MCC Construction Zone - June 2022 by McCarthy.CPA

June 2022 www.McCarthy.CPA

MCC Construction Zone

Proactive Advice for Construction and Real Estate Professionals

MCC Construction Zone

Marty McCarthy, CPA, CCIFP

In This Issue In this issue of MCC Construction Zone we examine the current state of the construction industry. We present several points of view on what you might expect moving forward in an uncertain economy. Every day there are reports in the news on the possibility of a recession. Some experts expect the worst. Others say that the downturn will not reach that point.

We also discuss compensation trends in the construction industry. We summarize different points of view and data so you can benchmark your compensation models against industry standards. We will introduce points of view on the impact of salary increases on the industry and public.

Other articles discuss Nexus, profitability, and the importance of classifying your workers properly. Finally, we introduce you to Brian Marron, CPA, senior tax manager.

We hope you enjoy our latest issue; please contact us with any questions regarding the material. Marty McCarthy, CPA, CCIFP Managing Partner

1 | Page

McCarthy.CPA

Contents

MCC Construction Zone

Economic Outlook ......................................................................................................................................... 3 Compensation Trends in Construction ......................................................................................................... 8 Nexus in a Virtual Environment .................................................................................................................. 12 Growth Minded Contractors Focus More on Profits Than Revenue .......................................................... 15 Classify Workers Properly to Avoid Expensive Penalities ........................................................................... 18 Meet Brian Marron, CPA ............................................................................................................................. 21

McCarthy.CPA

Page | 2

MCC Construction Zone Economic Outlook

David Gibbs, CPA, CCIFP, CRE, MBA

he media issues new information on the state of the U.S. and global economies daily. Depending on the source, we are either heading towards a recession or not. My intention with this article is to present information from various sources about the state of the economy since it is a fluid situation that can change quickly.

Moving into a Bear Market Stocks tumbled lower on June 13 to open the week. The S&P 500 and NASDAQ Composite finished down last week for the ninth week in the previous ten. Notably, after hitting an intraday "bear" market decline (as measured by a 20% or more drop from a recent high) on May 20, the S&P 500 finally succumbed to weeks of selling pressure, closing below the bear market threshold for the first time since the depths of the pandemic. The Index currently sits at its lowest level since February 2021 and is down 22% from its record January high. By the market close, the NASDAQ and Russell 2000 Index were off 30% or more from their highs, and the 10-year U.S. Treasury yield finished at 3.39%, its highest level since 2011. (Ameriprise Global Asset Allocation Committee. After the Close. Anthony M. Saglimbene. June 13, 2022) Interest Rates “The Federal Reserve raised interest rates by three-quarters of a percentage point on June 15, its biggest move since 1994, as the central bank ramps up its efforts to tackle the fastest inflation in four decades. The big rate increase, which markets had expected, has underlined that Fed officials are 3 | Page

McCarthy.CPA

MCC Construction Zone serious about crushing price increases even if it comes at a cost to the economy.” (New York Times. The Federal Reserve raises interest rates by 0.75 percentage points. Jeanna Smialek. June 15, 2022) The 10-year Treasury forecast varies widely depending on the source. Interest rates are generally expected to rise at a moderate rate over the next 10 years. Moody’s anticipates that interest rates will rise 4% by 2026. Oxford Economics, on the other hand, expects a dip down to 2.8% by then. (Construction Dive. Real Estate pros ask: Are we headed into a recession? Mary Salmonsen. June 9, 2022)

Cap Rates “While there is some upward pressure on cap rates from higher interest rates and borrowing costs, cap rates are ‘very sticky’ and do not experience much movement when markets are strong,” says Bill Maher, director of strategy and research at RCLCO. “Cap rates move in the opposite direction of asset values, so prices are moderating.” Still, in the current high borrowing rate environment, investors can overcome cap rate difficulties by taking on shorter term debt or negative leverage. “Real estate markets are very healthy right now,” Maher said. “So, I don’t think it will have much impact until there’s an economic event, we’re really in a recession and rents and occupancy start heading down for properties. That would be the real trigger.” (Construction Dive. Real Estate pros ask: Are we headed into a recession? Mary Salmonsen. June 9, 2022)

