CONSTRUCTION BEST PRACTICES, PART II: INTERNAL

CONTROLS IN CONSTRUCTION ACCOUNTING SOFTWARE

AL MOLDOF
AL MOLDOF is a New York-licensed certified public accountant, running a firm in midtown Manhattan called
CA-Speak, The Language of Construction Accounting. CA-Speak specializes in construction CPA services such as
audit or review, company valuation, personal net worth statements, tax returns, contract controller, or CFO work and
training. Visit Al at CA-Speak.com, ConstructionConsultingController.com, or ConstructionAccountingTraining.com
to sign up for the members-only blog.
There are many different types of accounting software for construction firms - some more specialized than others,
some more powerful than others, some specifically for construction firms, and some more generalized to handle any
sort of company accounting. Regardless of which particular software package is chosen to do the job, the senior
accountant or controller must set up and manage the software so that the key objectives of the company are met and the
financial reporting requirements of the company are also met.
In fact, isn't that the textbook definition of internal controls? To take things one step further, setting up and managing
internal controls is easier if the controls are built into the computerized accounting software, rather than instituted as
corporate policy involving personnel. This is true for several reasons. First of all, computer software internal controls
can be set once, verified for effectiveness, and then left alone; policy controls need to be managed, which not only
takes staff time and effort but also allows for the possibility for human error. And second, there are certain
computerized controls that would be difficult to institute in operational terms. One such control is authorization for
transactions. Since many financial transactions are done by electronic means rather than by paper signature, it would
be difficult to require levels of approval for financial transactions without involving computer systems in the
implementation of these controls.
The best practices for computerized construction accounting software internal controls have developed over time.
Since most construction firms are of a size that may not call for the information technology resources specialized to the
industry (i.e., they may be using standard off-the-shelf accounting software that doesn't come with
construction-specific capabilities or support), it is important that the senior accountant or controller deeply understand
at least the nature, if not also the software-specific implementation techniques, for the most important internal controls
that are now widely computerized.


For ease of enumerating them, these controls can be separated by which segment or module of the accounting software
they come under, such as the following stratification.
Accounts payable
Some computer software packages are more lenient than others when it comes to subsidiary ledger accounting for
accounts payable. The important thing is that every accounts payable transaction, be it a bill or a journal entry,
includes a real vendor name. In general, vendor names must be required so that the accounts payable register can
reconcile with the general ledger account for accounts payable. The vendor names must be real because allowing fake
names for vendors, thereby allowing accountants to force journal entries, only creates problems.
The biggest and most dangerous trap most accounts payable accountants fall into is not obtaining IRS W-9 forms from
each and every vendor, supplier, and subcontractor the firm pays. The problem then faced by those who fall into this
trap is the significant time and energy required at year-end in order to discern which firms paid out of accounts payable
need 1099 forms sent to them and which do not. Then, many such accountants will give the 1099 process short shrift
because of the inherent difficulty involved. This can lead to risk of audit and/or fines.
This difficulty can be avoided by the single important step of requiring a W-9 form from each and every firm or
individual before that firm or individual is paid for the first time; if a W-9 form is required, the accountant is supplied
with all the information he or she needs to make the 1099 determination, and come year-end, there is no muss, no fuss.
A savvy accountant will build in a required checkbox for every new accounts payable vendor entry whereby the
person entering a new vendor into accounts payable will have to check either "yes, a 1099 is required" (requiring an
additional FEIN/SSN field to be filled in), or "no, a 1099 is not required."
This "yes or no" required field for 1099s requires a person to physically receive a W-9 form from each new vendor
before the software will even let that vendor be entered in, much less paid, because a default value is not allowed. A
W-9 must be received in order to determine whether a 1099 has to be issued at year-end.
Job cost
J ob cost codes are funny things because, even though they are required for all costs that are associated with fieldwork,
they may be omitted by the accountant when costs incurred are set to be allocated later to multiple jobs as part of a
month-end close (i.e., if the costs are indirect construction costs). This presents a problem from an internal control
standpoint because capturing all job cost data accurately and completely is the single most important function of the


