In this guide to construction bookkeeping, we review some of the key factors that any contracting business should consider as they review their bookkeeping processes. Contractors and their company bookkeepers alike can use this guide to ensure they are thinking through the various scenarios and complexities when it comes to setting up a construction bookkeeping system.
To any layperson, bookkeeping for contracting/sub-contracting businesses (whether it be construction, renovation, developing) is seemingly similar to any other business. Post bills payables, run payroll, create invoices to send to customers. However, veterans of this industry will know that the intricate nuances of contracting businesses deviate from what one would consider “regular bookkeeping”. The discrepancies in bookkeeping may not seem meaningful, but good bookkeeping practices, especially in construction, will be the difference between retaining and losing clients. The contracting industry is in no shortage of horror stories of books gone awry, with problems only to surface during year-ends or tax seasons. Often times, these bookkeeping catastrophes are not the cause of a single instance, but an error of the foundation on which the books were built (no pun intended) upon.
Below are 5 tips that should be standard practice for bookkeepers of contracting businesses.
1. Use Classes
The complexity of contracting businesses is rooted in classes. Because each new project assumes costs pertaining to the specific project for the contracting business, a multitude of classes is a requirement, not an option in our view. Classes need to be oriented in such a way that the relevant costs can be directly linked to specific projects, expensing materials by the specific job in question. This complexity is exacerbated when trying to decipher where overhead expenses (as opposed to cost of goods sold expenses) should be posted to. Therefore, after having done bookkeeping for a construction company for some time, a library of expense categories will begin to emerge.
2. Review Key Construction Reports Regularly
Further to above, classes also play a vital role in producing reports for managers. Revenue and profit estimates are based off reports that are generated by either the accountant or bookkeeper and need to accurately display the costs of jobs and projects. Namely, the trinity of construction reports for management are progress invoicing, job costing, and job profitability. Within these reports are significant sub-reports such (e.g. job costs by vendor) which are also extremely helpful for construction managers. A contracting business cannot operate (for very long) without these reports. Incorrect class specifications will not only lead to incorrect books, but potential losses for your client. Having an organized set of classes will enable you to provide meaningful results for decision making to your client. This is easier said than done as construction projections are almost always one-of-a kind custom jobs and report generation is limited by the software you elect to use (more on that below).
3. Understand Holdbacks
A common mistake that inexperienced construction bookkeepers make is the fact that they don’t know what to do with the holdbacks that are accrued. Often times, they can be found in a mystery AR accounts with no indication of what it is or what it’s there for. First, to account for a holdback a holdback receivable asset account needs to be created, and it needs to be able to allow project allocations. For this reason, when new invoices for a project are issued, two line items are needed: one of the amounts owing and an additional line item on the invoice as a negative amount for the amount/percentage of the holdback. Bookkeepers need to specify the holdback receivable account and allocate the amount to the appropriate project. When the client has signed off on the job, you can add back the holdback as a positive amount (again, specifying the holdback receivable account) and allocate the amount to the project. To ensure that the holdback invoice amount is received, bookkeepers can create an AR Aging Summary report (or Customer Aged report for Sage). For a full guide on holdbacks for tax purposes, you can check out our guide on GST/HST and the Construction Industry.
4. Choose the Right Software
Given that the multiple classes are required, we recommend QuickBooks Desktop for construction businesses. QuickBooks Online, though more accessible, has the pitfall of not allowing the bookkeeper to create complex classes and reports that may be required for contracting companies. QuickBooks Online, on the other hand, has a limited number of job costing reports, report filters, and WIP reports. Again, as a bookkeeper with complex projects, reports on jobs classes need to be able to be filtered to be able to make meaningful decisions. Additionally, though specific contracting software such as Sage 100 Contractor or Sage 300 CRE exist for larger construction companies, between Sage 50 and QuickBooks Desktop, QuickBooks Desktop is still our recommendation for small to medium sized businesses. One of that greatest shortcomings of Sage 50 is again, the limited amount of customizable fields within reports (not the case with advanced Sage software such as Sage 300 CRE).
One of the most overlooked components of bookkeeping for contracting businesses is the training involved with contracting business managers. Classes and reports won’t be useful if the information about expenses aren’t accurate. Additionally, contractors generally aren’t the savviest when it comes to bookkeeping/accounting. More often than not, part of your duties will require that the bookkeeper train managers to communicate in a way that jobs and projects accurately reflect what is supposed to be recorded in the books. Proper bookkeeping in construction is limited by the quality of information that the bookkeeper receives. Garbage in equals garbage out, as they say. The first step is breaking old habits that contracting business managers may have. For construction companies seeking a bookkeeper, they will most likely have a spreadsheet that poorly resembles a project job-costing report. As a bookkeeper, you will need to show and demonstrate that there are reporting tools that make spreadsheets obsolete. Second, you’ll need to train managers to send information for any expense so it can be allocated appropriately. Receipts and bills need to come with descriptions so bookkeepers know what project it was used for and under which class.
This guide is only intended for bookkeepers who are considering or have newly signed on contracting businesses. Different constructions companies will have different needs but the above serve as guidelines as to what the bookkeeping job will entail. Bookkeeping for such businesses are more nuanced and complex but these are the bare minimums that should be considered when first taking on a contracting client.
Schedule a call with LedgersOnline and let us show you how we can help you grow your construction company or contracting business achieve better bookkeeping results.