Whether it is dealing with labor shortages, collecting retainage or preparing for the ever-changing regulatory landscape, those in the construction industry never seem to have a lull in the action. This audit and accounting resource guide supplies insights and reference material for your construction business and reviews some of the recent changes in the industry.
Revenue recognition is finally here!
After years of threats and changes to the standard, revenue recognition is now in effect. For construction companies issuing Generally Accepted Accounting Principles (GAAP) basis financial statements, this new accounting standard will change their financial statement presentation and possibly the timing of revenue recognition. This standard introduces a five-step approach to recognizing revenue and requires construction companies to make more estimates, examine contracts for variable consideration and revisit change orders to determine if they should be a new contract or modification of an existing contract. The new standard completely replaces the existing standards.
Accounting for leases is still on the way
After revenue recognition, construction companies still have leases to contend with in 2021. Many off-balance sheet lease agreements will be added to balance sheets, which will result in an increase in both debt and asset balances. Construction companies need to be aware of the ramifications this will have on their total financial health and bank or bonding covenants.
Current liabilities will increase and if banks opt not to remove this new liability from covenant calculations or change the benchmark, a historically easy ratio to obtain may become an impossible hurdle. The lease standard will also require estimates of how many extensions of a lease will be exercised and, based on wording in the lease, expenses like operating costs and real estate taxes may be included in the newly recorded liability. Construction companies should review their lease agreements and current footnotes to determine the impact of this change, prior to implementation.
Assess the need to continue using GAAP reporting
GAAP has been the gold standard for accounting basis, some would argue, forever. However, with the recent changes occurring or pending, including the above mentioned revenue recognition and lease standards, GAAP may no longer be the answer for many small or privately held construction companies. When a reporting framework becomes too difficult to maintain or not beneficial to the users of the financial statements, it may be time to change. Construction companies could shift to tax or cash basis of accounting or a similar version of either and instantly simplify this function. Another option, as developed by the American Institute of Certified Public Accountant, is the Financial Reporting Framework for Small and Medium Sized Entities (FRF for SME). This framework was very similar to GAAP 10-15 years ago and has removed many of the larger changes (revenue recognition, leases and fair value reporting) that has made current GAAP so complex. Any switch in accounting basis cannot be made lightly and needs to be discussed and understood by the users of the financial statements, including banks, owners, bonding companies and future users of the financial statements. Although these alternatives are valid and widely used, there are exceptions.
Example 1: If a construction company’s goal is to sell to a large, publicly traded company, switching away from GAAP is not the solution.
Example 2: If obtaining bank financing is an issue or switching banks is being planned, it may not be the best time to transition. Discuss options with your bank prior to making a transition away from GAAP.
Wayfair is not just for online retailers
When the U.S. Supreme Court changed course on nexus determination and no longer required a physical presence for sales tax remittance, the online retail industry was not the only one affected. States quickly reacted to the ruling and have implemented a variety of different laws. Before taking a contract of shipping goods out of state, be sure to review the possible sales tax implications.
Technology drives the construction industry
The 2019 Construction Technology Report by JBKnowledge offers insights into the market and allows you to compare your company to others in the industry in terms of technology usage, IT expenses and research and development costs. As in most industries, technology drives efficiency, improves productivity and is constantly changing. The report is driven by a survey of industry members.
Labor shortages are continuing
Although not an industry specific problem, the construction industry has been hit hard by a shortage of qualified employees. Union benches are empty and accepting under-motivated or under-qualified applicants is the new normal as projects and proposals are still available. If this continues, construction companies will need to look at expanding benefits to keep or attract employees. Companies need to look at production and backlog and consider if higher production, at the expense of overtime and other additional costs, is worth the margin gained on the work. This is especially important if contracts require specific deliverables or have a specific date for completion. Most construction companies have a difficult time passing on a proposal, but increasing margin or extending dues dates when responding to the proposal could improve workflow and counteract the effects of overtime.
How does your Company Stack Up?
Note: Interested in learning benchmarks and key performance indicators for your specific industry? Reach out to a Smith Schafer professional. We work with over 800 Minnesota construction and real estate entities and have access to industry reports.
Tax law changes offer opportunities
Tax reform simplified some aspects of the tax code, but also made it much more complicated. Construction company owners need to ensure they have fully examined the opportunities allowed within tax reform, including, maximizing the tax benefits of their basis of accounting and increasing the 199A deduction. These decisions cannot be made without a full review of both the ownership group and the company in general.
- CONSTRUCTION INDUSTRY TAX REFORM IMPACT
- COMMONLY MISSED TAX DEDUCTIONS
- 1099A DEDUCTION FOR RENTAL REAL ESTATE SAFE HARBOR
Additional Resources for You!
- Buying Another Construction Company? Quick Guide on Best Practices
- Choosing the Best Accounting Software for Construction Businesses
- 6 Tips on Creating a Budget for your Construction Business
- Construction Industry: What you Need to Know About Employee Benefit Plan Audits
- Tariffs & How they will Impact your Construction Business
CONTACT OUR INDUSTRY EXPERTS
Industry knowledge and close collaboration are instrumental in providing our construction clients with the insight and awareness to make the best business decisions and seize growth opportunities. Smith Schafer is a recognized leader in providing accounting and consulting services to the construction industry since 1971. We have a team of experts, focused on working with the construction industry, and committed to helping our clients succeed. If you have questions about improving your business model, implementing an accounting practice or tax planning strategies to improve operations, Smith Schafer can help. For additional information, click here to contact us.
