What is construction accounting? Guide, benefits, and tools

According to the latest Small Business Insights Survey, project costing and price estimation are the top operational challenges small businesses face, impacting 21% of respondents. In the construction industry, long-term contracts, variable labor rates, and fluctuating material costs amplify these challenges.

Accurate construction accounting is the key to navigating these complexities. It involves tracking financial performance at the project level and providing insights to inform future project costing and pricing.

In this guide, we’ll cover the four primary construction accounting methods, ways to overcome the industry’s unique payroll challenges, and best practices for managing job costing.

What is construction accounting?

Construction accounting is a specialized type of accounting tailored to the unique needs of construction projects. It focuses on managing the financial aspects of construction businesses, ensuring accurate tracking, reporting, and decision-making. 

Key elements include:

• Project-based accounting: Tracks financial transactions—costs, revenues, and expenses—for each construction project individually rather than grouping all projects together.
• Expense tracking: Monitors materials, labor, equipment, and overhead costs to ensure accurate budgeting and profitability.
• Accounts receivable and payable: Manages incoming payments from clients and outgoing payments to suppliers, subcontractors, and employees.
• Cash flow management: Ensures your business maintains sufficient liquidity to handle ongoing project costs and operational expenses.
• Financial reporting: Prepares detailed reports that provide insights into the business’s financial health and individual projects.

Specialized ERP and accounting software can help automate construction accounting workflows. For example, Intuit Enterprise Suite—an ERP alternative with integrated accounting functionality—uses historical data to generate accurate project bids automatically.

The 4 construction accounting methods

Each construction accounting method can provide enough financial visibility to keep projects on track, on budget, and successful. However, the right way to record construction accounting depends on your business’s unique needs and goals.

1. Percentage of completion method (PCM)

The percentage of completion method (PCM) records revenue as it’s earned, even if not yet received, aligning revenue and expenses within the same accounting period for improved financial reporting.

Ideal for ongoing projects, PCM tracks progress by stages, providing real-time insights into performance and enabling proactive decisions like reallocating resources or adjusting timelines. It also enhances collaboration by keeping stakeholders informed of milestones and risks.

For long-term construction contracts, PCM ties revenue to completed stages, reducing discrepancies, ensuring compliance, and offering a clear cash flow picture. PCM works well for larger projects involving installations, repairs, or replacements.

Why it works for large, ongoing projects:

• Aligns revenue and expenses to project milestones
• Provides real-time financial insights for better resource allocation
• Keeps stakeholders informed with consistent progress updates

2. Completed contract method (CCM)

The completed contract method (CCM) records revenue and costs only after project completion, simplifying financial reporting and offering a clear snapshot of earnings and expenses.

Best for short-term projects, CCM minimizes administrative overhead and focuses on the final outcome rather than incremental tracking.

Why it works for short-term projects:

• Simplifies accounting by delaying revenue recognition
• Reduces administrative tasks for quick turnarounds
• Provides clarity after project completion

3. Cash basis accounting

Cash basis accounting records transactions only when cash changes hands, making it straightforward and ideal for smaller contractors. Income is recorded upon receipt, and expenses are recorded when paid, aligning with the day-to-day realities of small businesses.

Why it works for smaller contractors:

• Simple and easy to manage
• Offers clear cash flow insights
• Complies with IRS requirements for small businesses

For smaller construction businesses, cash basis accounting delivers an accessible and effective way to manage financial records without unnecessary complexity.

4. Accrual basis accounting

Accrual accounting records transactions when they are incurred, regardless of payment timing, providing a more accurate financial snapshot. It’s particularly useful for small construction companies managing long-term contracts.

Why it works for contractors with long-term projects:

• Tracks revenue and expenses as incurred
• Ensures accurate reporting across multiple periods
• Supports better budgeting and cash flow planning

Job costing in construction accounting

In construction accounting, job costing can be a powerful tool when combined with a general ledger. While the general ledger (G/L) gives a company a full overview of its overall financial picture, job costing allows a company to track the costs associated with each job. 

This allows accurate construction job costing, helping businesses to determine profitability. Together, these two systems give a construction company a holistic view of its finances.

Tracking the direct costs associated with each project (materials, labor, equipment) helps contractors:

• Control costs: It helps identify areas where costs are exceeding estimates, allowing contractors to take corrective actions before it’s too late.
• Improve resource allocation: With detailed cost data, businesses can allocate resources more effectively across multiple projects, ensuring that the budget meets or stays under forecasted amounts.
• Monitor progress: Contractors can track the progress of projects in real time, ensuring that costs are in line with the work completed.
• Measure profitability: Comparing estimated versus actual costs reveals which projects are more profitable and which may require cost adjustments.

Key job costing metrics

The following metrics are critical in job costing, especially when it comes to managing billing and ensuring the financial health of your business:

• Overbilling: Occurs when billings exceed the actual costs incurred. It may lead to cash flow benefits in the short term but can cause problems if not managed correctly.
• Underbilling: This happens when costs incurred exceed the billed amounts, leading to potential cash flow issues for the contractor. 

Monitoring these metrics across active projects helps keep cash flow and job margins on track. Leveraging an ERP system in accounting workflows can help automate overbilling and underbilling calculations.

Example of job costing

Job costing in the construction industry can be complex in practice, but the concept is fairly straightforward. Let’s look at an example to demonstrate how it works.

Imagine a contractor is working on a commercial building project with the following estimated costs:

• Material: $50,000
• Labor: $30,000
• Equipment: $10,000
• Total estimated costs: $90,000

As the project progresses, the contractor tracks actual costs and billing:

• Material spent: $45,000
• Labor spent: $28,000
• Equipment costs: $9,000
• Total actual costs: $82,000

In this example, job costing shows the contractor that the project came in $8,000 under budget, indicating accurate estimating.

