Key Differences Between Construction Accounting vs. Regular Accounting

Accounting is an essential part of every business to ensure proper financial management. However, construction accounting and regular accounting differ significantly, even though both adhere to accounting standards such as financial statements and balance sheets. In this article, we explore the most prominent differences between construction accounting and regular accounting.

How Is Construction Accounting Different?

For typical businesses, today such as selling stores will apply regular accounting. This is because the business operations of these firms are fixed, and the costs of goods sold are relatively stable.

In contrast, construction accounting is a specialized branch of accounting tailored to the construction industry, where accounting methods focus on project-based financial management. Construction accounting helps contractors track job costs and manage project budgets to ensure accurate financial reporting and improved project profitability. While it is based on the same generally accepted accounting principles (GAAP) as regular accounting, construction accounting incorporates specialized revenue recognition methods and unique accounting practices to address the complexities of the construction sector.

1. Project-Based Accounting

Construction businesses operate based on individual projects. Payments, production, and labor are tracked per project, and the company's financial health depends on the performance of each project.

Conventional businesses like retailers generate profits from fixed locations and can more easily forecast profits and costs.

For a construction company, the project based accounting that the contractor has are their main profits/costs but all are short-term and unique. Even when projects have similar production requirements, they’re often subject to different site conditions or local variables like labor availability, cost of materials, and legislation. Plus, projects are continually opening and closing during the year with each contract.

2. Expenses/Overheads:

In regular accounting, the cost of goods sold and expenses are both relatively clear numbers, but there is no similarity with construction expenses accounting. In construction accounting, there are a lot of "overheads" that will be counted in the "cost of goods sold" section because they are directly linked to the client's project.

3. Decentralized Production

Activities of construction companies take place mainly based on different locations according to each project. That is why equipment and labor also move regularly from place to place. Because of that, construction accounting needs to focus on carefully managing each job.

In addition, construction is a less predictable business process and often does not have a large inventory because projects often have long and seasonal cycles. As a result, the cost and availability of production inputs can fluctuate and require special, careful tracking and planning.

4. Long-Term Contracts and Revenue Recognition Methods

The long-term production cycle is an influencing issue in construction accounting. If you are a clothing reseller, your contract is completed as soon as you hand over your product to the buyer.

But in construction, the contracts can last for many years, and payments can also last during that time. Typically, terms in a construction contract will allow 30 to 90 days for payment. Therefore, revenue and cash-in the construction both need different accounting than regular accounting. Contractors need precise tracking and reporting, as well as collection and cash-flow strategies.

Key Differences Between Construction Accounting & Regular Accounting

Accounting is a critical element of business management. Approximately 80% of accounting is regular accounting, 15% is construction accounting, and 5% manufacturing accounting. Construction firms and construction accounting professionals must understand that construction accounting differs from regular accounting.

For example, a retail business uses regular accounting principles, selling products from fixed locations and separating product costs from overhead. Construction companies must allocate costs per contract, including materials, labor, consulting fees, architectural expenses, and indirect costs like supervision, equipment rentals, and insurance. Some administrative costs may be charged if permitted by the client.

In summary, Key Differences between Regular and Construction Accounting could be listed as below:

• Sales Categories: Regular business accounts for sales and often has 1-5 categories of products and services they provided. Construction accounting offers up to 10 categories of products and services.

• Cost of Goods Sold (COGS): Regular accounting records product costs simply, but construction accounting must handle both direct and indirect costs related to projects, making COGS more complex.

• Expenses: Overheads in regular accounting are business operations expenses, whereas in construction accounting, some overheads are treated as COGS, requiring detailed analysis.

• Breakeven time and Project Profitability: Regular businesses can easily calculate breakeven points from clear revenue and expense reports. In construction, calculating breakeven and project profitability is challenging due to unique projects, complex requirements, and varied costs.

Read more: How Could Overbilling Become A Risk?

Read more: Top 5 Common Construction Accounting Problems

According to some key differences between regular accounting and accounting for construction companies, it is necessary to understand the different types of costs you could incur working on a project. Then, a business should categorize those costs, understand the cost of goods sold and expenses as well as the complexity of the project that the company performs. Understanding the industry the business works in could help you to choose the correct accounting principles and keep your accounting data correctly.

Conclusion

To improve the accounting procedures of a construction company, you must first understand the different types of costs you may incur on the project. The next step is to effectively classify these costs, understand the nuances between expenses/overheads and the cost of goods sold, and understand the complexity of the projects your company can undertake. The best way to ensure accurate accounting is getting advice from outsourced accounting firms or you can use their accounting services, because of their expertise and experience in the construction industry. CCA is a worthy choice for you. With over 15 years of experience, we understand complex issues in construction accounting.

Are you ready for expert help or unsure if you need assistance managing your construction business finances? Contact Construction Cost Accounting for consultation!