Accounting and Finance for Construction Contractors

• Chapter 0 - Overview
  • Course Goals
  • Introduction
  • Organization
  • Conclusion
• Chapter 1 - Nature of the Construction Industry
  • Learning Objectives
  • Introduction
  • Construction Industry Overview
  • Types of Contractors
  • Players in the Industry
    • Players within the Contractor Client
  • The Construction Process
    • Preparing Cost Estimates and Bids
    • Entering into the Contract
    • Starting the Job
    • Project Management
  • Characteristics Unique to Contractors
    • Unique Projects
    • Pricing
    • Construction Contracts
    • Construction Projects Take a Long Time
    • Change Orders and Other Contract Modifications
    • Surety and Bonding
    • Subcontractors
    • Managing Cash Flow
  • Understanding the Environment in Which the Contractor Operates
  • Summary
    • Membership Organizations
    • Publications
  • Questions
• Chapter 2 - Contract Accounting
• Learning Objectives
• Introduction
• Background
• Determining the Profit Center
  • Combining
  • Segmenting
• Determining the Proper Accounting Method
  • Percentage-of-Completion Method
  • Zero-Profit Method
  • Completed-Contract Method
• The Percentage-of-Completion Method
  • Estimated Total Contract Price Equals Original Contract Price Plus Modifications
  • Estimated Total Costs Equal Costs to Date Plus Estimated Costs to Complete
  • Determining the Percentage Complete
  • The Mechanics of Applying the Percentage-of-Completion Method
  • The Balance Sheet
• The Completed-Contract Method
• Accounting for Loss Contracts
• Summary
• Case Study: Desert Drywall
  • Step One
  • Step Two
• Chapter 3 - Working with a Surety
• Learning Objectives
• Introduction
• What Is a Surety Bond
• Bond Agent vs. Surety Underwriter
• What the Surety Looks For
  • Character
  • Capacity
  • Capital
  • Continuity
  • CPA
• How the Surety Uses a Contractor’s Financial Statements
  • Accounts Receivable Aging
  • Marketable Securities and Notes Receivable
  • Overbillings and Job Borrow
  • Property and Equipment
  • Debt
  • Underbillings
  • Profitability
  • Statement of Cash Flows
• Maximizing Surety Credit
• Summary
• Case Study: XYZ Contractors
• Intermission
  • Impress Your Friends with Your Knowledge of Construction History
  • Solution
• Chapter 4 - Cash Management for the Contractor
  • Learning Objectives
  • Introduction
  • Sources of Cash for the Contractor
  • Contractor Cash Flow
    • General and Administrative Expenses
    • Job Cash Flow
    • Cash Flow Analysis
    • Practices to Improve Cash Management
  • Summary
• Chapter 5 - Accounting Joint Ventures
  • Learning Objectives
  • Introduction
  • The Joint Venture
    • Advantages and Disadvantages
  • Accounting for a Joint Venture
    • Accounting for a Joint Venture as a Stand-Alone Entity
    • Accounting for a Joint Venture as a Member
  • Method of Organization
    • Partnerships
    • Corporations
  • Members Ownership Percentage
  • Method of Accounting for the Member
    • Cost Method
    • Full Consolidation Method
    • Equity Method
    • Partial or Proportionate Consolidation Method
  • Disclosures by Members of Joint Ventures
    • Impact of FASB Interpretation No. 46(R)
    • The Typical Contractor FIN 46(R) Situation
    • Member Owns 50% or More and Assumes Majority Risk
    • The Joint Venture Structure
    • Options Involving the Attest Function
  • Summary
• Chapter 6 - Benchmarking the Contractor
  • Learning Objectives
  • Introduction
  • Financial Benchmarking
    • Liquidity Ratios
    • Profitability Ratios
    • Leverage Ratios
    • Efficiency Ratios
  • Non-Financial Benchmarking
    • Time
    • Performance of Work
    • Performance of Employees
    • Sources for Developing Benchmarks
  • Summary
• Chapter 7 - Construction Cost Allocations
  • Learning Objectives
  • Introduction
  • Components of Job Costs
    • Labor Costs
    • Material and Subcontract Costs
    • Equipment Costs
    • Job Overhead or General Conditions
  • The Impact on Estimators and Project Managers
    • Selling, General, and Administrative Costs
    • Break-Even Analysis
  • Summary
• Chapter 8 - Assisting the Financially Troubled Contractor
  • Learning Objectives
  • Introduction
  • Why Contractors Are Prone To Failure
    • The Nature of the Beast
    • Ease of Entry
  • Warning Signs for Potential Business Failures
    • Surety Warning Signs
    • Cash Flow Warning Signs
    • Fraud Warning Signs
    • Other Business Failure Warning Signs
  • Saving the Financially Troubled Contractor
    • Go from Attitude to Action
    • We Must Look at What We Have on Hand
    • We Must Prepare the Turnaround Plan
    • Implement the Turnaround Plan
    • Accountability to the Plan
  • Summary
• Chapter 9 - Overview of Tax Accounting for Construction Contractors
  • Learning Objectives
  • Introduction
  • A Primer on Code Section 460
    • Long-Term Construction Contracts
    • Residential and Home Construction Contracts
    • Non-Applicable Activities
  • The Small Contractor Exemption
    • Pros and Cons of the Small Contractor Exemption
  • Regulation 1.460-3
    1. Definition of Long-Term Contract
    2. Date Taxpayer Completes a Long-Term Contract
    3. Severing and Aggregating Contracts
    4. Hybrid Contracts
    5. Contracts of Related Parties
    6. Unique Items
    7. Twelve Month Completion Period
    8. Percentage-of-Completion Method
    9. Cost Allocation Rules
    10. Simplified Cost-To-Cost Method
    11. Statute of Limitations and Compound Interest on Look-Back Interest
  • Deferred Taxes
  • Summary
  • Questions
  • Appendix 9-A – Code Section 460 – Special Rules for Long-Term Contracts
  • Appendix 9-B
    • Rev. Proc. 97-27, 1997-1 CB 680, 5/08/1997, IRC Sec(s). 446; 460; 481
    • Rev. Proc. 97-30, 1997-1 CB 702, 6/23/1997, IRC Sec(s). 168
• Chapter 10 - FAS 109 – Deferred Income Taxes
  • Learning Objectives
  • Introduction
  • Permanent and Temporary Differences
    • Application to the Construction Industry
    • Differences between the Percentage of Completion Method and Other Methods used for Income Tax Reporting
    • Differences between GAAP and Tax with the Recognition of Income for “Contract-related” Services
    • Differences in Calculation of Percentage of Completion
    • Differences in Depreciation Methods
    • Differences Due to the Provision for Losses on Uncompleted Contracts
    • Differences Arising from Joint Ventures
  • The Utilization of Enacted Tax Rates
    • Calculating the Deferred Tax Provision
    • Valuation Allowance
  • FIN 48 Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109
    • The Effective Date of This Interpretation
    • FSP FIN 48-2, Effective Date of FASB Interpretation No. 48 for Certain Nonpublic Enterprises
    • FSP FIN 48-1, Definition of Settlement in FASB Interpretation No. 48
  • Summary
• Chapter 11 - Latest Developments
  • Value Aid AICPA Audit and Accounting Guide, Construction Contractors

