Oops! Something went wrong while submitting the form.
Sign in
Get a Demo
Talk with an accountant.
Get a clear, practical explanation of the percentage of completion method ASC 606, including key steps, compliance tips, and common challenges to avoid.
Getting revenue recognition wrong can lead to serious compliance issues and misstated financials. Under the current standards, there are several common tripwires that can catch even experienced finance teams off guard. Many businesses believe they are applying the rules correctly, only to find out during an audit that their assumptions were flawed. The percentage of completion method ASC 606 is a primary area where these misunderstandings occur, often stemming from outdated practices or a misinterpretation of what "transfer of control" truly means. This guide will clear up the most common misconceptions, helping you build a defensible accounting process that stands up to scrutiny and gives you confidence in your numbers.
If your business takes on long-term projects—like in construction, software development, or large-scale manufacturing—you know that waiting until the very end to recognize revenue doesn't paint an accurate picture of your financial health. The percentage of completion method (PCM) is an accounting approach that solves this by allowing you to recognize revenue and profits in proportion to the work you’ve completed during each accounting period.
Instead of booking all your income when a project that spans multiple years is finally finished, you record it incrementally as you hit milestones. This method provides a more accurate, real-time view of your company's profitability on long-term contracts. It matches the revenue you earn with the actual work being done, which is a core principle of modern accounting standards. To use it correctly, however, you need a reliable way to measure your progress and estimate your total project costs, which is where the rules of ASC 606 come into play.
The Financial Accounting Standards Board (FASB) introduced ASC 606, a standard that changed how companies recognize revenue from contracts with customers. The main idea is that you should recognize revenue when you transfer a promised good or service to a customer. The key concept here is the "transfer of control." This means you record revenue as the customer gains control over the asset or service you're providing, not just when you've finished your part. This principle is the foundation for using the percentage of completion method under the new guidelines, shifting the focus from risks and rewards to the customer's control over the asset.
To apply the percentage of completion method correctly, you first need a solid estimate of the total cost and revenue for the entire project. This becomes your baseline. From there, you have to consistently track the costs you incur as the project moves forward. Most businesses use an "input method" to measure progress, which means you look at the resources you've put into the project, like labor hours or materials used. You can calculate the percentage of completion by comparing the costs incurred to date with the total estimated costs. For example, if you've spent $200,000 on a project with a total estimated cost of $1 million, you are 20% complete and can recognize 20% of the total expected revenue. This requires diligent tracking, which is why many companies rely on automated revenue recognition systems to maintain accuracy.
When ASC 606 arrived, it didn’t get rid of the percentage of completion method, but it did give it a major makeover. The new standard shifted the entire foundation of revenue recognition for long-term contracts, moving the focus away from the risks and rewards of a project. Now, it’s all about the "transfer of control" to the customer. This change requires a different way of thinking about your contracts, from how you break them down into individual promises to how you handle modifications along the way. Understanding these key changes is the first step to ensuring your accounting practices are compliant and accurately reflect your company's performance.
The biggest change ASC 606 brought to the table is the concept of "transfer of control." Instead of recognizing revenue based on your own efforts or incurred costs, the new standard says you should record revenue when the customer gains control of the work or asset. Think of it this way: revenue is earned from the customer's perspective. As you build, create, or deliver, the customer is receiving value and control over that asset incrementally. This is a significant departure from the old "risks and rewards" model and is the central principle of the ASC 606 five-step model for revenue recognition.
In the past, it was common to treat a complex, long-term contract as a single project. ASC 606 changes that by requiring you to break down contracts into distinct "performance obligations." Essentially, you have to identify each separate promise you've made to deliver a good or service to your customer. Under ASC 606, the percentage-of-completion method is applied to these specific performance obligations rather than the entire contract price. For example, a construction contract might have separate obligations for site preparation, building construction, and landscaping. You would then measure and recognize revenue for each of these parts individually as you complete them.