Inflation Some economists and administration officials had hoped for signs that inflation was cooling. Instead, data from the Consumer Price Index (CPI) showed prices climbed 8.6% from a year ago, keeping inflation on track for the most rapid increase in 40 years. That figure, however, included the. more volatile food and energy components, which are stripped out when measuring “core” CPI, which rose 0.6% from the prior month. “Energy prices increased 3.9% from a month ago, bringing the annual gain to 34.6%. Within the category, fuel oil posted a 16.9% monthly gain, pushing the 12-month surge to 106.7%. Shelter costs, which represents about a one-third weighting on the CPI, rose 0.6% for the month, the fastest one-month gain since March 2004. The 5.5% 12-month gain is the most since February 1991. Food costs also increased another 1.2% in May, bringing the yearover-year gain to 10.1%. (New Jersey Business. June 10, 2022)

Home Prices Rising rates and buyer urgency kept home price gains above 20% in April. Many home buyers are hurrying to lock in purchases before rates climb even higher. (Forbes. Brenda Richardson. June 7, 2022) A new report by real estate data analytics provider CoreLogic shows that home prices posted another record-high year-over-year increase in April, marking the 123rd straight month of gains. About 70% of U.S. homes are selling for more than asking price this spring. Higher mortgage rates are expected to put the brakes on buyer demand in the coming months, causing annual home price appreciation to cool to 5.6% by April 2023.

Construction Input Prices Construction input prices rose 2.3% in May 2022 compared to the previous month, according to an Associated Builders and Contractors (ABC) analysis of U.S. Bureau of Labor Statistics Producer Price Index data released on June 14. Nonresidential construction input prices also increased 2.3% McCarthy.CPA

Page | 4

MCC Construction Zone for the month. Construction input prices are up 21.4% from a year ago, while nonresidential construction input prices are 21.9% higher. Input prices rose in 10 of 11 subcategories in May. The largest price increases were in natural gas (+39.7%) and unprocessed energy materials (+16.3%). Those cost increases largely stemmed from supply-side challenges, such as the war in Ukraine, rising energy prices and manufacturing and distribution issues in the supply chain. (Associated Builders and Contractors Association. Construction Input Prices Are Up 21% From a Year Ago, says ABC. June 14, 2022) Lumber Prices Lumber prices fell as low as $780 per thousand board feet in May and are trading below $600 per thousand board feet, according to Chicago Mercantile Exchange. That's the lowest point for lumber this year – but still higher than the 2020 high of $400 per thousand board feet. Three months ago, lumber traded for as much as $1,357 per thousand board feet, not far from its peak price of $1,733 about this time a year ago. (USA Today. Lumber prices are falling. Could prices in the housing market follow? Terri Collins. June 6, 2022) Fuel Prices Oil and refined fuel prices have risen to their highest levels in 14 years, due largely to the Russian invasion of Ukraine and resulting sanctions, and a rebound in energy use as the economy recovers from the coronavirus pandemic. The national average price of gasoline on June 11, 2022, was $5.00 per gallon, up 60 cents from a month ago. A year ago, gas sold for $3.08, according to the AAA motor club. Supply Chain Disruptions Supply chain disruptions continue to be an issue across all industries. The price of construction materials jumped nearly 20% overall in 2021.

Construction Starts U.S. construction starts should continue to grow for the rest of the year, despite economic and geopolitical headwinds, according to a Dodge Data & Analytics report. Most of that positivity stems from the number of projects sitting in backlog, or projects that are planned but not yet begun, said Dodge Chief Economist Richard Branch.

“Over the past year, we’ve seen volatility but an upward rising trend here in the Dodge Momentum Index,” which tracks the dollar value of construction projects when they enter the earliest stages of planning according to Branch. His forecast includes three major assumptions: • Each subsequent wave of the COVID-19 pandemic impacts the economy less. • The war stays within Ukraine’s borders and significantly abates by next year. • The Federal Reserve can raise interest rates to combat inflation without pushing the U.S. economy into recession. Construction Confidence Index ABC’s Construction Confidence Index readings for sales, profit margins and staffing levels declined in May. That’s a reflection of lingering and worsening supply chain challenges. The indices for sales and staffing remain above the threshold of 50, indicating expectations of growth over the next six months, while the reading for profit margins was exactly 50 for the month. (Associated Builders and Contractors Association. ABC’s Construction Backlog Indicator Rises in May; Contractor Confidence Falters. June 14, 2022) 5 | Page

McCarthy.CPA

MCC Construction Zone Possibility of a Recession Bloomberg Economics says there is a 72% chance of recession before the first quarter of 2024. But on the upside, "the broader picture for the global economy in 2022 is a slowdown, not sudden stop," according to Chief Economist Tom Orlik. He and his colleagues see global growth of 3% in 2022.

