Completed Contract Method (CCM)
What Is the Completed Contract Method (CCM)?
The completed contract method (CCM) is a accounting technique that permits companies to postpone the reporting of income and expenses until after a contract is completed. Utilizing CCM accounting, revenue and expenses are not recognized on a company's income statement even on the off chance that cash payments were issued or received during the contract period.
The completed contract accounting method is oftentimes utilized in the construction industry or different sectors that include project-based contracts.
How the Completed Contract Method (CCM) Works
The completed contract method permits all revenue and expense recognition to be deferred until the completion of a contract. CCM accounting is useful when there is unusualness encompassing when the company will be paid by their customer and uncertainty in regards to the project's completion date.
Businesses have different options while perceiving revenue in setting up their financial statements. Some companies lean toward the cash method of accounting for revenue and expenses. The cash method perceives revenue when cash is received from clients, and expenses are recorded when they're paid. Albeit the cash method may be clear, it can postpone recording revenue and expenses until the money is earned or paid out.
The accrual accounting method perceives revenue and expenses when they happen, meaning the revenue needn't bother with to be received by the company before accounting for it. At the end of the day, the activities that earned the revenue or made the expenses are recorded even however the genuine money didn't change hands around then.
Accrual accounting is regularly the most common method utilized by businesses, like large corporations. Notwithstanding, a few small businesses utilize the cash method, which is likewise called cash-basis accounting. The completed contract method doesn't need the recording of revenue and expenses on an accrued basis. All things considered, revenue and expenses can be reported after the project's completion.
Requirements for the Completed Contract Method
Commonly, the completed contract method is held for certain circumstances since the revenue recognition is frequently delayed and capricious. Subsequently, there are a couple of examples while CCM accounting may be useful:
- In the event that a contract has a short-term end date and the majority of the revenue is probably going to be recognized when the project is completed
- At the point when a project might be subject to potential hazards that could defer its completion
- At the point when there's uncertainty in forecasting the completion date of a project
Completed Contract versus Percentage of Completion Method
For longer-term projects in which revenue and expenses may be earned and paid out at different spans all through the project's lifetime, companies can utilize the percentage of completion accounting method.
A company can lay out milestones all through the project's lifetime and assign percentages of completion for every milestone. The percentage of completion method permits the revenue and expenses to be ascribed to each stage of completion. Nonetheless, the two players included must be sensibly certain that they can complete their obligation of the contract.
The percentage of completion accounting method assists with shielding companies from variances in their revenue stream by recording revenue at customary stretches. The percentage of completion method additionally assists companies with their cash flow needs since it stays away from the company paying for the expenses all through the project's all's lifetime before getting any revenue, as in the case with the completed contract method.
Benefits and Disadvantages of the Completed Contract Method
The completed contract method enjoys the two benefits and detriments. Utilizing CCM accounting can help try not to need to estimate the cost of a project, which can prevent inaccurate figures. Additionally, since revenue recognition is postponed, tax liabilities may be postponed too. Be that as it may, expense recognition, which can reduce taxes, is moreover delayed. According to the client's viewpoint, the CCM considers delayed cash outflows and guarantees the work is fully performed and received before any payment is made.
On the downside, on the off chance that a cluster of contracts completes at the same time, this might make a sudden flood of revenues or expenses, and account payable and account receivable, which can cause extremist changes in the income statement and balance sheet, separately. According to an optics viewpoint, this can cause a company's revenue and profitability to seem conflicting to outside investors. For instance, in the event that a company needs to apply for credit from a bank, it very well might be trying to demonstrate how much revenue the company generates utilizing the completed contract method.
By conceding the recognition of revenue and expenses for the rest of the project, the company could put itself at risk of higher tax liabilities. For instance, suppose a project is estimated to require three years to complete and tax laws change, leading to an increase in the business tax rate. The tax liability would be higher under the completed contract method versus utilizing the percentage of completion approach since a portion of the revenue would have proactively been recognized.
Companies ought to counsel a tax professional before concluding which accounting method is best from a tax point of view.
Illustration of Completed Contract Method
To illustrate the completed contract method, the model below shows a construction project utilizing both the percentage of completion and completed contract methods.
A company is employed to develop a building wherein the company will charge the customer $2 million, and the project will require two years to complete. The company lays out milestones in which the customer will pay $500,000 or 25% of the project's cost like clockwork.
Toward the finish of year one, half of the project has been completed. The company will report its revenue of $1 million to perceive the two payments for $500,000 that the customer made toward the finish of the half year and one-year milestones.
Alternately, under the completed contract method, the company wouldn't record any revenue or expenses on its income statement for the rest of the project. Accepting that the project was done on time and the customer paid in full, the company would record revenue of $2 million and the expenses for the project toward the finish of year two.
- CCM accounting is useful when there's unconventionality encompassing when the company will be paid and when the project will be completed.
- Since revenue recognition is postponed, tax liabilities could likewise be postponed, however expense recognition, which can reduce taxes, is similarly delayed.
- The completed contract method (CCM) permits all revenue and expense recognition to be deferred until the completion of a contract.