Written by: Jeff Lathrop
Getting Ready for the Annual Audit
The annual audit of your property’s financial statements is a chore few people relish. The journey and the outcome of the audit are dependent on your preparation. The following are some basic guidelines to follow in preparing for the annual audit:
- The required timing of the deliverables – the draft and final audit.
- Use of electronic data – many of today’s auditors document and store their work within specialized software. How does this impact you?
- Any material change in the project’s financial structure – new debt, equity,ownership changes, etc.
- Operational issues that affected the property during the year – occupancy problems, owner advances, legal proceedings, occurrences of fraud, and capital improvements.
- Preliminary audit procedures – insist that as many procedures as possible be done prior to year end. Internal control testing, test of transactions and compliance work should be substantially completed prior to year end so that the primary focus of the audit after year end relates to verifying the financial statement numbers. Any material issues should be addressed and resolved prior to year end making the audit go smoothly.
Support and Take Ownership of Your Numbers
It is very important that a review of the financials prior to your auditor’s arrival is performed and any adjustments to the respective accounts are made. Take ownership and have pride in your financial statements. At year end, an auditor needs support for the numbers in your financial statements. Bank statements and subsidiary ledgers must be reconciled to the general ledger. Prepare an audit package that includes at a minimum support for each item on the project’s balance sheet, gross potential rent reconciliation and management fee calculation. The following are examples of items contained in a typical audit package:
2.Accounts receivable and prepaid rent – subsidiary ledger and related reconciliations (if applicable);
3. Prepaid insurance – calculation with copies of paid insurance invoice(s), policies, and certificate of insurance from provider;
4. Fixed assets – schedule of fixed assets by cost, accumulated depreciation and current year depreciation. Provide a description and supporting documentation of any additions during the year (i.e., paid invoices);
5. Accounts payable – subsidiary ledger and/or listing of outstanding expenses and related reconciliation (if applicable). For those invoices not processed prior to close, yet relate to the current period under audit, record the accrual and maintain a listing to ensure inclusion of expenses in the appropriate period;
6. Accrued real estate taxes – calculation with copies of current (or prior) paid real estate tax invoice(s);
7. Security deposit liability – subsidiary ledger and/or listing of security deposits by tenant and related reconciliation (if applicable);
8. Mortgage and related accounts – copies of monthly mortgage statements including escrow and replacement reserve activity, and calculation of accrued interest. Typically an auditor sends a mortgage confirmation requesting this same information from the financial institution servicing your debt;
9. Rental income – calculation of gross rent potential, and schedule of vacancy/occupancy by month during the year;
10. Management fee – calculation of management fee during the year; and
11. Permanent documents – copies of new agreements, such as management agreements, loan documents, HAP contract renewals, etc.
This list is not all-inclusive. Discuss the items needed for your annual audit with your auditor to ensure you are fully prepared for his/her arrival.
Know Your Property
Your financial statements tell the story about where your property is financially and how it got there. Your auditor needs to understand this story before the audit report can be issued. Compare current year financials to the budget and to the prior year financials. Be prepared to explain material variances as the auditor will be asking about these.
Communications with Regulatory Agencies
You have them and your auditor wants to know about them. Was a REAC inspection performed at your property? Did you receive comments on your prior year financial statements? A copy of these communications from and to a regulatory agency should be provided to your auditor so all issued are addressed accordingly prior to issuing your audit report.
Given the crucial time of your annual audit, you need to not only prepare prior to your auditor’s arrival, but you and your staff (at management office and on-site) also need to be accessible to them throughout the audit process. It is extremely important for questions to be answered in a timely manner. The quicker the response, the quicker the audit is completed.
Accommodate Your Auditor
Although this is listed as #6, this is by far the most important. Ensure your auditor has adequate space to work, the coffee is ready in the morning and donuts are provided every other day. All kidding aside, discuss with your auditor any accommodations that he/she needs prior to his/her arrival. For example, is Internet access required? How many staff is the auditor bringing? Where will the auditor be located in your office (i.e., conference room, vacant office)? Just like you, your auditor needs a good working environment to perform your audits.