Change orders and other contract modifications are a normal part of any long-term project. ASC 606 provides a clear framework for how to account for them. You can't just adjust the total contract value and carry on. Instead, you need to determine if the modification adds a new, distinct performance obligation or simply changes an existing one. This decision dictates how the revenue from that change is recognized. ASC 606 requires careful consideration and documentation for any modification. Having a system that can handle these complexities and integrate with your existing tools is crucial for maintaining accurate records and staying compliant.
One of the biggest shifts under ASC 606 is the move away from focusing on risks and rewards to focusing on the "transfer of control." This concept is the new benchmark for deciding when to recognize revenue. In simple terms, you can only record revenue once your customer has gained control of the goods or services you’ve promised them. For long-term projects, this transfer doesn't always happen in a single moment. Instead, it often occurs gradually over the life of the contract.
Understanding precisely when control passes from you to your customer is the key to applying the percentage of completion method correctly. It requires you to look at the contract from your customer’s perspective. Are they able to direct the use of the asset? Are they receiving the benefits as the work is being done? Answering these questions will help you pinpoint the transfer of control and ensure your revenue recognition practices are compliant. This shift requires a more detailed analysis of your contracts, but it ultimately leads to a more accurate reflection of your company's performance.
So, how do you know if control is transferring over time? ASC 606 provides a clear framework. Revenue is recognized over the duration of a contract if at least one of the following criteria is met:
If your project meets any of these conditions, you should recognize revenue over time using the percentage of completion method.
"Control" can feel like an abstract term, but ASC 606 gives us specific indicators to look for. A customer has control when they have the ability to direct the use of the asset and obtain substantially all of its remaining benefits. They can also prevent others from using it.
Look for these practical signs that your customer has control:
Not all indicators need to be present, but they provide strong evidence to help you determine the timing of the control transfer.
The transfer of control directly dictates your revenue recognition schedule. If you determine that control transfers over time, you must measure your progress toward completing the performance obligation at the end of each reporting period. This progress measurement is what allows you to recognize a proportional amount of revenue. For example, if you're 40% complete with a project at the end of a quarter, you can recognize 40% of the total contract revenue.
It’s also important to be precise about what you include in your progress calculations. When using an input method (like costs incurred), you should not count costs that don't contribute to progress. This includes expenses from significant inefficiencies, rework, or wasted materials. Excluding these ensures your revenue recognition accurately reflects the value you've delivered to the customer. Using a system with robust data integrations can help you track these costs accurately.
Once you've determined that revenue should be recognized over time, the next step is to figure out how to measure your progress toward completing the performance obligation. ASC 606 gives you two main approaches: input methods and output methods. The goal is to pick the one that most accurately reflects how you transfer control of the goods or services to your customer. Choosing the right method and applying it consistently is fundamental to staying compliant and ensuring your financial statements are accurate.
It’s also important to remember that you must use a single method of measuring progress for each performance obligation. If a contract has multiple distinct obligations, you might use different methods for each one, but you can't switch methods halfway through completing a single obligation. This consistency is key for reliable financial reporting, which is where having the right data consultation can make a world of difference.
Input methods measure progress based on the efforts or resources you've put into the project so far. Think of it as tracking your work. This is a common approach in industries like construction or complex professional services where it’s easier to measure the work done than the final output at any given moment.
Examples of input measures include costs incurred, labor hours worked, or machine hours used. For instance, if you estimate a project will take 1,000 labor hours and you’ve completed 250, you are 25% complete. This method is straightforward, but it requires meticulous tracking. You need a reliable system to gather this data accurately to ensure your revenue recognition is on point.
Output methods, on the other hand, measure progress based on the value transferred to the customer. Instead of looking at your effort, you’re looking at the results. This approach directly measures the goods or services delivered and is often considered the most faithful representation of progress because it’s tied to what the customer has actually received.
Common examples include milestones reached, units produced, or appraisals of results. For example, if you’re building 10 custom machines for a client and you’ve delivered three, you would recognize 30% of the revenue. This method works best when the outputs are distinct and easily measurable. Having seamless integrations between your project management and accounting software is crucial for tracking these deliverables effectively.
