528: Construction Accounting Concepts You Can Benefit From Today

This Podcast Is Episode Number 528, And It's About Construction Accounting Concepts You Can Benefit From Today

 

As a small business owner, you know that managing your finances is crucial to the success of your business. But with so many accounting principles and practices, it can be challenging to know where to start. That's where we come in! This guide will break down the essential accounting principles that every small construction business owner should know. We'll discuss how these principles can help you keep track of financial transactions, create accurate financial statements, and make informed decisions for your business. So, let's dive in, shall we?

Why Are Accounting Principles Important for Construction Businesses?

Accounting principles are the foundation for any successful business. They provide a uniform framework for recording and reporting financial transactions, ensuring consistency and accuracy in your financial records. By adhering to these principles, you'll be able to:

Make better financial decisions based on accurate and reliable data Monitor your business's performance and identify areas for improvement Meet legal and regulatory requirements for financial reporting Build trust with investors, lenders, and other stakeholders   All Accounting Uses The Same Accounting Equation Assets = Liabilities + Equity

Regarding construction accounting, several concepts can be highly beneficial to understand. Here are a few you can start taking advantage of today:

Construction Accounting Vs. Regular Accounting

Not everyone knows what construction accounting is, and easy to assume all accounting is the same.

Construction Accounting Is Used - When the entire place of business is packed up and taken to the customer. In essence, you are selling, assembling, delivering, and installing a customized product from a mobile shop on location. Think of it like shooting a movie on location without all the glamor, resources, and money to go with it.

Why is there confusion? From a tax standpoint, most construction projects are all lumped together, and after the Cost of Good Sold, Expenses, and Depreciation, you either made money or didn't. The Tax Accountant rolls the numbers to compute the annual tax return. Therefore, if the information is not needed to be broken down for taxes, then the Tax Accountant is not concerned.

As the Construction Contractor paying the bills, you are constantly concerned about which jobs are "Making Money or Losing Money." "Why does it seem like I am watching the money fly by and zooming out of my checking account? It never seems like there is any money left over!"

Materials

A construction contractor may purchase material and resell it to their customer. Thereby thinking it is a reimbursable expense. (You lose money when doing this). 

Remember all invoices to the Customer (Retail, General Contractor, Spec Builder, Developer) are income. Every line item on a customer invoice is ALL INCOME. If the words are on the invoice, then the invoice is either taxable or non-taxable based on other factors. Washington State, for instance, has a clear explanation. 

Purchases for the material are Cost of Goods Sold or are expenses if you are short-cutting your accounting. I have seen financial statements backed out because they will reflect reimbursable income as a negative number, thereby showing it as a deduction. (The net effect is double dipping on the expense side) The cause is that the accounting software is not correctly set up. 

Cost Of Goods Sold (COGS)

It appears regular bookkeepers over their heads with construction accounting are trying to figure out how to input new QuickBooks transactions by copying previous transactions.

This is not an issue with regular accounting because there is only one or two costs of goods sold accounts (COGS), no direct COGS, no indirect COGS, no Work-In-Progress (WIP), no retention, no job costing allocation to consider, and only one customer "cash sale" in addition to several other variables involved in construction accounting. 

For example, a material receipt arrives at the regular bookkeeper's desk from a lumber supplier, and they open the QuickBooks contractor file, look up the supplier to determine how the previous lumber purchase was coded, and proceed to code the new transaction the same way.

The problem is that each transaction is unique and could go into any of a dozen accounts or item codes depending upon whether it is a direct cost, indirect cost, WIP, retention, warranty, overhead, administrative, or other costs, or simply an expense. The cumulative effect of these bookkeeping errors in one month can do enough damage to the financial and job cost reports to bankrupt a contractor eventually.

Another example is if the bookkeeper generates job costing reports that are off by 10%, it could cause the contractor to make radically different decisions based on what they believe about the job costing reports.

If the contractor believes the company is undercharging, they may raise bid prices, lose jobs, eventually run out of cash, and file bankruptcy.

If the contractor believes the company is overcharging, they may lower bid prices, lose money on all jobs, eventually run out of cash, and file bankruptcy.

Many bookkeepers have lost their jobs and are freelancing as Jack-of-All-Trades and Master-of-None bookkeepers, doing whatever work they can find, and I understand that everyone needs to eat. I would prefer they avoid contractors and stick to regular bookkeeping like retail stores.

The net result is that more contractors are going out of business due to inadequate financial and job costing reports just when construction demand is about to grow.

Fix the giant boulders one at a time. Get that one thing working, then move on to the next one. What is the most annoying thing you can quickly fix? We talk about accounting because that is our primary focus.

Start with the basics:

Open a business checking account. Use a dedicated credit card for the business (if using a personal card). Create invoices, present them to your customer, collect the money, and get it in the bank (Do you have an easy way for your clients to pay you?). Collect the money ASAP because, without cash flow, you are out of business.

No - the company with the most Accounts Receivable or Accounts Payable does not win a prize.

Accounts Receivable means your customers owe you money. Accounts Payable means you owe money to your suppliers. Net Profit is the money left over. You want lots of Net Profit! You are not a banker! Stop borrowing money using your credit cards, Loans, and Lines of Credit, then finance customers' projects at 0% interest.

Final thoughts

Becoming knowledgeable in accounting principles has the power to transform the way you run your construction business. Understanding and implementing these concepts in your construction accounting practices can improve your financial management and set your business up for long-term success.

Fast Easy Accounting does the bookkeeping, accounting, and payroll and offers business coaching for small, brand-new Construction Contractors, General Contractors, Trade Contractors, and Handymen across the USA, including Alaska and Hawaii. Do the parts only you can do; leave the rest to us. You are never too small for us to help, and we can help to begin with your first day in business. Schedule your free consultation here.

About The Author:

Sharie DeHart, QPA, co-founded Business Consulting And Accounting in Lynnwood, Washington. She is the leading expert in managing outsourced construction bookkeeping and accounting services companies and cash management accounting for small construction companies across the USA. She encourages Contractors and Construction Company Owners to stay current on their tax obligations and offers insights on managing the remaining cash flow to operate and grow their construction company sales and profits so they can put more money in the bank. Call 1-800-361-1770 or sharie@fasteasyaccounting.com