Construction businesses have a variety of methods to price and bill their work. Progress billing, for example, incentivizes contractors to hit milestones on time and meet specifications before receiving payment. Similarly, cost-plus pricing provides clients with a contract price that covers direct expenses and an agreed-upon markup percentage to cover profit. This type of billing requires careful record-keeping and thorough documentation to verify expenses.
Construction companies that use overbilling can run into trouble with a scenario known as job borrowing. Job borrowing occurs when the estimated cash needed to complete a contract exceeds the contract’s balance that can be billed before completion. This scenario can result from slow billing practices, unapproved change orders in the original contract, and inaccurate estimates about the costs needed to finish a project. A good construction accounting team should track project costs, progress, and billings daily to avoid this problem. They should also be able to quickly generate invoices and settlements for load-based or time-based jobs using software to accelerate the money transfer process. Inflated estimates are a common problem that can be avoided by taking the time to consistently and accurately track project costs, work breakdowns, and actual productivity levels on each job. More precise projections can be made using this information that accounts for job-level profit.
Often, unit price billing methods leave contractors vulnerable to overbilling. For example, when purchasing materials by truckload rather than in bulk, it’s challenging to account for changes in volume accurately. As a result, project estimates are likely to be off by a significant amount. Overbilling can also be the culprit of “job borrowing,” where costs accrued for a specific period exceed amounts billed to clients. It can lead to a negative cash flow impact, resulting in future issues such as slow payment cycles or bankruptcy.
Construction businesses should focus on value beyond price. It highlights the importance of speed, business knowledge, expertise, and excellence. Customers prioritize these non-monetary values much more than a low price tag. They’re more interested in getting their work done right first. It can be achieved by leveraging cloud-based construction accounting software that automates processes like tracking vehicles through GPS or logging worker hours digitally so all parties are on the same page.
Several factors can slow payments, including escrow accounts, loan documents, title registration, and liens. These additional steps can add weeks to a project and strain the construction business’s working capital. For contractors, waiting for payment erodes the value of the work they’ve performed. In a typical commercial construction project, there are dozens of subcontractors on the job site, all of whom operate their small businesses. Each must pay their workers and suppliers before they’re paid, so they must balance cash flow with operating expenses. Aside from a lack of cash flow, delayed payments can also adversely affect the reputation of the company in question. Those with a poor reputation can be less able to secure jobs or attract investors. Moreover, the lag in payments can also lead to litigation between parties.
The fraud that can result from overbilling can be substantial. Construction companies can lose money due to false payment applications, billing schemes, expense reimbursements, cash, check tampering, and falsifying the project schedule of values. Using progress billing for your construction projects helps reduce the risk of shoddy work or contractors leaving the job incomplete, as the contractor only receives payment after the customer approves their work. In addition, this invoicing method encourages fast work because the contractor knows they’ll get paid if they complete the project quickly. The need for non-collusion affidavits and comparison of modification orders with the original contract schedule of values are two effective ways to reduce the risks associated with forward payment. These safeguards should be included in every construction contract you negotiate to protect your firm against these fraudulent activities. You can also minimize risk by insisting on short, fair payment terms like 30 days.