So, which method is better? Neither. The best choice depends entirely on the specifics of the contract and which approach most accurately depicts the transfer of value to the customer. The Financial Accounting Standards Board (FASB) doesn't prefer one over the other; it just requires you to choose the most appropriate one for the performance obligation.
Your decision should be based on what you can reliably measure and what best reflects the substance of the agreement. For some projects, tracking labor hours (input) is the most logical way to show progress. For others, counting completed units (output) makes more sense. The key is to evaluate each performance obligation carefully and apply your chosen method consistently throughout the contract term.
No matter which method you choose, it’s critical to only include measures that truly represent progress. ASC 606 is very clear that costs resulting from significant inefficiencies should be excluded from your calculations. This means you can’t count expenses related to unexpected amounts of wasted materials, labor, or other resources that didn't contribute to transferring control to the customer.
For example, if you’re using a cost-based input method, you would expense the cost of rework or wasted materials as it’s incurred rather than including it in your progress measurement. Including these costs would incorrectly inflate your percentage of completion and lead to overstating revenue. Accurate tracking is essential to separate productive costs from waste.
Think of a performance obligation as a specific promise you make to your customer within a contract. Under ASC 606, it’s your duty to transfer a distinct good or service. This concept is central to the percentage of completion method because it forces you to break down a large project into the individual promises you’re fulfilling. Instead of looking at a contract as one giant deliverable, ASC 606 requires you to identify each unique component you’ve agreed to provide. This shift in perspective is fundamental to recognizing revenue accurately as you complete work, ensuring your financials reflect the value you’ve delivered at each stage. Getting this right isn't just about compliance; it's the foundation for transparent accounting that truly represents your company's performance over the life of a contract.
So, what makes a promise "distinct"? A good or service is considered distinct if your customer can benefit from it on its own or with other resources they already have. For example, if you’re building a house, the plumbing system is a distinct service because the customer benefits from having running water, regardless of whether the painting is finished. The second part of the test is whether the promise is "separately identifiable" from other promises in the contract. This means it isn't highly dependent on or integrated with other items. Using the same house example, the architectural design services are distinct from the physical construction, as they are not intrinsically linked and could be sourced separately.
If your contract includes multiple distinct promises, you’ll need to segment it. This means treating each distinct good or service as a separate performance obligation. For instance, a software contract might include a license, installation services, and ongoing technical support. Each of these can be used independently and are sold separately, so they should be treated as three different performance obligations. Segmenting a contract is crucial because it directly affects the timing of your revenue. You can’t just recognize all the revenue at once; you have to allocate a portion of the total contract price to each obligation and recognize it as that specific promise is fulfilled.
Once you’ve identified and segmented your performance obligations, you can determine when to recognize the revenue for each one. Revenue is recognized when an obligation is satisfied by transferring control of the good or service to the customer. This can happen at a single point in time (like delivering a finished product) or over time (as with a long-term construction project). For obligations satisfied over time, you’ll use the percentage of completion method to recognize revenue based on your progress. This is why getting the obligations right upfront is so important—it creates the roadmap for how and when you can book your revenue. This is where automated revenue recognition tools become invaluable for tracking progress accurately.
While the five-step model of ASC 606 provides a universal framework for revenue recognition, applying it to long-term contracts isn’t always a walk in the park. Many finance teams find themselves facing similar hurdles when implementing the percentage of completion method. These challenges often stem from the inherent complexities of long-term projects, where estimates can change, contracts get modified, and data lives in different systems.
Getting ahead of these issues means knowing what to look for. From nailing down initial cost estimates to ensuring your software systems can talk to each other, each step presents a unique set of potential problems. Understanding these common roadblocks is the first step toward building a compliance process that is both accurate and efficient. Let’s break down some of the most frequent challenges you might encounter.