Bank of America economists are among those still seeing reasons a recession can be avoided. Among them: • Inflation may have peaked, with prices in many countries starting to rise by less. • Demand has ample support, with households enjoying high savings and companies having built up cash balances. • If it turns out that tight monetary policy threatens a recession, that still leaves central banks capable of shifting tack, limiting the damage. "We wouldn't completely rule out a major recession," says Ethan Harris, Bank of America's chief global economist. "The commodity shock or COVID could come back with a vengeance just as monetary tightening is starting to really hurt. However, our base case remains an extended period of weak growth and we think any recession is likely to be mild." (Bloomberg. New Economy. June 10, 2022)

“Recession is not inevitable today, nor is it the most likely path for the economy,” said Moody’s Analytics Chief Economist Mark Zandi. He noted that there are several bright spots including high corporate profits, strong bank balance sheets, and abundant consumer savings. “Ignoring the calls is not advisable, but given the economy’s strong fundamentals, buying into these calls is not recommend either.” (Construction Dive. Recession in ‘not inevitable’ Moody’s says. Jim Tyson. June 6, 2022) “When inflation has been above 4% and unemployment has been below 4%, we’ve always had a recession within the next two years,” Treasury Secretary Lawrence Summers said. “The likelihood is that we’re not going to get through this with a soft landing.”

The Fed’s aggressive tightening has worked, bringing down inflation expectations in recent weeks, Zandi said. “With inflation expectations contained, inflation will recede,” he predicted, adding that the pandemic will continue to fade “and the worst of the economic fallout from the Russian aggression is behind us.”

Pent-up demand for vehicles and housing will probably buoy economic growth, and “businesses are also in great financial shape – they have never been so profitable,” Zandi added. “Corporate debt burdens are also as light as they’ve been in a half century.” “Perhaps most encouraging, the nation’s financial system has arguably never been stronger,” Zandi said, noting that “banks are highly profitable and awash in capital.”

“It is difficult to conjure up scenarios in which financial institutions would suffer to the point that they curtail providing credit, and as long as credit continues to flow, recession is less likely,” Zandi concluded.

McCarthy.CPA

Page | 6

MCC Construction Zone A majority of financial sources — including Morgan Stanley, S&P Global and The Wall Street Journal — place the probability of a recession within the next 12 to 24 months at 50% or less” (Construction Dive. Real Estate pros ask: Are we headed into a recession? Mary Salmonsen. June 9, 2022). These statements were made before the Fed increased interest rates. “Associated Builders and Contractors Chief Economist Anirban Basu said the Federal Reserve’s tightening policy to fight inflation will likely drive the economy into recession either later this year or at some point in 2023. Based on the historical lag between the performance of the economy and nonresidential construction spending, more difficult times could be ahead for contractors in 2024 or 2025. Looking at the most recent reading of ABC’s Construction Confidence Index, contractors are already seeing momentum slow. The likely exception is public contractors, who will continue to benefit from stepped-up infrastructure spending.” (Construction Dive. Recession watch: ABC economist sees ‘difficult times’ through 2025. Sebastian Obando. June 16, 2022)

“The triple threat of rising prices, supply chain issues and labor shortages continue to stand in the way of strong demand. For example, ABC’s Construction Backlog Indicator, which measures jobs contractors have booked but haven’t started working on yet, increased to nine months in May, its highest level since September 2019, six months before the onset of the pandemic. The construction industry’s otherwise positive outlook largely stems from that healthy backlog, according to Dodge Data & Analytics. But growing odds of a recession are dampening that positive outlook (Construction Dive. Recession watch: ABC economist sees ‘difficult times’ through 2025. Sebastian Obando. June 16, 2022). Time will tell. My thoughts, prepare for the worst and pray for the best.

About the Author David E. Gibbs, CPA, CCIFP, CRE, MBA, is the partner-in-charge of the firm’s Real Estate Services Group. He works with real estate professionals in a wide range of sectors including commercial, industrial, and residential. Clients benefit from David’s profound knowledge of the unique tax elections for real estate professionals. David holds the well-respected Certified Construction Industry Financial Professional (CCIFP) designation from the Institute of Certified Construction Industry Financial Professionals (ICCIFP), as well as the elite Counselors of Real Estate (CRE) designation. He can be contacted at 610.828.1900 or David.Gibbs@McCarthy.CPA.

Disclaimer: This article is for informational purposes only and should not be relied upon for tax or accounting advice. We strongly advise you to seek professional assistance concerning your specific issue(s).

7 | Page

McCarthy.CPA

MCC Construction Zone Compensation Trends in Construction Marty McCarthy, CPA, CCIFP

s a certified construction industry financial professional (CCIFP), I have access to insights from my peers who also hold this distinguished designation. We share information on important topics so we can advise clients on the best course of action based on industry best practices.

