Contract costing is an extension of job costing method, whereby the job to be carried out is not a small job of printing cards, fabricating machines etc., but the job involved is a big job to construct building etc., under a contract.
In the history of costing, when contract costing was introduced as a method of costing, financial accounting already had a system of accounting for construction contracts. The same system was adopted under cost accounting as well. This is the reason why contract costing has more linkage with financial accounting concepts.
The parties involved under a construction contract:
1. Contractor, who undertakes to construct any building etc.
2. Contractee, ...view middle of the document...
ii. Work Uncertified
Meaning of work certified:
This represents the portion of work completed from the satisfaction of the contractee as certified by engineers or architects appointed by the contractee.
Example: If the contract price is ` 1,60,000 and work certified by contractee is 62.5%, then the value of work certified shall be:
1,60,000 X 62.5% = 1,00,000
Meaning of work Uncertified:
This represents the portion of work done but not certified. Work uncertified should not be valued on the basis of contract price but should be valued on the basis of cost.
1. Mode of providing depreciation: As a convention and practice, it is better to debit the contract a/c by the entire value of machinery, plant etc., as on the date, such plant and machinery are sent to contract site and at the year end or on completion of the contract, the value of plant and machinery as on that date is taken to the credit of contract a/c resulting into depreciation charge on the contract.
2. Any kind of profit or loss that may arise on sale of any materials or part of plant etc., should be separately accounted for and transferred to General P/L A/c.
3. On completed contracts entire resulting profits should be recognized.
4. Profit recognition on incomplete contract: The difference between the cost of work done up to the date and the value of WIP is considered as notional profit. The profit recognition on incomplete contracts shall be based on the following:
If work certified is less than 25%, then no profit should be recognized.
When work certified is 25% or more but less than 50%, then the profit to be recognized is:
|1 |x Notional Profit x |Cash Received |
|3 | |Work Certified |
If work certified is 50% or more then the profit to be recognized is:
|2 |x Notional Profit x |Cash Received |
|3 | |Work Certified |
When the work certified is approximately 90% or more or the work is about to complete so that the estimation on cost to be incurred can be made reliably. In such cases the profit to be recognized shall be as per the following procedure:
Step 1: Ascertain the cost of work done up to the date.
Step 2: Make an estimate of cost to be incurred to complete the remaining work.
Step 3: Calculate estimated total cost by taking aggregate of cost in above two steps.
Step 4: Ascertain total estimated profit by taking difference between the contract price and the total estimated cost under Step 3.
Step 5: Use any of the five approaches to ascertain the amount of profit to be recognized.
|(a) Estimated profit x |Work Certified |
| |Contract Price |
|(b) Estimated profit x |Work Certified |x ...