The percentage of completion method relies heavily on your ability to make solid predictions. To apply it correctly, you need to accurately estimate the total cost of a project right from the start. This is often easier said than done. Initial budgets can be upended by unforeseen material costs, labor shortages, or unexpected project complications.
Keeping a close eye on all expenses as the project progresses is essential for keeping your revenue recognition on track. An inaccurate initial estimate can throw off your calculations for the entire life of the contract, leading to misstated financials. This makes a robust cost-tracking system and a process for regularly reviewing and updating your estimates an absolute must.
ASC 606 places a heavy emphasis on documentation. It’s not enough to just get the numbers right; you have to be able to show how you got them. The standard requires detailed documentation related to the transfer of control, justifying whether it happens over time or at a single point. This means your team needs to meticulously review every contract and document key judgments.
This administrative work doesn’t stop once the contract is signed. Any modifications, change orders, or amendments must also be documented and their impact on revenue recognition assessed. Without a disciplined approach to documentation, you risk being unprepared for an audit and may struggle to defend your accounting treatment.
Many long-term contracts include variable considerations—things like performance bonuses, incentives, penalties, or rebates. These elements can make it tricky to determine the total transaction price at the outset. ASC 606 requires you to estimate the amount of variable consideration you expect to earn and include it in the transaction price, but only if it’s highly probable that a significant reversal won’t occur later.
Many accountants find it challenging to apply these rules, especially when it comes to defining distinct performance obligations and measuring progress toward them. This requires careful judgment and a consistent methodology, as misinterpreting these complex terms can lead to significant errors in revenue reporting.
For many businesses, critical financial data is scattered across multiple, disconnected systems. You might have contract details in a CRM, project costs in an ERP, and billing information in another platform. When these systems don’t communicate, you’re left with manual data entry, which is not only time-consuming but also a major source of errors.
This lack of connectivity makes it incredibly difficult to get a real-time, accurate view of project progress and financial performance. To comply with ASC 606 effectively, you need a single source of truth. Automating your revenue recognition processes through seamless integrations reduces manual effort, minimizes mistakes, and gives you the reliable data you need to make sound financial decisions.
Getting to grips with ASC 606 can feel like learning a new language. A few common misunderstandings often create roadblocks for businesses, leading to compliance headaches and inaccurate financial reporting. Let's clear up some of the most frequent mix-ups so you can apply the percentage of completion method with confidence.
One of the biggest shifts with ASC 606 is the focus on "performance obligations." It’s easy to keep thinking about the total contract, but the new standard requires you to break it down. A performance obligation is a specific promise to deliver a distinct good or service to a customer. The key concept is the transfer of control; you recognize revenue as the customer gains control of that specific item or service. This is a fundamental change from older methods that focused more on when work was completed or costs were incurred.
Measuring progress isn't a one-and-done task. A common mistake is to calculate the percentage of completion once and then forget about it. Under ASC 606, you must review and update your progress measurements at the end of each reporting period to reflect the reality of the project. If you find that you can't reliably measure your progress, you can only recognize revenue up to the amount of costs you've already spent. This prevents you from overstating revenue on projects with uncertain outcomes.
Change orders are a normal part of long-term projects, but they can complicate revenue recognition under ASC 606. It's a mistake to simply add the value of a change order to the total contract price. Instead, you need to analyze each modification carefully. Does it add a new, distinct performance obligation? Or does it alter an existing one? How you answer that question determines the timing of your revenue recognition. Applying the percentage-of-completion method now happens at the performance obligation level, making this analysis critical for accurate accounting.
It’s tempting to fall back on old habits, especially when the new rules seem complex. Some businesses notice that for certain long-term contracts, the cost-based percentage of completion method produces results that look similar to what ASC 606 requires. This can create a false sense of security. While the outcome might sometimes align, the underlying principles are completely different. ASC 606 is built on the concept of control, not just costs. Relying on outdated accounting methods without adopting the new framework is a significant compliance risk.
