Should my construction company use cash or accrual accounting for tax purposes?
Most contractors asking this question are really asking which method saves more on taxes. The answer is usually cash. But saving on taxes and understanding your business are two different things, and cash basis accounting makes the second one harder.
If your construction company averages under $29 million in annual gross receipts over the prior three years, you can use the cash method for tax purposes. That threshold comes from the Tax Cuts and Jobs Act and it covers the vast majority of construction companies in the Phoenix area. Once you cross that $29 million line, the IRS requires the percentage-of-completion method for long-term contracts, which is a form of accrual accounting.
Cash basis means you record income when you receive payment and expenses when you pay them. For a contractor, this creates natural tax deferral. If you bill a client in December but don’t collect until January, that income falls into next year’s tax return. You can also accelerate expenses by paying vendors and suppliers before year-end to reduce taxable income. It’s simple, it’s legal, and it puts more control over timing in your hands.
The problem is that cash basis gives you a distorted picture of how your jobs are actually performing. You might look profitable one month because a big draw came in, then look terrible the next month when you pay subs and material invoices. The cash flow timing hides whether you actually made money on a project. You won’t know until the job is completely finished and every dollar has moved in and out.
Accrual accounting with work-in-progress reporting solves this. On accrual, you recognize revenue as you earn it and expenses as you incur them regardless of when cash changes hands. WIP reports compare the percentage of work completed against the percentage of the contract billed and the costs incurred to date. This tells you mid-project whether you’re over budget, under-billed, or losing money. That visibility matters a lot more than most contractors realize until they finish a job and discover they lost $20,000 somewhere along the way.
The practical approach many construction companies take is to file taxes on a cash basis while maintaining accrual-style internal reporting for management decisions. You get the tax deferral benefits of cash while still seeing accurate project-level profitability. This requires your books to be set up properly with job costing enabled and someone who understands construction financials maintaining them.
Your CPA should weigh in on which tax method fits your situation based on your revenue, contract types, and growth trajectory. But don’t let the tax decision be your only consideration. If you can’t tell which jobs made money and which ones didn’t, the tax savings from cash basis won’t matter much when margins are disappearing and you don’t know why.
If your books aren’t currently set up for job-level tracking or WIP reporting, that’s worth fixing before worrying about the accounting method debate. Reliable small business bookkeeping services built around construction workflows will give you the financial clarity to make better decisions on every project you take.
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More Questions
What is AIA billing and how do I record G702/G703 pay applications in my books?
AIA billing is the standard progress billing format used in construction, built around the G702 Application for Payment and G703 continuation sheet. Record the full application amount as revenue, track retainage as a separate receivable, and keep change orders as distinct line items so your financials reflect your true position on each project.
Read answerWhat is the difference between overbilling and underbilling on a WIP schedule?
Overbilling means you've billed more than the work you've completed, and it shows as a liability. Underbilling means you've done more work than you've billed for, and it shows as an asset. Both are tracked per project on a WIP schedule.
Read answerHow do I account for subcontractor payments and ensure 1099 compliance on construction jobs?
Set up each subcontractor as a 1099-eligible vendor in QBO before you pay them, and code every payment to the correct project. Collect W-9s upfront, track retainage as a separate liability, and file 1099-NECs by January 31 for any sub paid $600 or more.
Read answerHow do I set up job costing in QuickBooks Online for a general contractor?
Use sub-customers for each job, classes for cost categories like labor and materials, and enable the Projects feature for tracking. The chart of accounts needs to be structured for construction or the reports won't tell you anything useful.
Read answerHow do I track retainage in QuickBooks for construction projects?
QuickBooks Online doesn't have a built-in retainage feature. You need to create a Retainage Receivable account and a Retainage Payable account, then use line items and journal entries at each billing cycle to track what's being withheld.
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