The Accounting Method Can Change When Profit Shows Up
Two remodeling contractors can perform similar work, collect similar cash, and still report taxable income differently. That is because long-term construction contracts have special tax-accounting rules.
The two methods owners hear about most are percentage-of-completion and completed-contract accounting. They sound technical. The business impact is simple.
Percentage-of-completion generally recognizes contract income as the work progresses. Completed-contract accounting generally waits to recognize the contract’s income and related costs until the contract is completed.
That timing can affect taxable income, estimated taxes, year-end planning, financial statements, and how clearly management sees job performance.
But there is an important point remodelers often miss: this is not always a free choice.
Federal tax rules determine which contracts qualify for an exemption from the normal percentage-of-completion requirement. The One Big Beautiful Bill Act changed the rules for residential construction contracts entered into in tax years beginning after July 4, 2025. In 2026, the inflation-adjusted section 448(c) gross-receipts threshold used in several small-business tax rules is $32 million.
So before choosing a method, determine what kind of contracts you have and what rules actually apply.
What Is the Percentage-of-Completion Method?
Under percentage-of-completion, income is recognized over the life of a long-term contract based on progress toward completion.
A common approach uses costs incurred to date compared with total estimated contract costs.
Suppose a remodeler has a $900,000 project. Estimated total job cost is $700,000. By December 31, the company has incurred $350,000 of those expected costs. Very roughly, the project may be viewed as 50% complete under a cost-to-cost approach. That means a portion of the contract revenue and expected gross profit is recognized before the project is fully finished.
The advantage is matching. Revenue and profit show up as the work happens, which can make financial results more useful for management.
The challenge is estimation. If your total-cost estimate is wrong, your reported profit can be wrong too. That is why accurate job costing and estimate-to-complete updates matter.
What Is the Completed-Contract Method?
Under completed-contract accounting, a qualifying contractor generally defers contract revenue and related contract costs until the contract is completed for tax purposes. That can push income from one tax year into the next when a project spans year-end.
For example, a remodeler may have a project that is 80% complete on December 31 but does not meet the applicable completion standard until February. If the contract qualifies for completed-contract treatment and the contractor uses that method, the tax recognition can differ dramatically from percentage-of-completion.
That does not mean the cash disappeared. It means the timing of taxable contract income is different.
This can be useful, but it also creates a planning issue: completed contract can make taxable income lumpy. A company may show modest taxable income one year and a very large jump the next as several jobs close. Tax deferral is not tax elimination.
The 2025 Law Change Matters for Residential Remodelers
This is where old articles on the internet can be misleading. Before the 2025 law change, home construction contracts had a broader exemption from the percentage-of-completion requirement, while other residential construction contracts were treated differently.
The OBBBA expanded the home-construction exception to cover all residential construction contracts for contracts entered into in tax years beginning after July 4, 2025. IRS Rev. Proc. 2026-32 also provides procedures for taxpayers changing accounting methods to comply with the new rules.
For a remodeling contractor working primarily on residential property, that can create more flexibility than older guidance suggests.
But do not jump straight from “residential” to “completed contract.” You still need to determine whether the contract meets the tax definition, whether capitalization rules apply, whether a method change is required, and whether the chosen method is permissible and consistent.
This is one of those areas where a short CPA review before year-end is worth more than a cleanup after the return is due.
The Small-Contractor Exception Still Matters
For nonresidential construction contracts, a small-contractor exception can also matter. Section 460 generally requires percentage-of-completion for long-term contracts, but certain construction contracts can be exempt when the taxpayer meets the applicable gross-receipts test and the expected contract duration fits the statutory rule.
For tax years beginning in 2026, the section 448(c) inflation-adjusted gross-receipts threshold is $32 million. That threshold is based on average annual gross receipts over the relevant prior-year period, with aggregation rules that can combine related businesses.
Do not look only at the revenue of one entity and assume you qualify. Related entities, common ownership, tax-shelter status, and contract type can change the analysis.
Which Method Gives Better Management Information?
For internal decision-making, percentage-of-completion style reporting usually gives an owner better visibility. That does not mean your tax return has to use the same method in every situation.
A remodeling company should know the financial condition of active jobs before they are complete. If you wait until completion to evaluate profitability internally, you are managing through the rearview mirror.
For each major active project, management should know:
- Original contract value
- Approved change orders
- Estimated total cost
- Cost incurred to date
- Estimated cost to complete
- Billed-to-date
- Cash collected
- Expected gross profit
- Projected gross margin
That information supports a WIP schedule even when tax reporting uses an exempt contract method. Tax accounting and management accounting serve different purposes.
