Percentage of Completion Method

The percentage of completion method is used to calculate the amount of revenue and therefore income that can be recognized by a business on a long term project. The method is in accordance with the matching or accruals concept of accounting, and ensures that the costs incurred on the project are matched to the revenues arising from that project.

In summary the method calculates the percentage completion of the project by taking the ratio of costs incurred to date to the total estimated costs, and applies that percentage to the estimated total revenue arising from the project.

Percentage of Completion Method Calculation

The degree to which a project is completed can be calculated using the percentage of completion formula.

Percentage completion = Costs to date / Estimated total costs

For example, if the estimated total costs for a long term project are 40,000 and the costs incurred to date are 9,000, then the percentage of completion is calculated as follows:

Percentage completion = Costs to date / Estimated total costs
Percentage completion = 9,000 / 40,000
Percentage completion = 22.5%

Having calculated the percentage of completion, the next step is to apply this percentage to the estimated total revenue from the project.

Revenue Recognition

Suppose in the above example, the project had total estimated revenues of 120,000, then using then percentage of completion method, the revenue to recognize is calculated as follows:

Revenue recognized = % of completion x Total estimated revenue
Revenue recognized = 22.5% x 120,000
Revenue recognized = 27,000

Income Recognition

The income recognized can now be calculated as follows:

Income recognized = Revenue recognized - Costs to date
Income recognized = 27,000 - 9,000
Income recognized = 18,000

Note that the same answer could be arrived at by applying the percentage completion to the estimated total income from the project.

Estimated total income = Estimated revenue - Estimated costs
Estimated total income = 120,000 - 40,000
Estimated total income = 80,000
Income recognized = % of completion x Total estimated income
Income recognized = 22.5% x 80,000
Income recognized = 18,000

Percentage of Completion Method Accounting

To show how the percentage of completion method is used in practice consider the following example.

Suppose a business has a long term construction project and has incurred costs to date of 300. The following mdct.ru entry would be made.

Costs incurred
Account Debit Credit
Construction in progress 300
Accounts payable 300
Total 300 300

The construction in progress account sometimes referred to as the construction in process account or abbreviated to CIP account, is a current asset balance sheet account and represents the cumulative costs plus income recognized to date on the project. The account is similar in nature to the work in process account used to accumulate inventory job costs.

If the estimated total costs of the project are 1,000, and the estimated total revenue from the project is 2,500, then the percentage of completion method formula can be used to calculate the revenue recognized to date as follows:

Percentage completion = Costs to date / Estimated total costs
Percentage completion = 300 / 1,000
Percentage completion = 30%
Revenue recognized = % of completion x Total estimated revenue
Revenue recognized = 30% x 2,500
Revenue recognized = 750
Income recognized = Revenue recognized - Expenses
Income recognized = 750 - 300
Income recognized = 450

The income recognized (450) is now included in the income statement by posting the revenue and expenses with the following journal:

Income recognized to date recorded
Account Debit Credit
Construction in progress 450
Expenses 300
Revenue 750
Total 750 750

The effect of this journal is to include an amount equal to the income recognized to date as a debit to the construction in progress account. The balance on the construction in progress account is now 750, representing costs of 300 plus income recognized to date of 450, which is also the amount of recognized revenue.

Next Accounting Period

In the next accounting period, the process is repeated. Suppose the total costs incurred are now 650, the percentage of completion method is again used to calculate the income recognized to date as follows:

Percentage completion = Costs to date / Estimated total costs
Percentage completion = 650 / 1,000
Percentage completion = 65%
Revenue recognized = % of completion x Total estimated revenue
Revenue recognized = 65% x 2,500
Revenue recognized = 1,625
Income recognized = Revenue recognized - Expenses
Income recognized = 1,625 - 650
Income recognized = 975

The percentage of completion method calculates the cumulative amounts at the end of each period. The adjustments needed for the period are found by taking the difference between the amounts calculated for the current period less the amounts calculated from the previous period.

Adjustment = Current period amount - Previous period amount
Cost adjustment = 650 - 300 = 350
Revenue adjustment = 1,625 - 750 = 875
Income adjustment = 975 - 450 = 525

Construction in Progress Journals

The bookkeeping journals to post these amounts to the construction in progress account are as follows:

Costs incurred
Account Debit Credit
Construction in progress 350
Accounts payable 350
Total 350 350
Income recognized to date recorded
Account Debit Credit
Construction in progress 525
Expenses 350
Revenue 875
Total 875 875

The effect of this journal is to include an amount equal to the income recognized for the period as a debit to the construction in progress account. The balance on the construction in process account is now the revenue recognized of 1,625 (300 + 450 + 350 + 525) which again represents the cumulative costs plus income recognized to date.

Percentage of Completion Method August 18th, 2017Team

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