If you run a construction company, your accounts are harder to get right than almost any other trade. You bill in stages, you carry half-finished jobs across your year-end, and your customers hold back cash you've genuinely earned. Get the treatment wrong and you can either overstate profit and pay tax you didn't owe, or understate it and get a nasty surprise later.
Three things drive the difficulty: work in progress (WIP), retentions, and long-term contracts that straddle your accounting date. On top of that, the rules for recognising contract revenue under FRS 102 change for accounting periods beginning on or after 1 January 2026, so this is a good moment to get your head around it.
This guide explains how each one works, walks through an illustrative worked example, and shows where the Construction Industry Scheme (CIS) and corporation tax fit in. It's written for owners of limited construction companies who want to understand what their accounts are actually telling them.
<h2 id="why-different">Why are construction company accounts different?</h2>
Most businesses sell something, raise an invoice, and recognise the sale. Construction rarely works like that. A single contract can run for months or years, with payment applications, certificates, variations and a chunk of cash held back at the end.
That creates a timing problem. Your accounting period might end halfway through a big job. So your accounts have to answer a hard question: how much of that contract have you actually earned by your year-end, and how much profit (or loss) should you report on it?
Getting this right matters because your reported profit drives your corporation tax bill. The main rate is 25% on profits over £250,000 and the small profits rate is 19% on profits up to £50,000 for the financial year starting 1 April 2025 (FY2025), with marginal relief in between (see the corporation tax section). Overstate profit on an unfinished job and you pay tax early on money you may never collect.
<h2 id="what-is-wip">What is work in progress in construction accounts?</h2>
Work in progress is the value of work you've done but not yet billed, or not yet recognised as revenue, at your accounting date. Think of a job that's 60% built when your year-end falls. You've poured real labour, plant and materials into it, but the project isn't finished and final invoices haven't gone out.
WIP makes sure your accounts match costs to the income they relate to, rather than just recording cash in and out. Without it, a company that spent heavily in March on a job that bills in May would look like it made a loss it didn't really make.
In practice, WIP on construction jobs usually splits into two ideas:
- Costs incurred to date on uncompleted work (labour, subcontractors, materials, site costs).
- The stage of completion of the contract, which drives how much revenue and profit you recognise on long-term jobs.
For short jobs that start and finish inside one period, this rarely bites. The complexity is in contracts that cross your year-end, which is the next section.
<h2 id="long-term-contracts">How are long-term contracts recognised in the accounts?</h2>
A long-term contract is one that spans more than one accounting period, or where it's appropriate to recognise profit gradually as the work is done rather than all at the end. Big construction and civil engineering jobs are the classic case.
The principle most UK construction companies have used under FRS 102 is the stage of completion method (sometimes called percentage of completion). The idea is simple, even if the maths isn't:
- You estimate the total revenue and total cost of the contract.
- You work out how far through the contract you are at your year-end.
- You recognise that proportion of the revenue and the related profit now.
You can measure the stage of completion in different ways. Common approaches include the proportion of contract costs incurred to date against total estimated costs, the value of work physically completed, or a surveyor's certificate of the work done. Whatever method you choose, you should apply it consistently to similar contracts.
If you genuinely can't estimate the outcome of a contract reliably, you don't recognise profit on it. You only recognise revenue to the extent of costs you expect to recover, and you recognise a loss immediately if the whole contract is heading for one. That prudence point is important: an expected loss is taken in full as soon as you see it coming, not spread out.
<h2 id="frs-102-changes">What's changing under FRS 102 from January 2026?</h2>
The Financial Reporting Council has amended FRS 102, and the new revenue rules apply for accounting periods beginning on or after 1 January 2026. This is a real, enacted change you need to plan for, not a forward-dated rumour.
The headline is a move to a five-step revenue recognition model built around the contract with the customer. In broad terms you:
- Identify the contract with the customer.
- Identify the separate performance obligations in it.
- Determine the transaction price (including variations and variable amounts).
- Allocate that price to the performance obligations.
- Recognise revenue as each obligation is satisfied.
