Generally, construction contractors with long-term contracts can recognize the gross margin for income tax purposes on the projects by two methods: the percentage of completion method or the completed contract method. The completed contract method is often preferred as it defers taxable income, thus preserving current cash flow. However, the use of the completed contract method is limited to small contractors who have $30 million or less in prior three-year average gross receipts. If a contractor uses the percentage of completion method, is there an opportunity for deferral? The short answer is yes.
For a contractor using the percentage of completion method, income tax allows a special deferral for jobs that are less than 10% complete by the end of the year. This means that any gross margin on these contracts is not recognized for tax in the year it is recognized for financial statement purposes but postponed into a year where the gross margin on the contracts exceeds 10%. In order to claim the benefit, the contractor only needs to utilize the method when filing the tax return, and no separate election statement is required. However, once the election is made, it is irrevocable.
If you have questions about utilizing the 10% deferral or overall accounting method for long-term contracts, please contact Ryan Kilpatrick or your GBQ service provider.