I recently read an article entitled Compensation Trends by Jeff Robinson (Construction Financial Management Association (CFMA). Building Profits. March/April 2022). Robinson is the president of PAS, Inc., a leader in compensation research and consulting for the construction industry. He shared data on construction compensation trends, which I believe is important to share with you. The following is a summary of the main points made in the article. Compensation Considerations As in other industries, contractors are being forced to increase starting salaries at all levels to attract skilled workers. Paying workers higher salaries and providing enhanced benefits cost money. These additional costs are typically passed on to the consumer, however in construction, that is not always possible. Contractors bid on jobs and are often bound by the price accepted by the customer. Depending on the contract terms, it might not be possible to pass along the increase. Job bids may have been accepted months or even years ago. Since those contracts were signed then, in most cases it is virtually impossible to pass that increase along. McCarthy.CPA

Page | 8

MCC Construction Zone Outside forces also impact compensation, forcing contractors to pay more to remain competitive. Other industries are increasing compensation levels. Federal, state, and local governments are raising the minimum wage, and inflation continues to be a threat.

Once wages are increased for entry-level craft, administrative staff, and other positions, comparable wage increases should be considered for supervisors, project managers, senior management, and others.

Compensation paid to current employees may also have to be adjusted. Employee engagement will decrease, as well as satisfaction if employees learn that new workers are paid a higher salary, signon and retention bonuses, or offered a better benefits package. Current employees may resent the fact that they were not offered the same. Staffing and Turnover Staffing continues to be an issue. Not only is it challenging to find qualified workers, but it is also hard to keep workers at all levels. For example, PAS, Inc.’s 2021 Benefits Survey for Contractors found between July 2020 and July 2021, there was a 17.9% turnover rate for professionals and middle managers – the highest in 15 years.

Overall, 58% of construction companies reported turnover in the superintendent ranks and 48% in project management positions. Additionally, 80% of contractors with over $500 million in revenue reported experiencing turnover in superintendent positions, and 64% reported turnover in project manager positions.

Inflation Inflation causes us to pay more for food, gas, goods, and services. Bloomberg reported on June 10, 2022: “U.S. inflation accelerated to a fresh 40-year high in May, a sign that price pressures are becoming entrenched in the economy. The consumer price index (CPI) increased 8.6% from a year earlier, as per the Labor Department data. The core CPI, which strips out the more volatile food and energy components, rose 0.6% from the prior month and 6% from a year ago, also above forecasts.” Inflation is putting pressure on employers to increase wages. While PAS, Inc. believes that the cost of labor should be the driving force for pay decisions, many contractors consider the cost of living (COL) when determining annual increases.

While COL has increased over the past twenty years, construction staff pay increases have remained unchanged. For example, in 2002, the annual COL was 1.6%, and construction staff pay increase was 4.1% compared to 2021 when the yearly COL increase was 4.7%, and the construction pay increase was 4.2%.

Pay Increases for Craft Workers According to Kenneth D. Simonson, Chief Economist of the Associated General Contractors of America (AGC), “Construction has fallen behind its historical position relative to other sectors because pay increases in construction have not kept up with the acceleration in pay that has occurred elsewhere. In 2020, construction wages and salaries increased at the same 2.8% yearover-year rate for all private-sector workers. Although construction wages accelerated to a 3.8% increase in 2021, this fell far short of the record 5% increase for all private workers last year.” 9 | Page

McCarthy.CPA

MCC Construction Zone As of year-end 2021, Simonson stated, “‘premium for construction wages relative to total private sector has shrunk from 20-23% pre-pandemic to 17% for production and nonsupervisory employees.” The construction industry’s 15-year history of favorable craft wages dropped 3-5% compared to non-construction peers.

According to PAS, Inc.’s 2021 Merit Shop Wage and Benefit Survey, pay for carpenters increased by 2% in all construction sectors combined, and laborers increased 4.7% from 2020 to 2021. The industrial sector was flat except for a few positions, such as boilermaker pay increasing 2.4% and structural ironworker pay increasing 3.2%. On the other hand, the heavy civil sector saw exceptional overall growth at 4.9%, with heavy equipment operators changing 4.7%, tandem axle drivers moving 5.7%, and laborers growing 9.7%.

In mid-2021, WorldatWork reported that contractors projected a 2022 increase of 3.9% in construction for nonexempt hourly nonunion classifications (craft workers).

