Accounting for Construction: FAQs

Key Insights (and Definitions):

Construction accounting is designed to help firms manage job costs and budgets to ensure that they maximize ROI. Unlike its general counterpart, this form treats each construction project as a unique entity, adapting to its project-specific revenue, expenses, and profit parameters. The sheer depth of its methods, from recognizing revenue based on project stages to managing a spectrum of project costs, showcases its value.

To help further understand the concepts, nuances and applicability of construction accounting, we present to you a list of frequently asked questions:

What is Construction Accounting?

Construction Accounting is a special stream of financial management developed for construction financial professionals. It uses unique methods like the Percentage-of-Completion Method and Completed Contract Method to figure out the exact time to record earnings and costs.

What is the difference between Construction Accounting and standard accounting?

Construction accounting is different from standard accounting as it deals with
long-term projects that have uncertain results, changing costs, and complex contracts. On the other hand, standard accounting is about short-term deals, simple contracts, and set prices. Plus, construction accounting requires a detailed look at each project, checking its money flow, how well it's doing, and how profitable it is.

What is retention in Construction Accounting?

Retention, also known as retainage, is like a safety net. It's a small part of the payment held back to make sure contractors and subcontractors do the job right and follow the project's specifications. Usually, this amount is about 5% to 10% of the total contract price, and it's given out either after a set time or when the project is finished.

What should I look for in Construction Accounting software?

Optimal construction accounting software should offer:

• Seamless integration capabilities with systems like project management, payroll, and inventory.

• Adaptability to diverse projects, contracts, and accounting methodologies.

• Real-time project insights via customizable dashboards and reports.

• Adherence to construction-specific tax legislations and regulations.

• Uncompromising data security and reliable backup provisions.

While there isn't a "one-size-fits-all" solution, considering your firm's size, resources, business and technical requirements can guide your decision.

What accounting methods do construction companies use?

The most common are:

• Cash method: Simple but doesn't represent project progress.

• Accrual method: More representative but demands extensive bookkeeping.

• Percentage of completion method: Matches revenues and costs but requires intricate estimations.

• Completed contract method: Stabilizes income reporting but may not be
  reflective of ongoing project status.

What is Construction Contract Accounting?

This is a branch of construction accounting that deals with the recognition, measurement, presentation, and disclosure of revenues and costs associated with construction contracts. Construction contract accounting follows the principles and standards set by various authoritative bodies, such as the International Accounting Standards Board (IASB), the Financial Accounting Standards Board (FASB), or the Internal Revenue Service (IRS).

What is Work in Progress (WIP) in Construction Accounting?

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.

Why is the Percentage of Completion method of accounting used in the construction industry?

This accounting method is praised because it gives a more accurate picture of how long-term projects are doing. It makes sure that costs and earnings are logged at the same time, helping to avoid any mix-ups with the revenue being generated.

As expected, the tangible benefits of embracing such an advanced approach are manifold. For this reason, many construction firms turn to industry-specific software solutions. In fact, after adopting construction-specific accounting software, an astounding 67% of firms reported an uptick in profitability by an average of 14%.

Not only does it lead to increased profitability, but it also contributes to better decision-making, compliance, customer satisfaction, and holistic project management. For this reason, leading construction firms are turning to solutions designed specifically for the construction industry.

What is job costing and why does it matter in construction accounting?

Job costing tracks all expenses associated with a specific construction project, including direct costs like labor and materials, plus indirect costs like equipment and overhead. It functions as your project's financial roadmap, showing exactly where money flows and whether you're meeting profit targets. Without accurate job costing, contractors cannot identify budget overruns until it's too late, struggle to bid competitively on future work, and lack visibility into which project types or clients generate the strongest margins. Leading construction firms update job costs daily or weekly rather than monthly, enabling real-time course corrections that protect profitability.

What's the difference between overbilling and underbilling in construction?

Overbilling occurs when you invoice a client for more than the actual work completed, creating a liability on your balance sheet. While this temporarily improves cash flow, you must eventually deliver work to match the billing. Underbilling means you've completed more work than you've invoiced for, leaving money on the table and weakening cash flow. Both situations distort your financial picture and can trigger compliance issues during audits. Construction firms should monitor these billing imbalances through regular Work in Progress (WIP) reports, ensuring billing aligns closely with actual project completion percentages and avoiding financial surprises during project close-out.

How do I calculate burden rates for labor costs?

Your burden rate captures everything beyond hourly wages—think payroll taxes, insurance premiums, benefits packages, vacation time, and training costs. Here's the formula: total all these additional expenses, then divide by your total direct labor dollars. Leading contractors recalculate burden rates each quarter since insurance premiums and benefit costs fluctuate throughout the year.

What is ASC 606 and how does it affect construction accounting?

ASC 606 overhauled revenue recognition rules in 2014, replacing older standards with a five-step framework that governs when and how construction firms book revenue. This matters because it changed accounting treatment for change orders, contract modifications, warranties, and variable pricing. Instead of recognizing revenue your old way, you now follow specific performance obligation rules that may shift timing significantly. The learning curve was steep for many firms, requiring contract reviews, policy updates, and often new systems. Today, construction ERP platforms automate much of the ASC 606 complexity, reducing compliance headaches.

What are the most common construction accounting mistakes?

Construction firms repeatedly stumble over the same pitfalls: mixing up markup percentages with profit margins, neglecting WIP reviews until month-end, forgetting to book committed costs when purchase orders go out, and letting timesheets pile up instead of processing them daily. Equipment costs often fall through the cracks, and change orders get tracked on spreadsheets instead of in the accounting system. These aren't minor challenges, rather, they compound into major financial blind spots that mask true project performance. Modern construction ERP systems eliminate most of these problems by enforcing workflow discipline and providing real-time financial visibility.