In a tumultuous industry like construction, you’re probably familiar with the term “crunch the number since it’s all too easy to let crisp, timely financials go soggy with outdated data and cause unfortunate mistakes.
To help set you up for success, I've uncovered the most common construction accounting mistakes frequently made by contractors.
By applying all learnings in this guide to your current bookkeeping process, you can avoid catastrophic errors.
1. Inaccurate Application Of Overhead To Jobs
Construction companies typically must account for high overhead costs in their accounting and most contractors use an overhead rate to allocate indirect costs to individual costs. They’ll use a percentage multiplied by either labor costs or material costs.
Problems arise when the overhead rate employed is incorrect and does not provide an accurate description of the company's current overhead costs. This may result in excessive or insufficient cost allocation.
To prevent this accounting error, review the rate annually to assess that the correct costs are being included and the most appropriate method is applied. Determining which method is most appropriate for a contractor should be based on the most crucial component of the construction activities, labor, or materials.
2. Incorrect Cut-Offs In Job Costs And Billing
Most companies utilize the accrual basis of accounting. When the accrual system is used, revenue is recorded at the time of being earned, the cost is recognized when incurred, and bills that are different from the revenue earned will result in excessive or insufficient invoices. Cut-off errors occur even in non-construction companies and are due to the omission of costs incurred during the reporting period. Usually, this is caused by not receiving an invoice in the A/P invoice as part of the checkout process after the end of the period
To avoid these construction accounting mistakes, you should implement a process in which a voucher system of costs incurred records these as liabilities in the period incurred.
3. Inaccurate Job Cost Estimates
Because most contractors use the percentage of completion method for revenue recognition, the most important factor is the estimated job costs. Incorrect estimates are usually caused by poor estimates/forecasts, incorrect accumulation of actual costs, or incorrect revisions due to change orders.
In order to avoid estimation errors, contractors should compare the actual cost with the estimated cost every month, ensure that the estimated cost includes the same elements as the actual cost, consider increasing prices and wages in the future, and revise the estimate accordingly every month. Do not forget to revise the estimates according to changes in prices and regulations.
4. Misunderstanding Costs
One of the most common and biggest accounting mistakes in the construction industry is not having a clear understanding of costs. A construction company should fully understand the details of the cost. This includes not only materials and labor but also equipment and administrative costs. Without this understanding, the pricing of the project may be incorrect, and eventually, the work is doomed to lose money.
5. Fixed Material Cost in Bid Contracts
Some contractors have built-in their contracts the ability to adjust material prices based on market fluctuations, while others have not. For example, when steel prices rose a few years ago, some companies saw the increase in material costs almost overnight, and many companies had to bear the costs because they could not pass the costs on to customers through contracts.
6. Failure to Record Losses
Construction companies that use the "percentage-of-completion" method sometimes fail to consider whether a job is likely to generate a loss. Generally accepted accounting principles require that a loss contract be fully recognized at the time a loss is determined.
To successfully prevent this accounting mistake, you should have detailed knowledge of the status of the job and consistently update the budget against costs throughout the project. Frequently review each project’s job cost schedule, be prepared to accrue a loss in case the estimated cost exceeds the contract amount.
6. Incorrect Recognition of Joint Venture Activity
Joint ventures are common in the construction world when they bring potentially available opportunities. Nevertheless, the proper accounting for these activities is often misunderstood. Because there are varying methods of recording a joint venture, it’s critical to assess the correct accounting treatment between you and other parties before starting to work. To avoid errors, leave nothing to chance, ensure the venture’s agreements and activities are properly documented.
7. Not Seeking Professional Help
Accounting for a construction company is much more complicated and often cumbersome. Making decisions without consulting accounting professionals is a bad move for many construction contractors. An experienced bookkeeper can get you organized and tax-ready, ensuring your records are accurate and compliant, every month of the year. If you have any queries relating to accounting for construction, feel free to contact us at Irvine Bookkeeping.
Why Choose Irvine Bookkeeping - Outstanding Bookkeeping Services for Your Construction Company?
As a business owner, you understand how quickly hours can add up when dealing with finances. If you’re considering choosing outside experts who can manage your construction company’s accounting and bookkeeping for you, we’re here to help.
Irvine Bookkeeping simplifies bill paying, taxes, payroll, bookkeeping services for construction companies. We offer construction software integration, functional updating services, workflow advisory monthly bookkeeping.
Contact us today for more information on our services and to see how we can save your business time and money. By choosing our construction bookkeeping services, you can be sure to get a customized plan that is tailored to help it run effectively and grow.
Call Irvine Bookkeeping now for a Free Quote!
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