For most construction work, revenue will still be recognised over time as the job progresses, so the headline output may look familiar. But there are two practical shifts worth flagging now:
- Revenue and costs are no longer locked together. Under the new model, revenue is recognised by reference to progress, while contract costs are accounted for under their own rules rather than simply mirrored against revenue at the same stage. The effect is that the timing of profit can move around more across a project's life than under the old method.
- Variations, claims and liquidated damages need assessing as variable consideration when you set the transaction price, rather than being bolted on later.
On first adoption there's typically a one-off transition adjustment, and you may need to restate the prior year. If you have contracts running across the 1 January 2026 boundary, talk to your accountant before your year-end, not after it. The choices you make affect both your reported profit and your tax.
A quick note on Scotland and devolution: the FRS 102 accounting rules here apply UK-wide. The tax rates in this guide apply to England, Wales and Northern Ireland; Scotland sets its own income tax rates, though corporation tax is UK-wide.
<h2 id="retentions">How are retentions treated in your accounts?</h2>
A retention is the slice of a contract value your customer holds back until the work is signed off and any defects period has passed. It's commonly a small percentage of each certified payment, released in stages, often half at practical completion and the balance once the defects period ends.
Here's the rule that catches people out. Under FRS 102, you recognise revenue when you've earned it and have a right to the consideration, not when the cash arrives. So if you've completed the work that earned the retention, the retention is part of your revenue and sits in your accounts as a debtor (or contract asset), even though you haven't been paid yet.
That's the right accounting answer, but it has a cash-flow sting: you can be taxed on profit that includes money still locked up in retentions. Good credit control over retention releases is one of the most overlooked levers in a construction business.
Two practical points we see regularly:
- Track each retention to its release date. Retentions that quietly age past their release trigger are some of the easiest cash to leave on the table.
- Consider recoverability. If a customer is in difficulty, a retention you're owed may need a provision against it, which reduces your reported profit.
<h2 id="worked-example">Illustrative example: a contract across your year-end</h2>
Illustrative example. Brookfield Build Ltd (a generic, hypothetical company, not a real client) is a limited construction company with a 31 March year-end. It takes on a single fixed-price contract for £400,000. The total cost is estimated at £300,000, so the expected profit is £100,000.
By 31 March 2026, costs of £180,000 have been incurred on the job. The contract uses a cost-based stage of completion measure.
Step 1: stage of completion.
£180,000 incurred / £300,000 total estimated cost = 60% complete.
Step 2: revenue and cost recognised this year.
- Revenue: 60% of £400,000 = £240,000
- Cost: 60% of £300,000 = £180,000
- Profit recognised this year: £240,000 - £180,000 = £60,000
Step 3: retention held back.
The contract holds back a retention of 5% on amounts certified. Of the £240,000 revenue recognised, suppose £200,000 has been certified and the customer retains 5%, so £10,000 (5% of £200,000) is held back. That £10,000 still counts as revenue in Brookfield's accounts because the work has been done. It sits as a debtor until released, even though Brookfield hasn't been paid it yet.
What this means for tax. Brookfield reports £60,000 of profit on this contract for the year to 31 March 2026, and it will pay corporation tax on that profit, including the slice represented by the £10,000 retention it hasn't yet collected. If Brookfield's total profits keep it within the small profits band, that's 19% (FY2025); if profits exceed £50,000 it moves into marginal relief territory.
The point of the example is the timing. Profit and tax follow the work done, not the cash received. Plan your cash for that gap.
<h2 id="cis">How do CIS deductions affect the figures?</h2>
If you're a contractor or subcontractor in mainstream construction, the Construction Industry Scheme runs alongside all of this. CIS is about tax withholding on payments, and it's separate from how you recognise revenue, but it directly affects your cash and your record-keeping.
When a contractor pays a subcontractor, they deduct tax from the labour element and pay it to HMRC on the subcontractor's behalf. The current deduction rates are:
| Subcontractor status | CIS deduction rate |
|---|---|
| Registered with gross payment status | 0% |
| Registered (standard) | 20% |
| Not registered / unverified | 30% |
Two things to keep straight in the accounts:
- Deductions don't apply to materials or VAT. CIS is taken from the labour and other qualifying part of a payment, not the cost of materials or the VAT.
