complete.
The most reliable method of computing cost to complete is for the accounting department to furnish the estimating department with detailed schedules of costs incurred on an item-by-item basis. It is then up to the estimating department to calculate actual costs to complete the job. Once you know actual costs incurred and the updated total estimated costs, the percentage completed equals the costs incurred to date divided by total estimated costs on a job-by-job basis.
Computing Revenues Underbillings and Overbillings
There are several methods to compute contract revenue. The easiest is to take the percentage complete times the contract price, for that is the gross revenue earned to date on a job-by-job basis. When we compare that amount to actual billings we will be able to determine the amount by which each job is underbilled or overbilled. By subtracting the contract costs recorded to date from revenue earned, we arrive at the gross profits earned to date.
To determine the revenue costs and gross profits applicable to the current year, subtract the revenue, costs incurred and gross profit earned on each job that started in a prior year from the gross profits earned to date.
Generally accepted accounting principles require that losses be recognized in the period they are determined, even though the contract may not have even started, or is far from complete. This applies to both the percentage and completed contract method. On the other hand, profits are recognized only as the job is completed. You might call that accountant's conservatism, but that is the rule.
The key to reliable financial reporting is accurate recording of financial data. It is essential to have a good job cost accounting system that is tied in to the general ledger. This system could be manual, kept on an in-house computer or by a service bureau, or even by a combination of those methods tailored to your particular type of construction.
William J. Holtz is managing partner of Holtz Rubenstein & Co. one of Long Island's largest independent CPA firms, with offices in Melville, N.Y. He formerly was a partner with Touche Ross & Co., a "Big 8" accounting firm. Holtz is the author of "Real Estate & Construction-Financial Planning through Recapitalization" and lectures on construction accounting. A graduate of State University of New York, Harpur College, he earned his CPA certificate in 1963.
The IRS will be taking a harder look at construction contracts, and special rules have been established for contractors. The author discusses what to look for in the new regulations...
OVERVIEW OF TAX REPORTING
By ALAN E. WEINER, CPA
Tax Methods of Accounting
Construction companies and contractors may use three accounting methods: cash, accrual and long-term.
Under the cash method, income is reported when collected and expenses are deducted when paid. This method is advantageous if warranty retainages are substantial and because of its flexibility in controlling taxable income. The cash method is available only when inventories are not a large factor in determining income, which often is the case in the construction and contracting industries.
With the accrual method, income is reported when it is earned (generally when requisitioned), as opposed to when it is collected, as under the cash method. Expenses are also deductible when incurred (versus when paid under the cash method). With the accrual method, billing prior to performing services may result in current taxable income that could have been deferred.
The long-term contract method is available for an installation, construction or manufacturing contract spanning at least two taxable years.
Long-term contract methods may be computed two ways. The first is by percentage-of-completion in which income is reported based on the ratio of costs incurred to total estimated contract costs times and gross contract price. Losses on contracts reported under the percentage-of-completion method can be deducted currently.
The second method is the completed contract method under which income is reported only when the construction, installation or manufacturing contract is deemed complete. Losses on contracts reported under the completed contract method are not deductible until the contract is completed. Under both methods, many period costs need not be allocated to the contract, but can be written off currently.
Alan E. Weiner is tax partner with Holtz Rubenstein & Co. In addition to being a CPA, he is a member of the New York State Bar and has given numerous lectures on tax issues to a variety of business and professional groups. The author of numerous articles on accounting and taxes, Weiner is editor of the federal tax column for the CPA Journal. He holds an LL.M degree from New York University, a J.D. from Brooklyn Law School, and a B.B.A. from City College of New York.