General Accountants! Being one of the most dynamic sectors in existence, involving a lot of details, financial management is hardly easy in the world of construction. Popular in nearly all other businesses, accounting in construction is considered a spider’s web of activities, which includes job costing, progressive billing, retainage, change orders, revenue recognition and cash flow, just to list a few. However, most construction firms continue to trust general accountants who lack the expertise in going through this path. The result? Expensive errors, waste in the use of funds, compliance and financial blind spots.
This blog addresses 5 reasons why general accountants fail construction companies and what businesses must do so that they are financially sound and strategically ahead.
Lack of Specialised Knowledge in Construction Accounting
Lack of specialised knowledge is the first and the most crucial point of failure. The general accountants normally have a one-size-fits-all attitude when offering their services to construction firms, and in most cases, they utilise the same principles as in the retail or other services industries. However, construction is peculiar, as it involves upstream constructions such as retainage, progressive billing, change orders and complex overhead allocation pertaining to particular projects. They do not feature in typical courses in accounting or even normal accounting practice.
For example, the practice of retainage in the construction industry is prevalent, in which contract money is held back until a project is complete, which is commonly misunderstood and/or ignored by general accountants. Likewise, assigning an overhead cost without having knowledge of the labor burden or indirect costs may end up costing too little on jobs and misreporting of the finances.
What to Do Instead:
Find a construction accounting specialist or obtain a construction bookkeeper. Such specialists are familiar with the activities in the industry, apply the right tools, and guarantee that your accounting aligns with the realities of the project and the legal requirements.
Inaccurate Cost Estimates and Poor Job Costing
Any construction project depends on the financial nature through cost estimation and job costing. The sad part of it is that general accountants usually cannot develop realistic, line-item cost projections, particularly on larger or complicated jobs. They may miss vital factors like subcontractor charges, cost change of the material or cost of labor, leading them to underbid the project and then end up exceeding the budgets.
The cost of labor and items used should not simply be considered as job costing; every dollar must be tracked to a specific project for understanding its profitability (including overhead and equipment too).
What to Do Instead:
Develop line-item estimates with real-time and historical project comparisons. Install powerful job costing and variance accountancy systems that ensure tracking of financial results at each of the stages of a project. Accounting software that is specifically designed to deal with constructions can be used with job costings capabilities and can greatly improve accuracy and prediction.
Inadequate Cash Flow Management
The construction business is notoriously hard to maintain in terms of cash flow. Projects can be costly in advance and payment might be received in weeks and months depending on the projects, in terms of payment. A lot of general accountants just do not have the entrepreneurial knowledge of how to predict and handle this financial beat.
Failure to manage cash flows results in delays in paying employees and suppliers and work shutdowns, which can have quite negative impacts on reputation and procedures.
What to Do Instead
Apply construction payment cycle-specific cash flow forecasting tools. Monitor the accounts receivable and payable and make sure retention amounts are monitored. Construction accountants will be able to set up actual payment schedules, negotiate on good terms and spot any financing gaps before they turn into crises.
Revenue Recognition Errors
The revenue recognition is especially difficult with construction projects, as most of them would stretch over more than one accounting period. General accountants can also use generic recognition practices that are inappropriate for long-term contracts, e.g., recognition of revenue upon invoicing other than the amount earned.
Ineffective revenue recognition reflects an inaccurate representation of profitability, as well as giving rise to compliance problems under U.S. Generally Accepted Accounting Principles (GAAP) and the IRS rules. The accounting standard ASC 606 that is applicable to revenue recognition has exclusive coverage on work that is based on contract, which many generalists are unable to apply appropriately.
What to Do Instead:
Find proper approaches such as the percentage-of-completion method (PCM) or completed-contract, based on the scale, scope and time length of the project. Such methods sanctify revenue recognition by the progress of a project and more realistically represent your company in terms of finances.
Engaging the services of a company that specialises in construction accounting will also make the accounts in concurrence with ASC 606 and the accounts in tidy and ready to be audited.
Poor Overhead Allocation
Another check that is usually missed by the normal accountants is the proper allocation of the overheads. For construction companies, the major indirect costs incurred include insurance, administrative staff salaries, depreciation of equipment and rent; these have to be equitably distributed in the projects in order to make actual profitability measurements.
General accountants can allocate overheads arbitrarily or not allocate at all, giving the impression that some jobs are making lots of profits when they are not and that other jobs are making losses when they are not.
What to Do Instead:
Develop an objective procedure for assigning overhead and utilise sensible measures such as labour hours, project size or equipment utilisation. These allocations can be automated and perfected using the modern accounting software. Even better, have property management accountants who know how to deal with these costs when you are a construction firm that also owns, develops or manages real estate property.
Additional Considerations: Going Beyond the Basics
Although it is essential that the five pitfalls mentioned above should be avoided, the genuine excellence in construction finances presupposes going just a step further:
1. Invest in Accounting Software that is Industry-Specific
Select construction industry-specific software, including QuickBooks Contractor, Sage 100 Contractor, or Foundation. These have capabilities such as job costing, progress billing, change order tracking and real-time reporting.
2. Plan Taxes First
There are complicated tax structures of construction firms with the payment of wages tax, sales tax (in some states), and depreciation of heavy equipment. Use a construction tax consultant all year round for planning and compliance.
3. Make Consistent Financial Reporting
You should not wait till the end of the year, when the tax season will come, to look up your budget. Weekly or monthly reporting gives a clear indicator of resources involved, job performance and cash flow. It also assists you in detecting the red flag signs before they develop into big issues.
4. Organise Documentation
Store all project records on leave contracts, agreements, change orders, invoices, and receipts in one place in a digitalised form. It not only promotes improved accounting but also helps during client disagreements and audits.
Conclusion
The way a construction company works is not similar to the provision of other businesses, and its finances cannot be managed similarly. Error in job costing, mistakes in revenue recognition, poor management of cash flow and loss of tax savings are all possible with relying on general accountants.
To ensure you cover your profits and future growth financially, invest in professional construction accounting services or join forces with experienced property management accountants in case your business lies at the border of development and management of the property. The experts have industry experience, tools and best practices that will enable you to streamline operations and build with confidence.
Accounting should not be your low point. Be your best source.