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Chapter 0 - Overview

Course Goals

• Provide an application-oriented review of the specialized accounting requirements that affect construction contractors.
• Provide an overview of tax accounting for the contractor and a review of SFAS No. 109, Deferred Income Taxes.

Introduction

Construction contracting is a unique and complex industry, and the work of CPAs in providing accounting and tax services to construction contractors is a unique and complex niche in the accounting profession. The purpose of this course is to give you the specialized and detailed information you need as a CPA on the staff of a construction contractor.

Organization

The materials for this course consist of this manual and the AICPA’s Audit and Accounting Guide, Construction Contractors. SOP 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts, is reproduced in Appendix A of the Audit and Accounting Guide. SOP 81-1 is referred to often in this manual.

The manual is divided into three main sections. The first section explains how construction contracting is different from other industries. It introduces you to the particular characteristics of the industry with an emphasis on those that have accounting or tax consequences. Accounting for long-term construction contracts is covered in this section. The section closes with a chapter on the contractor-surety relationship and how sureties use a contractor's financial statements.

The second section of the course focuses on accounting issues and approaches that are unique to construction contractors. Included here are chapters covering (1) cash management for the contractor, (2) accounting for joint ventures, (3) benchmarking the contractor, (4) construction cost allocations, and (5) assisting the financially troubled contractor.

The third section walks you through an overview of tax accounting for construction contractors. The final chapter of the course covers SFAS No. 109, Deferred Income Taxes.

Surveys show that more than 90% of all construction bonds are in amounts of $1 million or less. In other words, most jobs are for less than $1 million, and most contractors are not very large. So this course emphasizes issues that affect the small- to medium-size contractor. Wherever possible, it offers practical guidance and tips based on the experience of the author and those who helped with the preparation of the course.

Conclusion

The manual is designed to be a permanent reference tool. We hope your reading of it enriches your professional learning experience.

Note. We use the terms he and she alternately throughout the course (except when a particular person is mentioned) since both men and women are well represented throughout the profession.

Chapter 1 - Nature of the Construction Industry

Learning Objectives

• Be familiar with the types of construction contractors and the work they typically perform.
• Be familiar with the construction process.
• Be aware of the characteristics that are unique to the construction industry and that have accounting, audit, tax, or consulting consequences.
• Know where to go to get more information on the construction industry.

Introduction

The construction industry offers many opportunities for the small practitioner. There are several reasons for this:

• The construction industry employs more people and contributes more to the GNP than any other industry in this country. It is one of the largest segments of the national economy, and, therefore, a large market for CPAs.
• Historically, because of the ease of entry into the industry, many construction contractors have been small, family-owned businesses. These kinds of businesses are well-suited to the services provided by smaller CPA firms.
• Most contractors are required to post a bid or performance bond in order to obtain the contract. These bonds are issued by sureties who require audited or, at a minimum, reviewed financial statements. In some situations, the surety will also require interim statements.
• The taxation of construction contractors can be complex and typically requires the expertise of a CPA.

If you have ever been involved with a home renovation project, or followed the progress of a public construction project in the newspaper (for example, a highway or an airport), then you know something about the construction business.

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