Like any other industry, construction sees its share of trends, shifts in the landscape, and changes for better or worse. But one thing never goes “out of season,” and that is income tax planning. In an industry where cash drives decision-making, one of the most effective tools is deferring a contractor’s income tax liability through a proactive and accepted income deferral strategy. For contractors operating on tight margins and long project cycles, this tax planning strategy protects valuable capital that keeps the business moving.
Much like construction projects themselves, no two contractors are exactly the same, and neither should their tax deferral strategies. Income tax planning is not a one-size-fits-all process. To implement the right income tax deferral methodology, a construction financial management professional must have an intimate understanding of the types of construction projects and the contract mix the company operates within.
A New Option for Residential Contractors
Consider a residential contractor whose overall method may be percentage of completion. Under the One Big Beautiful Bill Act, that contractor now has the option to elect to treat these new projects under an exempt method, such as cash or completed contract. This effectively decouples financial and tax reporting and opens the door to meaningful deferral opportunities.
Two exempt methods for residential contractors to consider:
- Cash basis: Taxable income and deductions are claimed only when money is collected from the customer and when job costs are actually paid.
- Completed contract: Revenues earned and costs incurred are recognized when the project is substantially complete, at around 95% or higher.
Choosing an Income Tax Method That Fits the Business
While both methods may look appealing on the surface, savvy tax planning still comes into play. Each approach presents tradeoffs that can affect cash flow, tax liability, and the overall success of the plan:
- The completed contract method can create the illusion of excess cash flow, since the associated tax dollars have yet to be funded. Those dollars should be set aside each year as if the tax were already due.
- A cash basis taxpayer has limited control over electronic requisition funding, which can disrupt an otherwise strong tax plan if an unexpected cash receipt is received at year-end. This can be mitigated by gaining regular insight into the customers’ paying habits.
These methods can be powerful planning tools, but choosing between them requires careful evaluation of the contractor’s operations, timing, and cash flow realities.
Don’t Overlook the 10% Method
Another strong deferral strategy for percentage of completion taxpayers is the 10% method. This one-time election allows the contractor to defer the gross profit on any project that is less than 10% complete at year-end. While that may sound modest on its own, when paired with other deferral techniques, the dollars start to add up over time, and that capital can then be deployed into the projects or other initiatives.
A Year-Round Approach to Income Tax Planning
Effective income tax planning does not start on January 1, nor does it end when tax returns are filed. For contractors, it should be an ongoing process shaped by project timing, contract mix, cash flow demands, and changing business goals. The most effective plans are revisited regularly and adjusted as needed to support both near-term needs and long-term growth.
Build a Long-Term Tax Strategy for Your Construction Business
For more than 45 years, Grassi’s Construction advisors have helped contractors turn proactive tax planning into a year-round advantage through strategies tailored to their operations, cash flow needs, and long-term business goals. To build a strategy aligned with your business and keep more capital available to support your operations and growth, connect with a Grassi Construction advisor today.