- Retentions follow the payment, not the work. For CIS, whether a retention is paid gross or under deduction depends on the subcontractor's status at the date the retention is paid, not when the work was done. The contractor only works out the CIS deduction on a retained amount when they actually release it. There are no special CIS rules for retentions; they're treated like any other payment when paid.
For subcontractors, the CIS suffered on your income is an advance payment of your own tax. In a limited company it's set against your PAYE/CIS liabilities, with any excess refunded or offset against corporation tax. Keeping clean records of CIS deducted from you, and matching it to deduction statements, is essential.
If you want the full mechanics, our guides for construction businesses and CIS contractors go deeper, and our corporation tax service covers how CIS offsets flow through a company return.
<h2 id="corporation-tax">How does all this hit your corporation tax?</h2>
Your corporation tax is charged on your taxable profit, and that profit is built from the revenue and cost recognition we've described. So WIP, stage of completion and retentions don't just shape your accounts; they shape your tax bill.
The corporation tax rates for the financial years starting 1 April 2025 (FY2025) and 1 April 2026 (FY2026) are:
| Taxable profit | Rate |
|---|---|
| Up to £50,000 | 19% (small profits rate) |
| Over £250,000 | 25% (main rate) |
| £50,000 to £250,000 | 25% with marginal relief |
Marginal relief uses a standard fraction of 3/200 to taper the rate between the £50,000 and £250,000 limits, so your effective rate sits between 19% and 25%. Those limits are shared between associated companies and reduced for short accounting periods, which matters if you run more than one company.
The practical takeaways for a construction company:
- Recognising profit on long-term contracts brings tax forward, sometimes before you've collected the cash, especially on retentions.
- Expected contract losses are recognised in full straight away, which can reduce a tax bill in the year you spot the problem.
- The FRS 102 changes from 1 January 2026 can shift the timing of recognised profit, and because tax broadly follows the accounts, that can move your corporation tax between years too.
This is exactly where year-end planning earns its keep. Getting WIP and stage of completion right, and forecasting the tax on retained income, keeps your accounts honest and your cash flow predictable.
Want construction accounts that get WIP and retentions right? Zmartly works with construction limited companies day in, day out. Book a free call with a Zmartly accountant and we'll review your contracts, WIP and CIS position before your year-end. You can also see how we support construction businesses and limited companies, or read about our statutory accounts service.
<h2 id="faqs">Frequently asked questions</h2>
Do I pay corporation tax on retentions I haven't received?
Usually yes. Under FRS 102, you recognise revenue when you've earned it, not when you're paid, so a retention for completed work counts as revenue and feeds into your taxable profit, even though the cash is still held back. If a retention is genuinely doubtful, you may be able to provide against it, which reduces reported profit. This is a key reason to forecast the cash gap between recognising profit and collecting retentions.
What is the difference between WIP and a long-term contract?
WIP is the value of unbilled or unfinished work sitting in your accounts at the year-end. A long-term contract is a job that spans more than one accounting period, where you recognise revenue and profit gradually using a stage of completion approach. In practice, long-term contracts are the main reason a construction company carries WIP across its year-end.
How is the stage of completion calculated?
There are several accepted methods under FRS 102. Common ones are the proportion of total estimated contract costs incurred to date, the value of work physically completed, or a surveyor's certificate of work done. You should pick a method that reflects the work performed and apply it consistently to similar contracts.
What are the CIS deduction rates for 2025/26?
Under the Construction Industry Scheme, a contractor deducts 0% from subcontractors with gross payment status, 20% from registered subcontractors at the standard rate, and 30% from those who are not registered or cannot be verified. Deductions are taken from the labour element only, not from materials or VAT.
Does the FRS 102 change in January 2026 affect my construction company?
If your accounting period begins on or after 1 January 2026 and you have construction contracts, then yes. The new five-step revenue model changes how revenue and contract costs are recognised, and although most construction revenue is still recognised over time, the timing of recognised profit can move around more than before. There's usually a one-off transition adjustment, so plan ahead with your accountant.
When do I need to register my construction company for VAT?
You must register for VAT once your VAT-taxable turnover exceeds £90,000 in any rolling 12-month period, or if you expect to exceed it in the next 30 days. Many construction businesses also deal with the VAT domestic reverse charge on certain CIS supplies, which changes who accounts for the VAT. Check both points carefully as you grow.
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