Getting ASC 606 right can feel like a major hurdle, but it’s entirely possible with a clear strategy. The key is to move from simply reacting to compliance requirements to proactively building systems that support them. Think of it as creating a strong foundation for your financial reporting—one that not only satisfies auditors but also gives you clearer insights into your business performance. By focusing on a few core areas, you can turn these challenges into opportunities to refine your operations.
The most effective approach involves four key actions: establishing a solid cost tracking system, creating a standardized process for measuring progress, regularly updating your estimates, and strengthening your internal controls. Each of these steps helps remove ambiguity and reduce the risk of error. Instead of treating revenue recognition as a complex puzzle you solve at the end of each period, you can build it into your daily workflows. This makes the process smoother, more accurate, and far less stressful. With the right systems in place, you can ensure your team handles everything from contract modifications to variable considerations with confidence. Many businesses find that using software with robust integrations is essential for connecting data and automating these processes.
The percentage of completion method lives and dies by the quality of your cost data. To recognize revenue accurately, you first need a precise understanding of your total estimated project costs and a reliable way to track actual costs as they occur. According to guidance from Wegner CPAs, you must be able to accurately estimate total costs from the start and diligently track all expenses as the project progresses. This means having a system that captures every dollar spent on labor, materials, and overhead for each specific contract. Without this detailed tracking, your progress calculations will be based on guesswork, leading to inaccurate financial statements and potential compliance issues down the road.
Consistency is your best friend when it comes to ASC 606. For every long-term contract, you need to choose a single method to measure progress and apply it consistently to all similar contracts. You can’t use a cost-to-cost method for one project and then switch to an hours-based method for a nearly identical one. This principle ensures that your financial reporting is reliable and comparable over time. As Deloitte points out, this standardization is a core requirement for recognizing revenue over time. Documenting your chosen methodology and the reasoning behind it provides a clear audit trail and helps your team apply the rules correctly every single time.
Projects rarely go exactly as planned. Material costs can change, labor estimates can be off, and unexpected issues can arise. ASC 606 acknowledges this reality by requiring you to update your progress measurements whenever significant changes occur. This means you can’t just "set it and forget it" at the beginning of a contract. Instead, you should have a formal process for reviewing and revising your total estimated costs at each reporting date. Any adjustments you make will affect your revenue recognition for the current and future periods. This proactive approach ensures your financials reflect the most current information, giving you a more accurate picture of your profitability. Automating this process can make a huge difference, which you can see in a demo of HubiFi.
Strong internal controls are the guardrails that keep your revenue recognition process on track. They turn best practices into required procedures, reducing the risk of human error and ensuring consistency across the board. This can include implementing checklists for contract reviews, setting up approval workflows for cost estimates, and using software with predefined rules to automate calculations. By building these controls into your systems, you create a reliable and auditable process that doesn’t depend on one person’s memory or judgment. This not only helps you stay compliant with ASC 606 but also builds a more resilient financial operation that can scale with your business.
Staying compliant with ASC 606 doesn't have to be a constant struggle. While the standard introduces complexities, especially for long-term contracts, you don't have to figure it all out on your own. The right combination of software, expert advice, and internal training can make a world of difference. By leaning on the right resources, you can build a solid, repeatable process for revenue recognition that stands up to scrutiny and gives you clear financial insights. Let's look at some of the key tools and resources that can help you master the percentage of completion method and stay on top of your compliance game.
Think of this software as your dedicated compliance engine. Automated revenue recognition platforms are designed specifically to handle the five-step model of ASC 606. They connect to your sales and financial data to automatically identify performance obligations, allocate transaction prices, and recognize revenue as control is transferred. This is a game-changer for high-volume businesses, as it removes manual spreadsheet work and reduces the risk of human error. Instead of spending weeks closing the books, you get real-time visibility into your revenue streams. Seeing how these tools can streamline your revenue processes is often the first step toward a more efficient and accurate financial close.
