Tips to Avoid Misstatements in Affordable Housing Intercompany Transactions

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We frequently get questions from affordable housing managers regarding the reconciliation of intercompany accounts and confirmation of balances between business units. Intercompany transactions are not unusual for developers with multiple properties, but they can result in misstatements on the balance sheet without proper internal controls.

During the planning phase of an audit, we often identify intercompany transactions as an area of heightened audit risk, particularly when performing audits of consolidated financial statements. Your management policy should require monthly intercompany account reconciliation to catch all differences regularly. In the preparation of consolidated financial statements, we will seek to eliminate all intercompany transactions, which can take a significant amount of time for multiple entities.

If your organization does not perform intercompany account reconciliations on a timely basis, the audit team may identify a significant deficiency or material weakness in controls.

Here are a couple of examples of intercompany transactions in which lack of monthly reconciliation could result in either a significant control deficiency or material weakness in the audit findings. These examples may help you determine if there is more than a remote chance of misstatement in the resulting financial statements under your current controls.

Significant Deficiency Scenario

The organization performs regular cash transfers between entities to finance normal operations. There is not a process in place to ensure monthly reconciliation of these intercompany accounts to ensure that inter-company receivables and payables match.

Management does investigate large-dollar intercompany account differences and prepares a detailed monthly variance analysis of operating expenses.

The audit team may conclude that this approach represents a significant deficiency because the controls are designed only to detect material misstatements. They may not detect misstatements that are more than inconsequential to the organization’s bottom line.

Material Weakness Scenario

In this scenario, the organization has a wide variety of intercompany activities that range from transfers of cash to corporate charges for costs incurred on behalf of affiliates.

Reconciliations of intercompany balances are not performed on a timely basis, and as a result differences in intercompany accounts are frequent and significant. Receivables and payables don’t match, making the consolidation process more difficult since eliminations of inter-company balances require investigation of the cause of differences. Alternative controls are not in place to investigate significant intercompany account differences.

The audit team would likely identify a material weakness in controls because misstatements have frequently occurred, and compensating controls are not effective or are nonexistent. This scenario meets the definition of a material weakness.

Tips for Timely Intercompany Account Reconciliation

Whether or not consolidated financial statements are prepared, it is important to match intercompany balances in order to verify that receivables and payables are correctly stated on each company’s financial statement.

Management should first have a policy in place requiring monthly reconciliation of intercompany accounts and balance confirmation as well as processes to ensure that the reconciliation is performed.

Automating reconciliation through software can be part of the solution, as well as training staff on how to flag intercompany transactions and reconcile them in the system. Accounts to reconcile can include intercompany receivables and payables as well as intercompany revenue and expense accounts.

If you have questions about accounting methods for intercompany account reconciliation, contact us at LvHJ.

Next: Preparing for Your Single Audit

See our Affordable Housing & Real Estate Services.

Source: PCAOB



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