How to find the right billing method for your construction business

According to the 2024 Rabbet Construction Payments Report, 92% of general contractors experienced work delays due to slow crew payments. In addition, 24% said cash flow issues were the primary cause.

While you can’t control when clients pay, the right billing method can protect your cash flow and help keep projects moving.

There are four main billing methods for construction accounting: 

1. Time and materials (T&M) billing: Best for projects with an uncertain scope or evolving work requirements, T&M billing charges clients for the time spent and materials used. Costs are based on estimated hours worked and materials purchased. 
2. Lump sum billing: Ideal for fixed-budget projects with well-defined scopes, lump sum billing charges a predetermined amount for the entire project. This covers materials, labor, and overhead. 
3. Unit price billing: Perfect for contractors who need transparency and accuracy, unit price billing assigns fees to specific units of work (e.g., per square foot or hour). It ensures fair compensation, helps control costs, and offers clients clear expense tracking.
4. AIA billing: Designed for large, complex projects, AIA billing follows a detailed invoicing format by the American Institute of Architects. It provides maximum transparency by documenting services, materials, labor, and costs.

It’s often beneficial to tailor your billing method to each project rather than taking the same approach across the board. When choosing, consider factors like project scope, budget certainty, and client expectations.

Example: You’re taking on two projects: a commercial renovation with uncertain requirements and a small office build with a clearly defined scope. You might choose T&M billing for the renovation to allow for flexibility. Meanwhile, lump-sum billing may be better for the build, as you can confidently estimate costs and timelines.

How to overcome construction's unique payroll challenges

Payroll teams in the construction industry face uniquely complex regulations. According to Lumber’s Realities of Construction Payroll report, 38% of construction payroll professionals have made errors that triggered penalties, underscoring the demanding nature of compliance.

There are three key payroll challenges construction companies face:

1. Varying rates

Construction payroll wages can vary greatly depending on the location of the job, the size of the job, and the individual skill level of the employee. Common construction payroll wages range from minimum wage in some areas to more than $50 per hour for experienced workers such as carpenters or electricians. 

Payroll also often includes a variety of bonuses, benefits, and other incentives, such as overtime pay or extra pay for hazardous working conditions.

Example: Imagine a contractor spends their morning laying foundation on a residential site and their afternoon welding steel beams several stories up. Because the second task involves greater risk and specialized skill, their hourly rate jumps from $23 to $47.

2. Davis-Bacon Act

The Davis-Bacon Act (DBA) is a United States law that requires employers to pay prevailing wages—the regional minimum pay requirement—on public works projects for laborers and mechanics.

The purpose of the Act is to protect local wages from being undercut by out-of-area contractors and construction workers. The Davis-Bacon Act applies to all construction projects under government contracts, including road construction, building construction, renovations, new construction, and painting.

Example: Say a contractor from another county typically pays their crew $25 per hour for concrete work, but the minimum pay in yours is $30. If that contractor took a public project in your area, they must raise their pay to meet the local rate.

3. Union payroll

Union payroll for construction businesses involves wage calculation and management and other benefits for employees who work on union-affiliated projects. It requires a comprehensive understanding of labor contracts and collective bargaining agreements, along with implementing appropriate payroll and taxes based on those contracts. 

To simplify the process, follow these steps:

• Stay up to date with labor and union regulations
• Understand union benefits
• Communicate with unions
• Invest in payroll software
• Hire a union payroll expert

Example: Say you win a contract for a union-affiliated hospital project. Union agreements require you to pay your crew $35 per hour, plus benefits, including health insurance. Complying with the terms is necessary to avoid costly disputes and stay eligible for future union jobs.

Essential documents for construction accounting

According to a McKinsey & Company survey of senior project executives, the average project overruns its budget and schedule by 30% to 45%. Consistent financial visibility is the key to managing this risk, especially in construction.

To stay informed while overseeing projects, keep these financial reports on hand:

• Job estimates vs. actuals report: Tracking job estimates against actual costs is crucial for understanding project performance. This report compares original project estimates, including change orders, to expenses incurred. Regularly updating this document helps you identify cost overruns early, allowing you to adjust budgets or renegotiate contracts. 
• Accounts receivable aging report: Tracking unpaid invoices is critical for maintaining steady cash flow. The accounts receivable aging report organizes outstanding invoices by the length of time they’ve been overdue. 
• Accounts payable aging: Just like you need to track what you’re owed, you also need to manage what you owe. This report lists unpaid bills and their due dates, ensuring you don’t miss payments to suppliers or subcontractors.
• Job cost statement: This job costing document is your detailed record of all costs related to a specific job. It breaks down expenses like labor, materials, equipment, and overhead. 
• Work in progress report: Your WIP report is a section of the balance sheet that shows whether your projects are underbilling or overbilling. It provides a detailed account of ongoing project performance and the financial implications.
• Construction-specific software can help automate the generation and maintenance of these key documents. For example, Intuit Enterprise Suite includes more than 15 construction report templates and integrates directly with project management apps like Knowify.

Boost productivity and enhance profitability

Construction accounting provides the financial clarity you need to make data-backed decisions. It informs everything from billing methods to job costing, making it the foundation of enterprise performance management.

Specialized software like Intuit Enterprise Suite can help maintain real-time visibility across dozens of projects. It includes an AI Accounting Agent that automatically categorizes transactions, flags anomalies, and reconciles accounts, ensuring your books stay audit-ready.