Hello everyone,

I was recently hired by a real estate development company to clean up their accounting records. The company has a poor history with its accounting and finance departments, having gone through multiple accountants and financial professionals over the past year. As you can imagine, the books are in terrible shape—far from ideal.

The background is that the company has multiple projects, each operating as a separate LLC. The projects involve development and construction, ultimately selling condos/lofts. Projects do not close until the last unit is sold. We obtain a construction loan from a lender to cover the entire project cost. The lender's terms are: as units are sold, the full sales amount is paid directly to the bank to repay the loan. Essentially, we see no cash until the loan is fully repaid. We have no expenses because all expenditures are capitalized to work-in-progress (WIP).

Once a unit is sold, the portion of WIP costs attributable to that unit must be transferred and recorded as inventory. The entry is:

  • Debit: Inventory (reflecting increase in inventory) — Credit: WIP (reflecting the portion of WIP transferred to inventory)

The two entries reflecting the sale are:

  1. Debit: Loan liability (reducing loan balance) — Credit: Revenue (reflecting unit sale)
  2. Debit: Cost of Goods Sold (COGS) — Credit: Inventory (reducing inventory)

Revenue minus COGS equals net income, which is taxable. This seems straightforward, right?

But I'm running into a few headaches. The first issue is that there is only one WIP account for the entire project. No job costing was done for units (a mistake by the previous accountant), so I have no way to know the specific cost of each unit. I only know the cumulative cost of the entire project to date, and I cannot determine the COGS for individual units.

The second issue is that even if I knew the COGS for each unit, I wouldn't have the cash flow to pay the taxes resulting from recognizing net income after a unit sale, because the bank takes all sales proceeds until the loan is repaid.

Therefore, to address both issues, is it acceptable to record the COGS for a unit as the full sales price, to show zero net income for the year and thus defer taxes, and then when the WIP/inventory is eventually fully expensed and written off, record the remaining sales amounts as revenue (with little or no COGS at that point), and pay taxes in the final year (or years)? I know this would result in a larger tax burden because all (or most) COGS would have been used in prior years to offset revenue and defer taxes until the loan balance is paid off and there is cash flow, but it's the only viable method I can think of. Is this practice acceptable under tax law and GAAP?

Thank you very much for your help.