Change Order Accounting: Where Contractor Margin Quietly Disappears

The Most Expensive Paperwork on the Job

Ask a contractor where margin went on a job that closed at break-even, and the answer is usually some version of the same story. The crew did extra work. Everyone agreed it was extra. The paperwork lagged. By the time it was formalised, the owner's position had hardened, and a $40,000 claim settled at $18,000.

That is a project management failure, but it is also an accounting one — because how you record change orders determines whether you can see the problem while it is still fixable.

Three States, Three Treatments

Every change order sits in one of three states, and each is handled differently:

• Approved and priced. Signed, with an agreed amount. Add it to the contract value and to the estimated cost. It flows through percentage-of-completion like any other scope.
• Approved in scope, not yet priced. The owner has told you to proceed, the amount is unsettled. Costs are being incurred now.
• Unapproved or disputed. You believe you are owed; the owner has not agreed.

The first is straightforward. The other two are where judgement enters, and where contractors most often get it wrong in one direction or the other.

The Trap in Unpriced Work

Here is the mechanical problem. You are directed to proceed on work that has not been priced. Your crew starts. Costs hit the job immediately.

Under cost-to-cost percentage-of-completion, costs incurred drive the percent complete calculation. So your costs rise while the contract value does not. The job instantly appears to be running over budget — your percent complete jumps, your estimated margin falls, and if you are not watching closely it looks like an execution problem rather than an unpriced-scope problem.

The correct response is not to ignore it. It is to update the estimate: add the expected cost of the change order work to estimated total cost, and add your best supportable estimate of the recoverable revenue to contract value. Both sides move, and the job's reported margin stays honest.

How Conservative Should the Revenue Side Be?

This is the judgement call, and it is genuinely a matter of accounting standards rather than preference. Revenue on unapproved change orders and claims can only be recognised when recovery is probable and the amount can be reliably estimated — and the bar for that is higher than "we are confident we are right".

In practice, the factors that matter are whether the work was directed in writing, whether your contract has a clear changes clause you followed, whether you documented the costs contemporaneously, and whether there is a history with this owner of settling such claims. Strong on all four, recognition is defensible. Weak on any, recognise costs and hold revenue.

The conservative treatment — costs recognised, revenue deferred — makes the job look worse in the short term. That is the point. It stops you reporting profit you may never collect, and it makes the cost of slow paperwork visible in the numbers rather than only at closeout.

What It Does to Your WIP Schedule

Change orders are one of the main reasons a WIP schedule stops reconciling. If contract value excludes pending change orders while costs include the work, you generate large apparent underbillings. A surety reading that will ask about it, and "those are pending change orders" is an answer that invites more questions about how you manage scope.

Keep a separate column for pending change order value. Your schedule then shows the executed contract, the pending amount, and the two combined. Anyone reading it can see exactly how much of your position depends on claims not yet settled — which is the honest picture, and a far better conversation to have.

The Control That Fixes Most of This

The accounting cannot outrun the process. One control does most of the work: no extra work starts without a change order number. Even if the price is unsettled, the number exists, costs are coded to it from the first hour, and it appears on a log reviewed weekly.

That single discipline does three things. It creates the contemporaneous cost record that makes a claim collectable. It surfaces unpriced work while there is still leverage to price it. And it means your month-end numbers reflect what is actually happening on site.

Contractors who run this log tend to settle change orders at a much higher percentage of value than those who reconstruct them at closeout — not because they negotiate better, but because they are negotiating with records instead of recollections.

A Question Worth Asking Tonight

On your largest active job right now: how much unpriced or disputed change order work is in the field, and what is it costing you? If that number takes more than a few minutes to produce, that is the gap.

If you want help building a change order log that ties into your job costing rather than sitting beside it, get in touch.