accounting department of any construction firm. And sloppy internal controls in job cost code assignment leads to
some job costs slipping into general overhead because they were missed in the identification process. Overly rigid
internal controls in job cost will cause frustration because the software shouldn't require an accountant to enter a job
cost code when the cost in question should properly be allocated as part of the month-end close process.
A good work-around for off-the-shelf computerized accounting software packages (those that don't allow for the
institution of highly specific internal controls) is to use a different general ledger account numbering system for those
accounts that are considered to be part of cost of sales. For instance, start those with a five and operating expense
account numbers with a six. Then, to allow for the indirect construction cost allocation process to occur on these
generalized, nonconstruction-specific accounting software packages, a separate general ledger account is created
called Allocable Costs. All indirect construction costs are charged to the allocable costs general ledger account, which
is designated as a cost of sales account, when they are incurred. Later, a journal entry at month-end will debit the
proper general ledger account - gasoline charges, telecommunications expenses, permitting expenses, and the like -
while divvying up a fair share of the cost through that journal entry among all the active jobs. The credit entry will hit
the allocable costs account, without identifying a job. That way, the allocable costs account is zeroed out every month
and all costs that hit any of the cost of sales general ledger accounts are either assigned a job number when they are
incurred or allocated as part of month-end.
For more sophisticated, construction-specific computerized accounting software packages, a simple but effective
internal control that allows an accountant to manage this process is to classify transactions into three distinct
categories: those where a job cost code is required; those where a job cost code is not allowed; and those where a job
cost code is allowed but not required. A senior accountant or controller can toggle these settings on different general
ledger accounts and sets of accounts so that some classes of transactions are forced to require job numbers, some won't
allow job numbers, etc.
Accounts receivable
The major accounts receivable internal control that can be set for construction accounting software packages is to
require supervisor authorization for certain functions. These functions include changing invoices (as opposed to
entering new invoices), changing vendor terms, writing off bad debt receivables, and making journal entries to
accounts receivable. J ournal entries to accounts receivable should require a real customer name, just as transactions
hitting accounts payable required a real vendor name. The extent of control (i.e., the tightness of internal control) over
accounts receivable should be tailored to the particular situation and factors such as the number of staff members
doing accounting and finance work and their skill levels should be considered.


Cash management
Cash is one of the more delicate components of the finance and accounting department of any construction firm. An
excellent internal control to institute is to disallow any journal entries from debiting or crediting any of the cash
accounts without high-level authorization. J ournal entries, in the proper sense, have no business hitting cash accounts.
Any independent auditor will second that assertion. Cash account transactions should be limited to writing checks,
entering debit card charges and ACH, making cash or check deposits, etc.
On another note, some of the off-the-shelf generalized accounting software packages must be informed that they need
to require general ledger accounts for check-writing. They will otherwise allow a user to cut checks without coding the
disbursements to anything at all - just cut the check. If that setting does in fact need to be changed, or can be changed,
the access to the settings for cash management functions (and access to all settings within the accounting software
package, for that matter) should be restricted to high-level personnel.
A third computerized internal control that can be set for cash management is dollar-value limits per employee for
transactions such as cutting checks and making bank transfers. Any transaction over this dollar-value limit would
require a supervisor key-in for approval.
Purchase orders
Determining when a purchase order needs to be in place before entering an invoice into accounts payable is a process
that can be considered an internal control, which can be set by the vendor. Thus, some vendors will require accounts
payable staff members to enter a purchase order in a valid format in order to enter or pay invoices for that vendor.
Another internal control for the purchase orders segment or module of the construction accounting software package is
an auto-numbering feature that forces new purchase orders into a predefined numbering format in order to avoid
sloppiness that can later cause errors in financial reporting.
Payroll
Payroll is the most sensitive accounting area in any construction firm, due to the high temptation for misrepresentation
to occur that would lead to unearned paycheck amounts being distributed to existing or nonexistent staff members.
The payroll function in a construction-specific computerized accounting software package should include separation
of duties, where the person who enters the time for the field-workers does not have access to add new employees into
the software, and the person who enters the time for the field-workers should not be the check-signer. In the case of


digital check signing or ACH (direct deposit), which is becoming more prevalent, a digital check-signer should be
instituted who must approve the check run just as if the checks were being hand-signed. This digital check-signer
should not be the person entering the time. The digital signing of checks can be as simple as a one-click "print" feature
where an account signer is alerted that there is a batch of payroll checks to be cut, and the signer can go in, review the
individual checks with the associated time sheets for propriety, and then click a "start" button.
Summary
In an increasingly technologically advanced world, the construction industry is responding with many site-specific
improvements such as GPS tracking of underground placement of structural components and platforms, laser leveling
systems, portable computer-aided design computers and PCs, and complex site communications. There is no reason
that computerized accounting software packages should not also evolve in such a way as to better meet the demands of
the changing field and to capitalize on quicker access to more accurate information, ultimately making contractors
more profitable and wealthy.

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