Every organization must keep financial statements: a balance sheet, income statement and statement of cash flow. A balance sheet discloses assets and liabilities while an income statement reveals how profitable an organization is. A statement of cash flow traces the sources of cash as well as how it is used. All three financial statements contain vital information for shareholders, investors and lenders. It’s important to follow construction accounting best practices when getting your financial statements in order.
If you opt to prepare your financial statements in-house, an accounting professional can help set up your books to comply with generally accepted accounting principles (GAAP) and the Internal Revenue Code. A certified professional accountant can also review your balance sheet, income statement and statement of cash flow to provide your stakeholders with a third-party verification of quality standards.
Construction Accounting Best Practices for Preparing Financial Statements
Provide Comprehensive Cost of Sales Figures
Cost of sales is an accounting term that refers to “any costs incurred by your firm that are directly or indirectly used to bring a construction project to a saleable condition and substantial completion, per the project documents, and used to deliver the finished project to the customer.” To conform with GAAP, cost of sales should be subtracted from sales on your income statement to compute the gross profit. This is important so that your stakeholders can assess your company’s performance against industry benchmarks and make direct and fair comparisons between your company and your competitors. An accurate gross profit could also place you in a better position to secure larger loans at lower interest rates.
Sometimes, cost of sales numbers computed by in-house bookkeepers or accountants contain mistakes or omissions. And sometimes, these mistakes and omissions serve as a red flag that an in-house team is failing to provide accurate job costing reports. It’s vital that these reports are accurate and comprehensive. If they’re not, you’ll never know if your bidding process is truly effective and, more importantly, which construction projects are profitable.
Set Up a Meaningful Chart of Accounts
Your chart should have been set up when you first opened for business. It may require updating or revising to ensure your practices conform with a GAAP or tax-basis financial statement presentation. Setting up these accounts properly requires experience and forethought. Such diligence can enhance the readability of your firm’s financial statements, both for you and the stakeholders who rely on them. It can also make the preparation of your year-end financial statements and tax returns more straightforward.
Numbering of asset, liability, equity, income, and expense accounts on your chart of accounts should generally follow the format of your financial statements. The 1000 series is generally reserved for assets. For example, your checking account might be assigned account number 1120, trade receivables might be 1200, costs in excess of billings might be 1320 and tools might be 1550.
Other account numbers are generally assigned as follows:
- 2000 series for liabilities
- 3000 series for equity accounts
- 4000 series for sales (or revenue) accounts
- 5000 series for cost of sales
- 6000 series for operating expenses
- 7000 series reserved for interest and income taxes
- 8000 and 9000 series for other income and expenses
Customarily, accountants organize their 6000 series (operating expenses) in alphabetical order to make line items easier to locate on financial statements. To keep reports alphabetized in the future, it’s helpful to skip numbers between accounts. Doing so will make it easier to insert new line items later.
Name Accounts Succinctly
Some forethought should also be given to how accounts are named. For example, “transportation” might be mistaken as an asset. Instead, “vehicle costs” might be a better description. Similarly, “sales tax expense” denotes a cost to the end user, not the construction firm. A better account name might be “sales tax payable” to convey the nature of the obligation. Account names should not be ambiguous. For example, instead of “discounts,” try using “sales discounts” for discounts given to customers and “purchase discounts” for discounts taken on supplier invoices. This delineation could prevent many costly mistakes.
Seek Guidance from a Construction Accounting Firm
When setting up or revising a chart of accounts, consult a construction accounting firm. Their guidance will ensure you follow construction accounting best practices and help you prepare more meaningful, user-friendly and professional-looking financial reports. Contact us at 702-870-7999 to learn more about our accounting services and how we can help you easily get your company’s financial statements in order.