The IRS Completed Contract Method: What it is and How it Works
The IRS Completed Contract Method is a tax accounting method commonly used by businesses in the construction industry. This method is used to recognize revenue and expenses on long-term contracts, where the contract spans over multiple years and multiple milestones.
Under the Completed Contract Method, companies do not recognize revenue until the contract is completed. This means that revenue and expenses are only recognized in the year when the project is finished and all deliverables have been met. As a result, the completed contract method can help businesses avoid tax liabilities in the early phases of the contract.
The Completed Contract Method is particularly useful for businesses that work on large-scale and complex projects, such as construction firms and engineering companies. For these types of businesses, contracts can often take several years to complete, and involve multiple phases and milestones. By using the Completed Contract Method, businesses can avoid difficulties in estimating contract revenue and expenses over an extended period of time.
The Completed Contract Method is also preferred by businesses that have long-term contracts with customers that are not yet fully established. This method allows companies to avoid overestimating revenue and expenses, which can lead to significant tax liabilities in the future.
There are a few key requirements for the Completed Contract Method. First, the project must be long-term, typically lasting over two years. Second, the contract must be fully completed before revenue and expenses can be recognized. Finally, the taxpayer must use the completed contract method for all long-term contracts.
It is important to note that the Completed Contract Method can only be used for tax purposes, and does not impact financial reporting. Businesses must still report their financial statements and contracts according to Generally Accepted Accounting Principles (GAAP).
In conclusion, the IRS Completed Contract Method is a useful tax accounting method for businesses in the construction industry. By delaying the recognition of revenue and expenses until the contract has been fully completed, businesses can avoid tax liabilities and more accurately estimate their financial performance. However, it is important to note that this method is only applicable for tax purposes and does not impact financial reporting.