Accounting for Construction Contracts Using the Percentage-of-Completion Method

✦ The percentage-of-completion method recognizes revenue and expenses on long-term construction contracts based on progress toward completion.

✦ Under ASC 606, revenue is recognized over time if certain criteria are met, typically using input or output methods to measure progress.

✦ This method results in revenue and profit being matched with performance and reduces volatility compared to completed contract accounting.

✦ Proper application requires estimates of total cost, contract price, progress, and ongoing reassessment.

1. When to Use Percentage-of-Completion

✦ Apply the percentage-of-completion approach when revenue is recognized over time under ASC 606-10-25-27.

✦ Criteria include:

 • Customer controls asset as it's created or enhanced

 • Asset has no alternative use and there's an enforceable right to payment

 • Work creates or enhances a customer-controlled asset (e.g., roads, buildings, custom machinery)

2. Measuring Progress Toward Completion

✦ Progress is measured using either:

 • Input methods — e.g., costs incurred to date ÷ total expected cost

 • Output methods — e.g., milestones, surveys, or physical completion %

✦ Input method is most common in construction.

Example:

• Total contract = $1,000,000

• Costs incurred to date = $400,000

• Estimated total cost = $800,000

→ Completion % = 400,000 ÷ 800,000 = 50 %

→ Revenue recognized = 50 % × $1,000,000 = $500,000

3. Journal Entry — Revenue Recognition

Entry to record revenue and gross profit to date:

debit Construction in Progress – $200,000

 credit Construction Revenue – $500,000

 debit Construction Expense – $300,000

✦ Revenue is cumulative; update each period by calculating new totals and subtracting previously recognized amounts.

4. Construction in Progress and Billing

✦ Maintain two key accounts:

 • Construction in Progress (CIP) — asset account for costs plus recognized profit

 • Billings on Construction Contracts — contra asset or liability

✦ Compare balances to determine:

 • CIP > Billings → Contract asset (underbilled)

 • CIP < Billings → Contract liability (overbilled)

5. Journal Entry — Progress Billings

To record customer billing:

debit Accounts Receivable – $250,000

 credit Billings on Construction Contract – $250,000

✦ Net the CIP and billings accounts on the balance sheet to show net contract asset or liability.

6. Revisions and Changes in Estimates

✦ Periodically update:

 • Estimated total cost to complete

 • Expected total contract revenue (for change orders, claims)

✦ Adjust revenue and profit recognition prospectively using the cumulative catch-up approach.

Entry:

debit Construction in Progress – $X

 credit Revenue – $X

7. Loss Contracts

✦ If the total estimated cost exceeds contract revenue, recognize entire loss immediately under ASC 605-35-25-45.

Entry:

debit Construction Loss – $X

 credit Contract Liability / CIP – $X

✦ This applies regardless of the stage of completion.

8. Disclosure Requirements

✦ Required disclosures include:

 • Methods used to recognize revenue and measure progress

 • Balances of contract assets and liabilities

 • Significant judgments in measuring performance

 • Information about changes in estimates

9. IFRS Comparison (IFRS 15)

Topic	US GAAP (ASC 606)	IFRS 15
Method basis	Input/output methods	Same
Contract asset/liability netting	Required	Required
Loss recognition	Immediate	Immediate
Changes in estimate	Cumulative catch-up	Same

10. Common Errors

✦ Incorrectly measuring percentage complete or excluding relevant costs

✦ Recognizing revenue before control transfers or criteria are met

✦ Failing to update estimates for cost overruns or change orders

✦ Misclassifying under/overbilling on the balance sheet

✦ Not disclosing critical estimates or revenue recognition policies