Document Efforts to Fix Three Common Household File Mistakes Before You’re Audited
When you take over a site, there’s a good chance you’ll find paperwork mistakes made by prior managers. Missing income certifications, spotty income documentation, and utility allowance errors are common. Even though you didn’t make them, you mustn’t ignore these household file mistakes. Uncorrected mistakes can jeopardize the owner’s tax credits if a housing agency auditor later uncovers them.
Fortunately, you can take steps to clean up costly household file mistakes. We’ll discuss how to spot and correct three common household file mistakes. And we’ve prepared a Model Memo: Document Your Efforts to Fix Household File Mistakes, that you can adapt to show auditors what you did to try to remedy the mistakes you found.
How Household File Mistakes Can Hurt Managers and Owners
Housing agencies monitor your compliance with tax credit housing rules by regularly auditing or inspecting a percentage of your tax credit household files. Agency auditors review rent rolls, income certifications, annual recertifications, and the documents you collect each year to prove household income. If the auditor discovers, for instance, missing recertifications, faulty income documentation, or utility allowance miscalculations, the agency issues a written compliance report to the owner. The report details any errors found and gives a deadline to correct them.
Auditors who find household file mistakes must file a Report of Non-Compliance (IRS Form 8823) with the IRS—even if the mistakes are promptly corrected. A Report of Non-Compliance, which identifies the property, the owner, and the manager, blemishes everyone’s record. It can make it harder for you and the owner to qualify for future tax credit housing projects. And if the problems listed in the Report of Non-Compliance go uncorrected, the owner could lose tax credits for each year that the mistake puts the property out of compliance.
Three Common Compliance Mistakes
Here are three mistakes auditors commonly find in household files along with advice on how to remedy them.
Mistake #1: Missing or incomplete household income certifications. The IRS mandates that first year records must be maintained for 21 years. Certifications collected in the first year of the site’s tax credit period must be kept for at least six years after the owner’s tax return is due for the last year. This amounts to a minimum of 21 years. And certifications and annual certifications collected after the site’s first year must be kept for six years after the owner’s tax return is due for the year in which the certification or recertification was done.
While most managers get income certifications in the site’s first year, they don’t always get certifications from new households or annual recertifications from current households after that. If just one certification or recertification is missing, an auditor can file a Report of Non-Compliance with the IRS, says Cara Wallo, senior tax credit allocation officer for the Virginia Housing Development Authority. Unsigned or undated certifications or recertifications can get you into trouble, too.
> The fix. If you discover a missing or incomplete certification or recertification for a particular year, you need to put together a complete certification or recertification for that year. The household will, you hope, have the needed records for that year. While the information must relate to the year the certification or recertification covers, the certification or recertification should be dated the day the household actually signs it. If the household is still in occupancy, this should be an easy fix.
If the household has moved out, you’re not off the hook. Send the income certification or recertification forms to the household’s last forwarding address. For example, you can send the forms where the household asked you to send the security deposit. If the forms come back from the post office, put the returned forms and envelope into the household file with an office memorandum stating what you did to try to fix the mistake.
Mistake #2: Missing or incomplete income documentation. Similar mistakes can arise with the documents that support a household’s certification or annual recertification. The same IRS recordkeeping rule that applies to income certifications or recertification forms also applies to income verifications and other documentations. For example, records collected in the first year of the site’s tax credit period must be held for at least six years after the owner’s tax return is due for the last year of the tax credit; records collected after the first year must be held for at least six years after the owner’s tax return is due for the year in which the certification or recertification was done. But some managers make the mistake of not getting income documentation from households or failing to obtain adequate income verifications from employers or state unemployment offices. When reviewing your files, make sure your income documentation for the year each household moved in is clear and complete.
> The fix. If income documentation is missing or incomplete, ask the household head to get you a certified copy of her income tax return for the year in question. Households can get a certified copy of their returns from the IRS by submitting IRS Form 4506 or calling 1-800-908-9946.
If the household has moved out and you have no forwarding address, don’t give up in this case either. Ask income sources such as the household members’ employers or a government agency to complete a written income verification form for the year that you’re missing documentation, suggests Wallo. You should be able to locate income sources from the household’s rental application, income certification, or a prior annual recertification. With luck, the manager who took the household’s rental application had the household head sign a consent, or release, authorizing the income sources to give you this information.
If you can’t get the needed documentation, write a memo to the file describing the efforts you took to get it.
Mistake #3: Utility allowance miscalculations. Another mistake that’s fair game for auditors is miscalculating a unit’s utility allowance. If the household pays directly for utilities such as electricity, gas, water, or rubbish removal, IRS utility allowance regulations require you to include a utility allowance in the calculation of gross rent. The allowance is based on annual cost estimates from utility companies for comparable units (unless the building is financed by the U.S. Department of Housing and Urban Development or receives assistance from the Rural Housing Service, in which case the allowance is set by the agency). Auditors can check your files to make sure you made these calculations correctly.
Managers make mistakes when figuring utility allowances and gross rents, says Maryland CPA Wallace Scruggs. “Often, these are just rounding errors that amount to only a few dollars,” he says, “but they still constitute non-compliance.” Auditors who uncover utility allowance miscalculations must file a Report of Non-Compliance with the IRS.
> The fix. Spot-check your files to catch errors. If you catch a utility allowance miscalculation that resulted in a rent overcharge, refund the overcharge to the household with a letter explaining the refund, says Scruggs. If the household that was overcharged has moved out, send the refund to the household’s last forwarding address. If it comes back from the post office, send the refund check to the housing agency, suggests Scruggs, with a cover letter describing what happened. Then write a memo to your file describing what you did to fix the problem.
Use Memo to File to Document Your Efforts
If you find a mistake in a household file, trying to fix the error is just half the job. You should also draft a memo to the file telling potential auditors what you did, advises Scruggs. Otherwise, your efforts may go unnoticed, and you could be blamed for a prior manager’s misdeeds.
A memo that documents your efforts to fix a problem and to prevent it from recurring can favorably impress auditors—and the IRS, says Scruggs. Your memo to file should cover the date you found the problem; the nature of the problem; what you did to try to fix it; and how you plan to prevent the mistake from recurring.
If a prior management company made the mistake, your memo should include the date that your company took over responsibility for the site and its files. That should keep your company from being tainted by a prior company’s mistakes.
Wallace Scruggs, CPA: Principal, Housing Trust of America, 6851 Oak Hall Ln., Columbia, MD 21045; www.housingtrust.net.
Cara Wallo: Senior Tax Credit Allocation Officer, Virginia Housing Development Authority, 601 S. Belvidere St., Richmond, VA 23220; www.vhda.com.
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