IAS 11 Construction Contracts

Since the WIP is apparently such a vital element of construction accounting, we decided to take the opportunity to discuss Work in Progress further. In most cases, the term of process or progress can be used interchangeably. However, there are chances that the term process written in a financial statement instead of progress indicates the business nature.

See PPE 1.7 for information on specific considerations for capital projects built for sale or rental. Here is an example of how WIP is calculated in the construction industry. The contractor has not billed for the line item yet, but has already spent $2,000 in labor costs on the item, and is on schedule construction bookkeeping (about 40% complete). Required on projects where the Percentage of Completion accounting method is used. Though the format of the WIP varies from company to company, it usually includes current period and project-to-date financial metrics that detail each contract that the company is working on .

Construction Work in Progress: Definition, Accounting Treatment, Journal Entry, Example

Because companies can store costs under the account for extended periods of time, they can avoid depreciation, therefore reports could have profits listed at a higher value than they really are. Accountants do not begin tracking depreciation of construction-in-progress assets until the addition is complete and in service. As a result, the construction-work-in-progress account is an asset account that does not depreciate. While cash-basis accounting has several advantages, it’s not for every construction business. In fact, while many U.S. small businesses prefer cash accounting for its simplicity and flexibility, only some contractors qualify.

In this process, forecasting the time to complete particular activities may be required. For control and monitoring purposes, the original detailed cost estimate is typically converted to a project budget, and the project budget is used subsequently as a guide for management. Specific items in the detailed cost estimate become job cost elements. Expenses incurred during the course of a project are recorded in specific job cost accounts to be compared with the original cost estimates in each category.

What Are Some Disadvantages of Classifying a Construction Work-In-Progress as a Current Asset?

Together, these documents are considered an “application” for payment, because the recipient will have a chance to review the schedule of values and either accept or dispute the billed amount. If they disagree, they’ll send back “redlines” so that the contractor can revise and resubmit the AIA billing application. Another peculiarity to be accounted for in construction is the practice of withholding retainage, or, retention. Retainage is the predetermined amount of money an owner may hold back from payment until they’re satisfied with contract completion. A common retention amount might be 5-10% of the contract value or invoiced amount, but it can be less or more. The idea of retention is to provide the customer with some security against any deficiencies or defects on the project.

Moveable equipment, artwork or any other type of asset that is not a building component should not be capitalized as a part of the building. Contractors who work on public projects commonly have to navigate prevailing wage payroll, often called “Davis-Bacon payroll” after the landmark Davis-Bacon Act. Prevailing wage legislation requires contractors to pay the rate of compensation that’s standard, or “prevails,” for each worker classification on similar jobs in the area. Contractors must then certify their compliance on each project using certified payroll reports that may vary between different states or agencies. One common construction billing format is known as AIA progress billing, named after the American Intsitute of Architects that produces its official forms. As a type of progress billing, AIA billing invoices the customer based on the percentage of work completed for that billing period.

3 Forecasting for Activity Cost Control

Costs incurred to acquire additional components of PP&E or replace existing components of PP&E should be capitalized. The costs of normal, recurring, or periodic repairs and maintenance activities and all other costs related to PP&E incurred during this stage should be expensed as incurred. In other words, costs during the in-service stage that extend the existing service potential of the long-lived asset or replace significant components of the long-lived asset should be capitalized.

Inventory records are maintained to identify the amount of materials available at any time. Thus, a pipe section for which the ends have been welded would be reported as 60% complete. Materials and supplies should be expensed during the preliminary stage unless they have an alternative use (e.g., inventory). The store remodel will create additional available space for in-store promotion outlets and a restaurant. Since the renovation will create additional space and future economic benefits, the cost of remodeling the store should be capitalized.

How Deltek Supports the Construction Industry

While preparing for accounting for long term construction contracts, construction in progress account and partial billings account are maintained. Scheduling and project planning is an activity that continues throughout the lifetime of a project. As changes or discrepancies between the plan and the realization occur, the project schedule and cost estimates should be modified and new schedules devised.

Costs incurred during construction that are directly attributable to placing it into service should be capitalized. Costs that are not necessary in readying an asset for use should be recognized as an expense as incurred. Accurate, timely WIP reports take information from the field and use it across departments, so contractors can manage cash flow better.