Professional, Middle Management and Executive Wage Increases WorldatWork also published its 2022 forecast for all industries and construction at various levels. Again, the construction industry was in alignment with all other industries. Exhibit 1: Salary Forecast for All Industries & Construction

Classification

All Industries

Construction

Nonexempt Salaried 3.2% 3.1% Exempt Salary 3.3% 3.4% Officers & Executives 3.2% 3.1% Source: 2021-2022 United States Salary Budget Survey. WorldatWork

WorldatWork conducted a pulse survey of all industries in late December 2021, focusing on what compensation professionals said they needed to attract and retain employees. Survey participants said they needed an average of 4.8% and a 5% median, but their organizations were budgeting, an average of 3.6% and a 4% median.

“The anticipated increase for 2022 for construction executives is 4.3% and 3.9% for nonexempt hourly nonunion classifications (craft workers).”

Pay Projections Experts project that for all industries the average pay increase will be between 3.2% to 3.9% in 2022. The Conference Board had an April projection of 3% for 2022, which they revised to 3.9%. FMI anticipates the average pay increase for E&C respondents will be 4.1% in 2022.

PAS, Inc.’s 2022 Executive Compensation Survey for Contractors reported an actual 2021 pay increase of 4.3% for executives. The anticipated increase for 2022 is also 4.3%. Historically, pay projections are 0.3-0.5% higher by year-end. Therefore, executive increases averaging about 4.8% are expected by December. McCarthy.CPA

Page | 10

MCC Construction Zone Exhibit 2: Pay Projections by Position for 2022

Position

Overall Base Pay

Average Salary

Average Bonus

Project Superintendent $105,000-$132,000 $120,000 $16,000 Sr. Project Manager $118,000-$148,000 $135,000 $27,000 General Superintendent $134,000-$171,000 $152,000 $38,000 VP of Operations $155,000-$210,000 $189,000 $88,000 Sr. Estimator $ 99,000-$127,000 $115,000 $15,000 Chief Estimator $125,000-$170,000 $150,000 $33,000 Accounting Supervisor $ 68,000-$ 89,000 $ 79,000 $10,000 Accounting Manager $ 86,000-$120,000 $103,000 $18,000 Controller $109,000-$141,000 $126,000 $29,000 CFO $156,000-$228,000 $201,000 $106,000 Executive VP $179,000-$297,000 $245,000 $189,000 Source: 2022 Executive Compensation Survey for Contractors. PAS, Inc.

Based on executive increases, it can be inferred that professional and middle management year-end increases will average 4.5%, and craft increases will be about 4.1%, which is considered a conservative estimate. It will be interesting to see the actual impact inflation and other variables will have on compensation at year-end. About the Author Martin C. McCarthy, CPA, CCIFP, is the managing partner of McCarthy & Company. Sureties and bankers respect Marty for his high-quality work and profound understanding of the construction industry. Marty helps clients by giving them the insight needed to grow their businesses. He can be contacted at 610.828.1900 or Marty.McCarthy@McCarthy.CPA.

11 | Page

Marty McCarthy, CPA, CCIFP

McCarthy.CPA

MCC Construction Zone Nexus in a Virtual Environment: Pay Attention to the Rules to Avoid Costly Penalties Kyrstin W. Mackrides, CPA, MT, CCIFP

t is important for taxpayers to be wary of circumstances that could potentially trigger state and local tax penalties. Simply selling to customers who are physically located in multiple states, can trigger nexus.

Nexus is having a connection to a state, which then allows that state to tax an individual/business. Contractors who qualify for income tax nexus are required to collect and remit tax on sales in that state. Generally, this tax is based on a company’s net income, although there are exceptions. With each state having its own nexus guidelines pertaining to income, franchise/net worth, sales/use, and other general taxes, it can get more complicated. Contractors may find it difficult to keep up with all the rules, especially if they offer products or services online.

Although it is obvious that having a permanent or temporary physical presence in a state would trigger nexus, other associations are not as apparent. A contractor might decide to use independent subcontractors in certain states and use employees in others. Independent contractors acting on behalf of a company, represent a physical presence in some states, making the general contractor responsible for paying sales and use tax.

McCarthy.CPA

Page | 12

MCC Construction Zone Public Law 86-272 The Interstate Income Act of 1959 (P.L. 86-272) generally prohibits states from imposing taxes on income derived from interstate commerce. Under this law, business activities in the state are limited to the solicitation of orders of tangible personal property that are sent outside the state for acceptance and fulfillment. The Multistate Tax Commission (MTC) adopted guidance on August 4, 2021, to address internet activities. Under the new guidance, taxpayers who sell tangible personal property over the internet may be protected by P.L. 86-272. Safeguarded activities include posting static FAQs that may be used to provide post-sale assistance or placing cookies onto the computers or devices of in-state customers to gather information used only for soliciting sales of tangible personal property. Unprotected activities include, but are not limited to, providing post-sale assistance to in-state customers via an app or website, leaving cookies on a customer’s device to gather information on shopping trends or to track inventory, soliciting applications for branded credit cards on the business’s website, inviting customers to apply for non-sales positions, and remotely fixing or upgrading products online.

