How to categorize direct costs in construction?
In construction, direct costs are project-specific expenses (like labor, materials, and equipment) that can be directly traced to completing a job. They’re recorded under Cost of Goods Sold and are critical for accurate job costing and tax reporting.
What are direct costs in construction?
Direct costs are the tangible expenses that arise from performing construction work. They include all costs that can be specifically assigned to a project and would not exist without that project. These costs are charged directly to the job rather than spread across multiple projects or company operations.
How to categorize direct costs
- Record as Cost of Goods Sold (COGS) or Job Costs in your income statement.
- Track by project in a Job Costing System or Construction Accounting Software.
- Use subaccounts for key cost categories:
- Direct labor: Wages for on-site workers and foremen.
- Direct materials: Lumber, concrete, steel, fixtures, etc.
- Equipment costs: Depreciation, rentals, or fuel for machinery used on-site.
- Exclude overhead costs (insurance, office rent, admin salaries) — those are indirect costs.
- Match direct costs to the project timeline to recognize revenue and expenses accurately (percentage-of-completion or completed-contract method).
Examples of direct costs in construction
- Wages for carpenters, electricians, plumbers, and site supervisors.
- Building materials like wood, steel, drywall, and concrete.
- Construction equipment rental and fuel.
- Subcontractor payments for labor or specialized services.
- Permits and site-specific fees.
- Freight and delivery for project materials.
- Temporary site utilities directly related to the project.
Tax implications for construction direct costs
- Direct costs are deductible as part of the Cost of Goods Sold (COGS) when the project’s income is recognized.
- Construction companies using accrual accounting must apply the percentage-of-completion or completed-contract method for long-term projects to match costs and revenue.
- Direct labor and material costs are not deductible until the corresponding project revenue is recognized.
- Keep detailed job cost records, invoices, and time logs to substantiate deductions.
- Capital improvements (e.g., permanent property upgrades) must be capitalized rather than deducted as job costs.