The Biggest Mistake: Choosing Based Only on Taxes
Owners naturally focus on whichever method produces the smaller current tax bill. That is too narrow.
A method affects timing, not just taxes. It can also affect lender reporting, bonding discussions, owner expectations, estimated-tax planning, and the quality of your internal numbers.
If completed contract defers $500,000 of gross profit into next year, you need to plan for the future tax bill. If percentage-of-completion accelerates income, you need enough cash to fund the tax while the related receivable may still be outstanding.
The goal is not to pick the method with the lowest tax this December. The goal is to use a permissible method and understand what it does to cash and reporting over multiple years.
Remodeling Contractor Example
Assume a California design-build remodeling company has $8 million of annual revenue. Most jobs are large residential renovations lasting six to fourteen months. Several cross December 31. The company keeps good project budgets but historically lets the tax preparer deal with contract accounting at year-end.
One year, three major projects are nearly complete in December. The owner expects taxes to be similar to the prior year. They are not. Why? Because project timing, method-of-accounting rules, and job completion dates moved a large amount of taxable income into the year.
The surprise was not caused by the tax return. The surprise was caused by failing to model contract timing before year-end.
A better process would identify each long-term contract, classify it, determine the tax method being used, estimate year-end completion, and forecast taxable income before November.
That gives the owner time to plan estimated payments, equipment purchases, retirement contributions, distributions, and cash reserves without making panicked decisions.
When Percentage-of-Completion Can Be a Good Fit
Percentage-of-completion may make sense or be required when:
- The tax rules require it for the contract
- The company wants smoother recognition of income over long projects
- Job-cost estimates are reliable
- Lenders or sureties expect accrual-style WIP reporting
- Management wants financial statements that reflect work performed rather than only completed jobs
The downside is that taxable or book income can appear before all related cash is collected. That makes billing and cash forecasting important.
When Completed Contract Can Be Attractive
Completed-contract accounting may be attractive when a contract qualifies and the company wants tax recognition tied to completion. It can provide timing deferral on eligible contracts crossing year-end.
But the downside is volatility. One year can look light. The next year can become heavy when several contracts close.
It can also hide poor internal reporting if management uses the tax method as an excuse not to maintain a proper WIP schedule. Do not confuse a tax method with a management system.
What to Review Before Year-End
Remodelers should review these items before the final quarter gets away from them:
- List every contract that will cross year-end.
- Identify residential, home-construction, and nonresidential contracts.
- Confirm the tax accounting method currently used.
- Determine whether recent law changes affect new contracts.
- Check the section 448(c) gross-receipts test and related-entity aggregation.
- Update estimated total job costs.
- Estimate completion dates realistically.
- Forecast taxable income under the applicable method.
- Coordinate tax estimates with the 13-week cash forecast.
- Determine whether a Form 3115 accounting-method change may be needed before making a change.
That is planning. Waiting until March to discover which projects finished in December is cleanup.
Bottom Line
Percentage-of-completion and completed-contract accounting can produce very different tax timing for remodeling contractors. The right answer depends on the type of contracts, current federal rules, company size, accounting-method history, and what information management needs to run the business.
For residential remodelers, the 2025 law change expanded the federal exemption framework, so older rules may no longer tell the full story.
Run the numbers before year-end. Then make sure your internal job reporting is strong no matter which tax method applies.
Frequently Asked Questions
What is the difference between percentage-of-completion and completed contract? Percentage-of-completion recognizes contract income over the project as work progresses. Completed contract generally defers income and related contract costs until an eligible contract is completed.
Can every remodeling contractor use completed-contract accounting? No. Eligibility depends on federal tax rules, contract type, accounting-method history, and other facts. Residential construction rules changed under the 2025 OBBBA, but contractors still need to confirm the exact treatment of their contracts.
What is the 2026 gross-receipts threshold for the small-business test? The IRS states that the inflation-adjusted section 448(c) threshold for 2026 is $32 million. Aggregation rules may require related businesses to combine receipts for the test.
Does my tax accounting method have to match my internal job reports? Not necessarily. A contractor can still use WIP and percentage-complete style reporting internally to manage active jobs even when a different permissible method applies for federal tax purposes.
Do I need IRS permission to change methods? A change in tax accounting method often requires following formal procedures, commonly including Form 3115. Recent IRS guidance provides automatic-change procedures for certain construction-method changes. Review the facts before switching methods.
Book a Call
Before you choose an accounting method because it sounds tax-friendly, run the numbers first.
At Basta & Company, we help California contractors connect job costing, tax accounting, and cash-flow planning so year-end does not turn into a surprise.
Book a call and get a second opinion before a timing decision becomes an expensive cleanup project.
