The two methods
| Percentage of completion | Completed contract | |
|---|---|---|
| Revenue recognized | As work progresses, in proportion to a measure of progress | When the contract is substantially complete |
| Measure of progress | Usually cost-to-cost: cost to date divided by estimated total cost | Not applicable until completion |
| Balance sheet during the job | Costs and estimated earnings in excess of billings (under-billing) or billings in excess (over-billing) | Deferred costs and deferred billings, netted per contract |
| Income statement during the job | Smooth: margin recognized as earned | Lumpy: nothing, then everything at completion |
| Who uses it | GAAP for contracts performed over time; what sureties and lenders expect | Tax for eligible small contractors and short contracts; not an ASC 606 option (when progress cannot be measured, revenue is recognized only to the extent of cost) |
| Depends on | A reliable estimate at completion for every open job | Knowing when the job is done |
Cost-to-cost percentage of completion
Under ASC 606, most construction contracts transfer control to the customer over time, so revenue is recognized over time using a method that reflects progress. For contractors that is nearly always cost-to-cost: percent complete equals cost incurred to date divided by estimated total cost at completion; earned revenue equals percent complete times the transaction price (contract value plus approved change orders). The difference between earned revenue and billings to date is over- or under-billing and sits on the balance sheet.
- Estimate at completion is the engine: a wrong forecast makes revenue wrong in the same proportion
- Uninstalled materials are usually excluded from cost to date for the percent-complete calculation
- A loss contract recognizes the full expected loss as soon as it is known, not pro rata
- Unapproved change orders are not in the transaction price until approved, unless the scope is approved and the price can be estimated within the ASC 606 constraint; their cost is in the estimate either way
Completed contract
Completed contract defers all revenue and cost until the job is substantially complete. It is simpler, and for tax purposes contractors under the gross-receipts threshold on contracts expected to finish within two years, and home construction contracts, can often use it, which defers taxable income. Under ASC 606 there is no completed-contract option; when progress cannot be reasonably measured, revenue is recognized only to the extent of costs incurred until it can be, which is rare for a contractor with a working job cost system. A contractor that reports completed contract to its surety will usually be asked for a percentage-of-completion schedule anyway.
How Forge ERP handles revenue recognition
Forge separates billing from revenue. Customer billings and certified retainage credit billings in excess rather than contract revenue, so an invoice never creates revenue by itself. At close, a cost-to-cost WIP snapshot computes percent complete as actual cost over the approved estimated total cost and earned revenue as the lesser of revised contract value or percent complete times revised contract value, from an approved forecast for every included project. The controller prepares a dated snapshot, submits it, it is approved under the segregation-of-duties policy, and the cumulative entry posts with under-billing in costs in excess and over-billing in billings in excess. The next close reverses the prior cumulative entry in the open period rather than reopening history. Forge does not choose an organization’s revenue-recognition policy; that stays with the contractor and its CPA.
Forge ERP covers projects, purchasing, accounts payable, billing and receivables, job cost and WIP, reporting and close. Payroll runs in your payroll provider and lands in Forge as job-costed labor with burden. Forge is in beta with a 14-day free trial.
Frequently asked
- Does ASC 606 still allow percentage of completion?
- ASC 606 does not use the term, but its over-time recognition with an input method (cost-to-cost) produces the same result for most construction contracts. The term percentage of completion is still used in practice and on WIP schedules.
- Can I use completed contract for tax and percentage of completion for GAAP?
- Often, yes. Tax rules allow completed contract for contractors under the gross-receipts threshold on contracts expected to finish within two years, and for home construction contracts, while GAAP statements use over-time recognition. The two sets of books differ by the deferred revenue, which your CPA tracks. Confirm eligibility with your tax adviser.
- What if my estimate at completion is wrong?
- Revenue is wrong by the same proportion. That is why the forecast should be updated monthly, by cost code, and approved by someone other than the preparer before the WIP schedule is run.