Attributable to the uniqueness and the length of the long-term assignments, the percentage of completion method (PCM) accounts for the recognition of revenue and the associated expenses for the revenue to be applied to the long-term assignments and to be completed without waiting for the projects to be completed. It provides the most accurate and up to date accounting method whereby the financial accounting for the assignments demonstrates the performance of the company and the financial achievements for the accounting periods while the project is still ongoing.
This method is prominently applied to the construction, software development, engineering and manufacturing industries whereby long term assignments cut across different accounting periods.
How Does the Percentage of Completion Method Work?
Under the percentage of completion method, revenue is recognized based on the portion of the project completed within the reporting period. This is usually measured by comparing costs incurred to date with total estimated costs.
Formula
Percentage of Completion = Total Estimated Costs ÷ Costs Incurred to Date
That percentage is then applied to the total contract revenue to determine the amount of revenue that should be recognized for the period.
Example:
- Total contract revenue: $1,000,000
- Estimated total costs: $800,000
- Costs incurred to date: $400,000
400,000 ÷ 800,000 = 50%
In this case, 50% of the contract revenue ($500,000) and 50% of the estimated total costs ($400,000) are recognized in the current period.
When Should the Percentage of Completion Method Be Used?
The percentage of completion method is to be adopted when the results of a contract can be estimated reliably and both sides are likely to meet the terms of their contract. It is suited to long-term contracts where the terms such as price, scope, and time frame are also explicitly defined.
The method is normally used in cases of:
- Building and construction contracts.
- Long-term contracts in manufacturing.
- Contracts related to the development of software.
- Projects in defense, aerospace, and infrastructure.
When a project’s results cannot be estimated reliably, the completed contract method should be used, which recognizes revenue only upon the completion of the contract.
Key Steps in Applying the Percentage of Completion Method
- Estimate Total Contract Revenue: Identify the total amount expected from the contract, including change orders or adjustments.
- Estimate Total Costs: Include all direct and indirect costs such as materials, labor, and overhead.
- Measure Progress: Choose an appropriate progress measurement method:
- Cost-to-cost method: Compares costs incurred to total estimated costs.
- Efforts-expended method: Measures progress based on labor hours or effort used.
- Units-of-delivery method: Recognizes revenue as units are delivered or milestones achieved.
- Recognize Revenue and Expenses: Multiply the completion percentage by the total revenue and total estimated costs to calculate recognized revenue and expenses for the period.
- Update Estimates Regularly: Revise estimates periodically to reflect actual costs, changes in project scope, or market conditions.
Advantages of the Percentage of Completion Method
- Provides accurate and timely financial reporting by recognizing income and expenses as work progresses.
- Allows for better cash flow forecasting and project management.
- Complies with both Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS).
- Gives stakeholders a clearer understanding of project profitability and company performance.
Disadvantages of the Percentage of Completion Method
- Requires consistent and accurate tracking of project costs, which can be complex.
- Relies on estimates that, if inaccurate, can distort financial results.
- May not be suitable for projects with uncertain outcomes or unpredictable costs.
To ensure reliability, businesses using this method should maintain strict internal controls, accurate cost-tracking systems, and periodic project reviews.
Percentage of Completion vs. Completed Contract Method
| Aspect | Percentage of Completion Method | Completed Contract Method |
| Revenue Recognition | As the project progresses | When the project is completed |
| Best For | Long-term, predictable projects | Short-term or uncertain projects |
| Financial Accuracy | High; reflects ongoing results | Low; delays profit recognition |
| Compliance | Preferred under GAAP/IFRS | Acceptable when estimates are unreliable |
The percentage of completion method is generally preferred because it provides a consistent and transparent reflection of project performance and profitability.
Tax Treatment Under the Percentage of Completion Method
For tax purposes, the Internal Revenue Service (IRS) requires certain contractors to use the percentage of completion method under IRC Section 460.
Key IRS Guidelines
- Large contractors with average annual gross receipts exceeding $25 million over the past three years are required to use PCM for long-term contracts.
- Small contractors with receipts below this threshold may qualify to use the completed contract or cash basis method.
Because the tax implications of this method can be significant, businesses should seek professional guidance from a qualified CPA or tax advisor experienced in project-based accounting.
Common Mistakes When Using the Percentage of Completion Method
- Failing to update cost estimates regularly.
- Excluding change orders that alter contract revenue or total cost.
- Misclassifying or omitting indirect costs.
- Maintaining incomplete or inconsistent project documentation.
Accurate financial records, regular reviews, and the use of integrated accounting software can help prevent these issues and ensure compliance.
Need Help Applying the Percentage of Completion Method?
Applying the percentage of completion method correctly requires accurate estimates, consistent reporting, and compliance with both accounting and tax standards.
If your business manages long-term contracts and needs guidance with revenue recognition, tax reporting, or financial statement preparation, Dimov Tax & CPA Services can help.
Contact Dimov Tax today for professional accounting and advisory support tailored to contractors, engineers, and project-based businesses.
Frequently Asked Questions
Does GAAP allow percentage of completion method?
Yes—under U.S. GAAP (ASC 606) and IFRS, revenue may be recognized over time using percentage-of-completion when outcomes can be reliably estimated.
How to calculate percentage completion method?
Percent complete = costs incurred to date ÷ total estimated costs; recognized revenue = percent complete × total contract revenue (and recognized costs = percent complete × total estimated costs).
Does the IRS require a percentage of completion method?
Often—IRC §460 generally requires PCM for many long-term construction/production contracts, while contractors with ≤$25M average receipts may qualify for exceptions.
What is a POC in accounting?
“POC” means percentage-of-completion, a method that records revenue and costs as work progresses based on measured progress (e.g., cost-to-cost, efforts-expended, or units-of-delivery).