Audit Guide Chapter 3- Techniques Used During Audit
The IRS audit process includes the accumulation of evidence for evaluating the accuracy of a taxpayer’s tax return. Evidence includes taxpayer testimony, books and records, examiner observations, and third party documents.
Interviews with the taxpayer (normally the GP) will be an integral part of the audit. The purpose of this interview will be to obtain an understanding of the taxpayer’s background, financial history, business operations and internal controls, and books and records. Issues that will be discussed include:
- The people and entities responsible for the planning and construction phases of the project, including any related parties;
- The services provided by the developer, the terms of the development contract, and details relating to the developer fee;
- How the project was acquired –
- Was it undeveloped land or land with existing buildings and improvements?
- How were costs allocated between the land and improvements;
- All sources of funding for the project;
- Terms and requirements of the Extended Use Agreement; and
- How the final cost certification was prepared.
The business practices of the taxpayer will be reviewed, including how the project is managed and who is responsible for day-to-day operations. The taxpayer will be asked to explain how they are involved in the on-going operation of the project, how often the project is physically inspected, and whether the financial records are reviewed. If the property is fee managed, how often does the owner receive updates, reports or financial summaries for the project? Does the owner have written policies and procedures for the operation of the property? Are there periodic reviews by independent third parties?
Internal controls will by fully reviewed, including whether or not there is separation of duties of on-site personnel. Are checks and balances in place to determine that all income is properly accounted for once the rents are received.
Examiners will tour the project to ensure the housing actually exists, includes the assets described in the records, and is suitable for occupancy. While on site, the examiner will also determine compliance with §42 requirements and test internal controls. How does the owner ensure that new tenants are income qualified at move-in? Are site employees trained? Does the owner review tenant files, and who prepares the files? How are they maintained? Where are they stored?
How is the rent determined? Who determines the maximum permitted rent? The Service will also examine to ensure that utility allowances were property determined and updated. There will be an examination of fees charged to residents to ensure that they meet the requirements of the IRS.
If prior 8823s were issued against the property, the owner will be expected to explain the circumstances of the noncompliance and subsequent correction. They will also be asked to explain how the noncompliance was accounted for when claiming credits.
Third party contacts will be made if the taxpayer cannot provide information, or if information needs to be validated. These contacts will include management personnel (current and past) as well as tenants and other third parties.
Physical Characteristics That will be Reviewed
IRS agents will observe the following physical characteristics of the property when conducting the review:
- Signage and advertising: they will look for indications that affordable units are available;
- Site: especially for new properties, agents will look at grading, clearing, grubbing, cutting, filling and rough grading to see if the scope of work is related to costs claimed;
- Buildings & Assets: are there garages, picnic areas, gazebos, laundry rooms, community rooms, etc. These could be classified as common areas or facilities necessary for the operation of the project;
- Additional Income Producing Activities: e.g., rental of the roof for commercial advertising or as a radio tower;
- On-Site Management or Security: how many rental units are used for such purposes;
- Physical Maintenance: this will be a particular issue if the property has been cited by the state for UPCS violations;
- Landscaping: is it well maintained? Could it be part of eligible basis?
- Educational Institutions: is the project located near a school? Student occupancy will be closely examined if the property is located in close proximity to a post-high school educational institution;
- Duplication or Diversion of Costs: if the general partner owns multiple projects, is construction similar? If so, could costs have been duplicated and claimed more than once in order to increase eligible basis?
- Building Interiors: agents will look for additional common areas, but will not usually ask to tour occupied apartments.
Income Qualifying New Tenants
Agents will determine how new residents are income qualified.
- Do applicants complete applications? Is there an application fee? If so, are all applicants charged a fee?
- How are income limits determined?
- How is applicant information verified?
Random files will be selected for reviewed for documentation and organization.
Mixed-Income Projects
If the property contains both low-income and market units, the examination will include:
- Inspection and analysis of any structural differences between the unit types. If there are disproportionate standards, this will be examined to ensure that eligible basis was properly determined.
- Available Unit procedures will be analyzed.
Third Party Contacts
The IRS will contact third parties that may be able to assist in the audit. These may include:
- State Agencies;
- Former site managers and employees; and
- Former tenants