Qualifying Standards Many states are adopting metrics other than physical presence, to determine nexus. Methods such as the economic presence or factor-based nexus are considered more equitable. “States using the economic presence standard can impose tax on out-of-state companies doing business in the state, but that do not have a physical presence in the state. Under factor-based nexus, or factor presence nexus, an out-of-state company has nexus if it has property, payroll, or sales that exceed certain thresholds during the tax period.” (Wolters Kluwer) Thresholds The MTC adopted threshold amounts to determine if enough nexus exists to subject a business to state income tax. Under this standard, a company is doing business in a state if the property, payroll, or sales exceed these thresholds (annually adjusted for inflation) during the tax period: • $50,000 of property • $50,000 of payroll • $500,000 of sales or • 25% of total property, total payroll, or total sales.

Because the decision to adopt MTC guidelines or not is at each state’s discretion, these thresholds may not apply.

There are many factors that need to be addressed by contractors, along with their accountant and lawyer, regarding nexus. Implementing a new business practice such as direct-to-consumer in a particular state or using independent contractors on a job instead of employees, can trigger nexus. The independent contractor working in a state in which the job is being performed may represent a physical presence for the general contractor. Each circumstance is different.

Contractors need to be aware of nexus triggers in each state in which they do business. State and local taxes should be factored into bids, and processes should be put in place for collection and remission of tax, as well as filing of necessary returns. Technological advances have made it easy for agencies to track down noncompliant companies. Interest and penalties may be assessed on unpaid

13 | Page

McCarthy.CPA

MCC Construction Zone taxes. It is, therefore, prudent for contractors to stay abreast of all state and local nexus standards prior to making a change. About the Author Kyrstin W. Mackrides, CPA, MT, CCIFP, manager, has a talent for strategic tax planning. She advises clients on the various tax elections that are available to them, and the best time to take advantage of applicable deductions and credits. She can be contacted at 610.828.1900 or Kyrstin.Mackrides@McCarthy.CPA.

A version of this article was originally available in the May 10, 2022 issue of Construction Executive published by the Associated Builders and Contractors Association (ABC).

McCarthy.CPA

Kyrstin Mackrides, CPA, MT

Page | 14

MCC Construction Zone Growth Minded Contractors Focus More on Profits Than Revenue Richard P. Higgins, CPA

ost business owners focus on revenue when they want to grow their business. Revenue is a critical metric to watch as it measures the success or failure of everything done in a business. Revenue validates how much the public accepts the company’s brand. For most businesses, every single activity done by everyone working within an organization goes into generating revenue. Profit is a measure of the company’s ability to operate efficiently. It is the amount of money left over after all costs have been incurred and outstanding expenses have been paid. It stands that more efficient companies make more profit than companies that operate inefficiently. In many cases, two contractors in the same market, producing a similar product or service can generate the same revenue. The amount realized in profit can, however, be quite different based on the way the company operates, making it important to focus on profit instead of revenue. Mismanagement, change orders, excess inventory, poor workmanship, supply chain interruptions, waste, and many other factors can eat away at profits. Revenue Revenue is defined as the money generated from normal business operations, calculated as the average sales price times the number of units sold. (Investopedia)

Revenue (gross income) is on the top line of a financial statement. Costs are subtracted from revenue to determine net income on a job or for the entire company.

15 | Page

McCarthy.CPA

MCC Construction Zone Profit Profit describes the financial benefit realized when revenue generated from a business activity exceeds the expenses, costs, and taxes involved in sustaining the activity in question. Profit is calculated as total revenue less total expenses. (Investopedia)

Net profit is on the bottom line of a financial statement. Net profit is the money left over after all costs have been incurred and expenses have been paid. This includes every variable and fixed expense associated with the job or company, as well as taxes and interest.

Revenue Growth Revenue growth is the increase in sales over a previous period (month, quarter, bi-annual, annual). It can be measured as a percentage (increase/decrease) from one point in time over another. For example, if a contractor set a goal to increase revenue 10% year over year, they would have to generate $110,000 in sales if their starting revenue were $100,000.

