Accounting Standard – 7
Construction Contract
1.
Applicability
and Nature : This AS is applicable from 01-04-2002 onwards and Mandatory
for construction companies only.
2.
Objective:-The
main objective of this AS is to prescribe rule for recognition of revenue and
cost for a construction contract because a construction contract may take more
than one accounting year to be completed.
3.
Meaning
of Construction Contract:-As per the provision of AS-7 Construction
Contract is a contractual agreement where contractor constructs Asset as per
the requirement of customer. These construction contracts may be for
construction of Building, roads and etc.
4.
Types
of construction contracts:
(i)
Fixed
Price Contract:- A fixed price contract is that in which a fixed price
is agreed to be paid to the contractor.
(ii)
Cost
plus Contract:- The contract of construction for which contractor is
paid following to payments:
(a) Cost
Incurred for construction,
(b) A
Fixed % of profit on Cost.
Note- There
will be no loss under this type of contract to the contractor under this type
of contracts.
5.
Meaning
of cost escalation:- Cost Escalation is an agreement between contractor
and contractee whereby contractee agreed to pay an extra amount on % basis to
contractor for an increase in the cost of material and labour beyond a
specified limit.
6.
Accounting
for Fixed Price Contract:-
Revenue is recognized as per the provision
of
Para-22, Para-23, Para-31
Para-22
Following
steps are used for revenue recognition
Step-1 Calculate Completion Stage as follows:
= Actual Cost/total estimated
cost X100
Step-2 Contract Revenue
= Contact Price X % of Completion
Example-1
Actual Cost till Date Rs.2,00,000
Total Estimated Cost Rs.5,00,000
Contract Price Rs.6,00,000
Sol.
Step-1 % of Completion= 20/50 X 100 = 40%
Step-2 Contract Revenue = Contract
Price X % of completion
=
60,00,000 X 40 % = 24,00,000
Example-2
(Rs.
in Lacs)
|
|
Year 1
|
Year 2
|
Year 3
|
|
Contract Price
|
60
|
60
|
60
|
|
Actual Cost
|
10
|
25
|
45
|
|
Total Estimated Cost
|
50
|
50
|
|
Contract Revenue and Profit for first
year:
Completion Stage = 10/50 X 100 =
20%
Contract Revenue = 60 X 20% = 12
Lacs
Contract Profit = Revenue – Cost
= 12-10 = 2 Lacs
Contract Revenue and Profit for Second
year:
Completion Stage = 25/50 X 100 =
50%
Contract Revenue = 60 X (50%-
20%) = 18 Lacs
Contract Profit = Revenue – Cost
= 18-(25-10) = 3 Lacs
Contract Revenue and Profit for Second
year:
Contract Revenue = 60 – 18 - 12
= 30 Lacs
Contract Profit = Revenue – Cost
= 30-(45-25) = 10 Lacs
Para-23
In case there
is a difference in % of completion as per completion method and physical
construction of asset then contract Revenue should be computed by survey
method.
Under this
specified method contract revenue should be recognized on the basis of
certificate issued by surveyor.
Para-23
As per the
provision of AS-7, application of para-31 can be made only if total estimate is
not available. In this specified case, contract revenue will be equal to actual
cost incurred by contractor an there will be no profit or loss.
7.
Variation
in Contract Work:-A variation is an instruction by customer for a
change in the scope of work to be performed under the contract revenue.
Additional Assets:- The
Construction of additional Asset should be treated as a separate contract if:
(i)
The asset differs significantly in design,
technology
(ii)
If price of the asset is negotiated without
regard to the original contract price.
8.
Claim
:-The amount received by contractor in addition to the contract price
is called as claim. This may be collected from contractee because of the
following reason:
(i)
Customer caused delay,
(ii)
Error in specification of designs
(iii)
Disputed variation in the contract work.
9.
Inventive:-
The extra payment made by contractee to the contractor for achieving
specified standards like- completion of construction before the time specified.
10.
Contract revenue includes the following:
(i)
Initial contract price
(ii)
Variations in contract
(iii)
Claims
(iv)
Inventive payments.
Note- A
variation is included in the contract revenue when it is probable that the
customer will approve the variation and the amount of revenue can be measured
reliably.
11.
Combining
of contracts:
For the
purpose of accounting, contracts are combined (i) if the negotiation of the
contracts is made in a single package, (ii) the contracts are so closely
interrelated that they are, in effect , part of single project with an overall
profit margin and (iii) the contracts are performed concurrently or continuous
sequence.
12.
Segmenting
of contract.
For the
purpose of accounting segmenting of contract is done if (i) Each Contract is
supported by separate proposals, (ii) separate negotiation is made for each
assets and the contractor and the
contractee are in position to accept or reject any contract. (iii) the cost and
revenue of each assets can be identified.
13.
Contract Cost include the following:
(i)
Direct Cost:- Site Labour Cost, Site
supervision, cost of material, depreciation of FA, hire charge of FA, claims of
third party etc.
(ii)
Allocable Cost: The cost which is attributable
to contract activity in general and can be allocated to the contract. It
includes the following:
Insurance,
construction Overhead, Borrowing Costs etc.
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