Long term construction contracts revenue recognition refers to an accounting principle that governs the manner in which a construction company reports its revenue from long-term projects. Typically, construction projects can last for several months or even years, which makes it challenging to accurately track and report the revenue generated from such projects.
For this reason, the Financial Accounting Standards Board (FASB) developed the long term construction contracts revenue recognition principle to ensure that construction companies report their revenue in a manner that accurately reflects the progress of the project. In this article, we’ll explore the key aspects of long term construction contract revenue recognition and its impact on construction companies.
What is long term construction contract revenue recognition?
Long term construction contracts revenue recognition is an accounting principle that governs how construction companies report their revenue from long-term projects. Essentially, this principle requires construction companies to recognize revenue over the course of the project as the work is completed. This is in contrast to recognizing revenue at the completion of the project.
The goal of long-term revenue recognition is to accurately reflect the progress of the project. For instance, if a construction project is expected to take five years to complete, the construction company must report revenue earned over the five-year period, and not all at once.
What are the key criteria for long term construction contract revenue recognition?
The FASB has outlined specific criteria that must be met for a construction company to use long term construction contract revenue recognition. These criteria include:
1. The project must last for more than a year.
2. The company must be able to reasonably estimate the total revenue and cost of the project.
3. The company must be able to reasonably estimate the percentage of work completed.
4. The company must be able to reasonably estimate the percentage of work remaining.
In addition to these criteria, construction companies must also keep detailed records of all costs associated with the project, including labor costs, material costs, and overhead costs.
What are the benefits of long term construction contract revenue recognition?
There are several benefits to using long term construction contract revenue recognition. The most significant benefit is that it allows construction companies to report revenue more accurately over the lifetime of the project. This ensures that the company’s financial statements reflect the true progress of the project and provides stakeholders with a more accurate picture of the company’s financial health.
Another benefit of long term construction contract revenue recognition is that it can help construction companies better manage their cash flow. By recognizing revenue over the course of the project, construction companies can plan their expenses and investments more effectively.
Finally, long term construction contract revenue recognition can help construction companies avoid disputes with customers over the timing and amount of payments. By reporting revenue as the work is completed, it is easier for both the construction company and the customer to understand the status of the project.
Conclusion
Long term construction contracts revenue recognition is an essential accounting principle that governs the manner in which construction companies report their revenue from long-term projects. By recognizing revenue over the course of the project, construction companies can provide more accurate financial statements and better manage their cash flow. If you are a construction company that engages in long-term projects, it is important to understand the criteria for long term construction contract revenue recognition and ensure that you are reporting your revenue accurately.