While a 10% increase may seem feasible, it might not be practical. A contractor might have to increase payroll costs if they need to hire new workers or pay overtime to complete the extra work needed to generate 10% more in revenue. Among other considerations, a second shift may need to be added, more inventory ordered, and additional equipment purchased. If generating 10% more in revenue means that expenses increase by 12%, the business is actually losing money. Profit Growth Profit growth is measured the same way as revenue growth. It is an increase in profits over a previous period and can be measured as a percentage (increase/decrease) from one point in time over another. The difference is that profit growth is not impacted by other variables. The number (result) is what it is.

Profit growth is not dependent on other variables. Basically, the costs incurred are subtracted from revenue to determine the profit on a job or for the company. So, a 10% increase in profit means that a company earning $100,000 in profit the previous year made $110,000 or an additional $10,000 this year. Increasing Profits There are a variety of ways for a company to increase profits. For the purposes of this article, we are going to focus on suggestions that can impact profits due to inefficiencies. Here are several recommendations that can make a substantial difference if successfully implemented: 1. Redesign workflows by identifying bottlenecks and areas for improvement. Design new processes to improve efficiencies and results. 2. Uncover ways to reduce fixed overhead costs to increase revenue. 3. Control inventory to reduce waste and improve cash flow. 4. Eliminate tasks and activities that do not add value to the company or customer. 5. Review staff levels and make changes based on current and future needs. Be realistic when making projections. Over- or underestimating staffing needs can make a significant impact on profits. 6. Avoid making cuts for the sake of cutting costs. Although it may seem to make sense, it could serve to decrease revenue. For example, eliminating all advertising costs could result in limited sales. However, reducing the advertising budget and shifting the allocation of funds from print to digital advertising could result in more sales at a reduced cost. McCarthy.CPA

Page | 16

MCC Construction Zone 7. Discuss strategic tax planning with your accountant. Analyze the cost vs. the benefit of every transaction from an income tax perspective. It might make sense to invest in developing new technology to improve operations if that investment qualifies for a research and development (R&D) tax credit. 8. Focus efforts on the 20% of the business that generates 80% of the profits.

An increase in revenue does not always mean an increase in profit. Although most people use the words in the same sentence, the terms have quite different meanings and implications. A company with growing revenue may actually realize decreasing profits. The opposite can also be true. Both metrics – revenue and profitability, tell a story about the business and its operations. It is prudent to pay attention to both, as well as costs. The numbers can help identify the best course of action to achieve the desire results. About the Author Richard P. Higgins, CPA, is the managing partner in the New Jersey office of McCarthy & Company. Contractors trust Rich to assist them with a strategy to achieve their goals by looking at key indicators such as productivity, job costing, profit margins and cash flow. Rich helps contractors establish realistic benchmarks to assess how well they are doing or to alert them to issues that need to be addressed. He can be contacted at 732.341.3893 ext. 17 or Richard.Higgins@McCarthy.CPA.

A version of this article was originally available in the June 2022 issue of Utility Transportation Contractor published by the Utility and Transportation Contractors Association (UTCA).

17 | Page

Rich Higgins, CPA

McCarthy.CPA

MCC Construction Zone Classify Workers Properly to Avoid Expensive Penalties Marty McCarthy, CPA, CCIFP

usiness owners must carefully consider how the people working for them are classified. There is a fine line between being identified as a contractor or employee on the job. Owners must know the difference to avoid being penalized.

Worker classification determines if an employer must withhold income taxes and pay Social Security, Medicare taxes and unemployment tax on wages paid to an employee. Businesses do not have to withhold or pay any taxes on payments to independent contractors. The earnings of a person working as an independent contractor are subject to self-employment tax. There are federal and state rules for determining if a person is an employee or contractor. Employers must follow both sets of guidelines when classifying workers.

The general rule is that an individual is an independent contractor if the payer has the right to control or direct the result of the work, not what will be done and how it will be done. The IRS advises businesses to consider all evidence of the degree of control and independence in the employer/worker relationship. Whether a worker is an independent contractor or employee depends on the facts in each situation. Business owners must consider how much control they have over the person in the following areas: McCarthy.CPA

Page | 18

MCC Construction Zone Behavioral Control: A worker is an employee when the business has the right to direct and control the work performed by the worker, even if that right is not exercised. Financial Control: A worker is an employee if the employer has a right to direct or control the financial and business aspects of the worker's job. Type of Relationship: Both parties’ perception about the worker/employer relationship.