Many modern accounting platforms and ERPs come with built-in modules to help with ASC 606. These are especially useful if your business operates in an industry with unique contract structures, like SaaS or construction. For example, a platform might be designed to handle multi-year SaaS contracts by automatically allocating revenue and monitoring performance obligations over the life of the subscription. While these systems are powerful, they often work best when connected to a specialized data solution. Ensuring your core accounting platform can integrate seamlessly with other tools is key to creating a single source of truth for your financial data and avoiding information silos.
Sometimes, you need more than just software—you need a guide. ASC 606 is a principles-based standard, which means it requires significant judgment. Expert consultants can help you interpret the rules as they apply to your specific business model and contracts. They can assist in setting up your systems, defining your revenue recognition policies, and training your team. This is particularly valuable when you're first implementing the standard or facing a complex scenario like a major contract modification. Having an expert on your side provides peace of mind and ensures you’re building a compliant foundation. You can find plenty of helpful insights on our blog to get you started.
Your team is your first line of defense for compliance. Since ASC 606 requires significant judgment, it’s crucial that your finance and accounting professionals are well-versed in its principles. Investing in ongoing training helps them craft and apply revenue recognition policies that align with the standard. Look for webinars, workshops, and certification programs from reputable accounting organizations. This not only keeps their skills sharp but also empowers them to make confident decisions when faced with new or unusual contract terms. A well-trained team is better equipped to manage the complexities of long-term projects and maintain accurate financial reporting.
What's the biggest change ASC 606 made to the percentage of completion method? The most significant change is the shift in focus from your company's efforts to the customer's perspective. Before, revenue was often recognized based on the costs you incurred or the work you performed. Now, under ASC 606, it’s all about when your customer gains control of the asset or service. This means you have to prove that value is being transferred to the customer over time, not just that you're busy working on the project.
Do I really need to break down every contract into separate parts? Not necessarily every contract, but you do need to analyze each one for distinct "performance obligations." Think of these as the individual promises you've made. If you're delivering a software license, providing installation, and offering ongoing support, those are likely three separate promises. You would then apply the percentage of completion method to each of those obligations individually as you fulfill them, rather than treating the entire contract as one big project.
What should I do if my total project cost estimate changes midway through the contract? This is a common scenario, and ASC 606 has a process for it. When your cost estimates change, you need to update your calculations for the percentage of completion. This adjustment is handled as a "cumulative catch-up," meaning you'll adjust the revenue recognized in the current period to reflect the new, more accurate estimate for the entire project. You don't go back and change prior financial statements; you simply correct your course in the current reporting period.
How do I choose between an input and an output method to measure progress? The right choice depends entirely on which method most accurately shows how you're transferring value to your customer for that specific project. An input method, like tracking costs or labor hours, works well when your effort directly corresponds to the value the customer receives. An output method, like hitting milestones or delivering units, is better when the results are clear and measurable. The standard doesn't prefer one over the other; it just requires you to pick the most faithful representation and stick with it.
Can I manage this with spreadsheets, or do I need special software? While you might be able to get by with spreadsheets for a handful of very simple contracts, it becomes risky and incredibly time-consuming as your business grows. Manual tracking invites human error, makes it difficult to handle contract modifications, and provides no real-time insight. Automated revenue recognition software is built to handle these complexities, ensuring your calculations are accurate, your documentation is audit-ready, and your team isn't buried in manual data entry.
Former Root, EVP of Finance/Data at multiple FinTech startups
Jason Kyle Berwanger: An accomplished two-time entrepreneur, polyglot in finance, data & tech with 15 years of expertise. Builder, practitioner, leader—pioneering multiple ERP implementations and data solutions. Catalyst behind a 6% gross margin improvement with a sub-90-day IPO at Root insurance, powered by his vision & platform. Having held virtually every role from accountant to finance systems to finance exec, he brings a rare and noteworthy perspective in rethinking the finance tooling landscape.
Meet with an expert in revenue recognition and order-to-cash accounting and automate revenue close.
*Or watch 2 minute demo here.
Power your high-volume business's revenue compliance and reporting needs with one platform.
