What Is Long Term Contract Accounting

Long Term Contract Accounting: What It Is and How It Works

Long term contract accounting, also known as percentage of completion accounting, is a method of accounting used by businesses that undertake long-term projects. This method of accounting is typically used by construction companies, engineering firms, and other businesses that work on projects that take a long time to complete.

The basic idea behind long term contract accounting is that revenue and expenses are recognized over the duration of the contract, instead of when the project is completed. This means that revenue and expenses are recognized as the project progresses, based on the percentage of completion of the project.

For example, if a construction company is contracted to build a 100-unit condominium complex, and they have completed 50 units, they would recognize 50% of the revenue and expenses associated with the project. This is based on the percentage of completion of the project, which is determined by the cost of the work completed to date, compared to the total estimated cost of the project.

There are several benefits to using long term contract accounting. One of the main benefits is that it allows businesses to more accurately match revenue and expenses to the period in which they were incurred. This can help to provide a more accurate picture of the financial health of the business, and can also help to avoid artificially inflating profits or losses in any one period.

Another benefit of long term contract accounting is that it allows businesses to more accurately track the progress of their projects. By tracking the percentage of completion of each project, businesses can better understand their cash flow needs, and can make more informed decisions about resource allocation and project management.

However, there are also some downsides to using long term contract accounting. One of the main downsides is that it can be more complex and time-consuming than other methods of accounting. This is because it requires businesses to track the percentage of completion of each project, and to make adjustments to revenue and expenses as the project progresses.

Additionally, long term contract accounting can be more susceptible to manipulation or abuse. This is because businesses may be tempted to overstate the percentage of completion of a project in order to recognize revenue and expenses sooner, or to understate the percentage of completion in order to defer revenue and expenses to a later period.

Overall, long term contract accounting can be a useful tool for businesses that undertake long-term projects. However, it is important to carefully evaluate the pros and cons of this method of accounting, and to ensure that it is being used in a transparent and accurate manner.