The Answers to These Questions Will Help The IRS uses the answers to twenty questions to determine if a worker is a contractor or employee: 1. Can the worker make a profit or suffer a loss from doing the work aside from their pay for the project? 2. Does the worker have an investment in the equipment or facilities used to do the work? 3. Does the person work for more than one company at a time? 4. Does the worker offer services to the public? 5. Does the employer have the right to give the worker instructions about when, where, and how to work? 6. Does the employer train the worker to do the job in a particular way? 7. Are the worker’s services so important to the business that they have become a necessary part of the business? 8. Must the worker provide the services personally as opposed to delegating them to someone else? 9. Does the company hire, supervise, and pay the worker’s assistants? 10. Is there an ongoing relationship between the worker and the owner? 11. Are the worker’s hours set by the employer? 12. Must the worker spend all his time on the job? 13. Must the individual work on site, or can the employer control the route or location where the work must be performed? 14. Does the employer have the right to determine the order in which services are performed? 15. Must the worker provide reports accounting for his or her actions? 16. Is the worker paid by the hour, week, or month? 17. Does the company pay the worker’s business or travel costs? 18. Does the company provide the worker with equipment, tools, or materials? 19. Can the worker be fired? 20. Can the worker quit at any time without incurring liability? If the answer is yes to the first four questions, the worker most likely is an independent contractor. An affirmative answer to questions 5 through 20 means that the worker may be classified as an employee in the eyes of the IRS. It could be costly if federal or state authorities find that workers are improperly classified without reasonable cause. Owners could be held liable for paying employment taxes, as well as penalties and interest. It is in a company’s best interest to seriously consider if a contractor is really an employee. The money saved from not incurring employee related costs is typically not worth the risk.

About the Author Martin C. McCarthy, CPA, CCIFP, is the managing partner of McCarthy & Company. Sureties and bankers respect Marty for his

19 | Page

Marty McCarthy, CPA, CCIFP

McCarthy.CPA

MCC Construction Zone high-quality work and profound understanding of the construction industry. Marty helps clients by giving them the insight needed to grow their businesses. He can be contacted at 610.828.1900 or Marty.McCarthy@McCarthy.CPA.

A version of this article was originally available in the April 19, 2022 issue of Construction Executive published by the Associated Builders and Contractors Association (ABC). Disclaimer: This article is for informational purposes only and should not be relied upon for tax or accounting advice. We strongly advise you to seek professional assistance concerning your specific issue(s).

McCarthy.CPA

Page | 20

MCC Construction Zone Meet Brian Marron, CPA Senior Tax Manager

rian Marron, CPA, is a senior tax manager in McCarthy’s Tinton Falls office. He is focused on helping clients plan for any tax impacts on business and personal transactions.

An important part of Brian’s practice is to stay current on the ever-changing tax laws so he can effectively offer his clients the best options for their particular situation. He works diligently to maintain a strong professional and personal relationship with each client. Brian’s responsibilities include preparing quarterly tax projections that consider the effects of certain transactions to ensure there are no costly surprises when it comes time to file; implementing strategies to defer income and maximize deductions; and tax planning for flowthrough business.

He regularly advises clients on matters involving flow through entities (Partnerships and S Corporations), as well as providing tax advice to high-net worth individuals and families and on trust and estate issues.

A graduate of West Chester University, Brian earned a Bachelor of Science degree in accounting and finance in 2014. He is a member of the American Institute of Certified Public Accountants (AICPA) and the New Jersey Society of Certified Public Accountants (NJCPA). In his spare time, Brian can be found walking through his neighborhood or hanging poolside with his wife Julia, and one-year old son, Connor. He is an avid golfer who spends as much time as possible on the course playing with friends and colleagues. Brian enjoys going for a run, 21 | Page

McCarthy.CPA

MCC Construction Zone trying all types of craft beer, and playing with his dog, Ellie. As someone who like staying active, Brian is always open to trying new outdoor activities. Brian and his family live near the beach and are looking forward to taking their son there this summer. He can be contacted at 732.341.3893 or Brian.Marron@McCarthy.CPA. About the Author Kerrianne Brady is the firm administrator at McCarthy & Company. She takes care of everything at the firm under the guidance of managing partner Marty McCarthy, CPA, CCIFP. Kerrianne can be contacted at (610) 828-1900 ext. 24, or Kerrianne.Brady@McCarthy.CPA.

McCarthy.CPA

Page | 22

492 Norristown Rd, Ste. 160 ● Blue Bell, PA 19422 4000 Rte. 66, Ste. 310 ● Tinton Falls, NJ 07753 610.828.1900 (PA) ● 732.341.3893 (NJ) www.McCarthy.CPA

MCC Construction Zone - June 2022

Articles inside

Growth Minded Contractors Focus More on Profits Than Revenue

Classify Workers Properly to Avoid Expensive Penalities

Nexus in a Virutal Environment

Compensation Trends in Construction

Economic Outlook

Meet Brian Marron, CPA