Construction Industry: Tax, Accounting & Audit Resources
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. COVID has created material shortages, delays on job sites, and a mouthful of acronyms to learn to help companies with everything from finances to job site procedures. This tax, audit, and accounting resource guide supplies insights and reference material for your construction business and reviews some of the recent changes in the industry.
- Labor Shortages
- Tax Law Changes
Revenue recognition is finally here!
After years of threats and changes to the standard, revenue recognition is now in effect. Many companies implemented ASC 606, revenue recognition, during their 2019 reporting year. However, in May 2020, the Financial Accounting Standards Board (FASB) delayed implementation for one more year due to the pandemic. For construction companies issuing Generally Accepted Accounting Principles (GAAP) basis financial statements, this new accounting standard has changed their financial statement presentation and possibly the timing of revenue recognition. This standard introduced 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 considered a new contract or modification of an existing contract. The new standard completely replaces the current standards.
Accounting for Leases
Accounting for leases is still on the way.
After revenue recognition, construction companies still have leases to contend with. The lease standard is another standard that FASB has pushed. It has been delayed twice in the last year and is currently scheduled to be implemented in years beginning after December 15, 2021. This standard will result in lease agreements being added to the balance sheet as both a leased asset and lease liability. Although this will increase both debt and assets, the overall effect on the financial statements will not be a net zero. Construction companies need to know the ramifications this will have on their total financial statements and bank or bonding covenants.
This standard will increase a company’s current liabilities, 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 the 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 before implementation. The pandemic has led many companies to negotiate changes in their lease terms or delayed rent payments until an extended lease end term. These lease modifications may cause additional lease liabilities and changes in rent expense. Free rent, whether COVID-related or stated in the lease, will be amortized over the course of the entire lease, again changing the annual rent expense for many companies. Click here to download a leases case study.
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 challenging 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. As developed by the American Institute of Certified Public Accountants, another option 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 have 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.
SALES TAX & NEXUS ISSUES ARE not just for online retailers
When the U.S. Supreme Court changed course on nexus determination with their Wayfair ruling 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. Each law has various factors to be considered to determine nexus. Before taking a contract of shipping goods out of state or working on a job site out of state, be sure to review the possible sales and income tax implications.
construction industry outlook
Taking a look forward to changes and what to expect.
Technology drives the construction industry
The 2020 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 drought of qualified employees. COVID has grown the overall unemployment rates; however, the construction industry continues to struggle to find skilled workers. Even with the lack of future work, companies are worried about losing their people to competitors, leading to higher costs for companies as they keep these employees on without related revenue. Companies are making tough decisions on how low to bid work to keep these employees busy. Most construction companies have difficulty passing on a proposal but dropping the margin to fill a company’s backlog with underperforming jobs is not a sustainable building model. COVID has made this even more difficult as determining the future market is more complex and has many variables. Paycheck Protection Plan loans have helped companies keep employees, but even a second round of funding is not a long-term solution to retaining employees.
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
The CARES act was the start of both federal and state changes as a response to the pandemic. Historically, “tax planning” is related to income tax; however, with the changing landscape caused by COVID, payroll tax savings and credits offer various opportunities for companies on top of SBA loans, like the Paycheck Protection Plan loans. The stream of tax changes in 2020 is not expected to slow down in 2021. It is essential to stay up to date with the latest from Congress, the SBA, and state legislation.
Additional Resources For you!
- Construction Industry Economic Outlook in 2021
- Buying Another Construction Company? Quick Guide on Best Practices
- Construction Company Accounting Procedures – What You Need to Know
- Construction Industry: 21 Things to Focus on in 2021
- 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 CONSTRUCTION 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.