HOA Audit FAQ

HOA Audit
HOA Audit

1. Are HOA audits required?

The short answer is, “Yes.”

Lenders can require audited or reviewed financial statements before granting sizeable loans to HOAs. Insurers can require audited or reviewed financial statements before granting coverage to board members for director and officer liability.

The long story is that one has to piece together unrelated sections of the Texas State Statues to conclude that HOAs are required to be audited. The word audit doesn’t even appear anywhere in the Texas Statues that govern cooperative associations.

Title Six, Chapter 251 Subchapter H
http://www.statutes.legis.state.tx.us/Docs/BO/htm/BO.251.htm#251.353

However, the statutes do make associations keep records in accordance with standard accounting practices and submit a balance sheet and income statement to members at annual meetings. It also says, “A committee of members who are not principal bookkeepers, accountants, or employees of the association shall report on the quality of the annual reports.” The, “not” clearly rules out a self-assessment. The words, “quality of the annual reports”, implies that an audit and not merely a review is required by the statues. A review is limited to testing reasonability but does not test quality.

A separate title five of the Texas Statues authorizes only CPAs licensed in the state of Texas to attest whether a balance sheet or income statement is in accordance with standard accounting practices. ()

Title Five, Subtitle A, Chapter 901, Subchapter A
http://www.statutes.legis.state.tx.us/Docs/OC/htm/OC.901.htm#901.003

2. Are HOA audits needed?

Embezzlement by board members or community managers has occurred and harmed HOAs. Only California requires HOAs to insure against theft by the board. A search for the word, “insurance”, in the Texas Statues governing associations can find no instances of the word, “insurance”. Typically, HOAs don’t require bonding of those who collect and deposit assessments or pay vendors with HOA funds leaving homeowners at risk of their hard earned dues to theft.

An independent audit gives homeowners a greater degree of assurance that the HOA fairly represents its financial condition and has effective internal controls.

3. What does the auditor audit?

The auditor inspects assets and debts to validate their existence and compares recorded values to fair values. Assets are typically cash in checking accounts, investments in reserve fund accounts, and common area furniture, inventory, equipment, buildings and land. Debts include trade payables and loans taken out for un-funded projects.

Internal controls are also reviewed for how transactions are recorded. Transactions include deposits of HOA dues assessments, payments to vendors, acquisition and depreciation of assets, and payments of principal on loan balances versus payments of interest expenses.

The auditor also contacts a statistically representative sample of financial institutions, vendors and others listed as sources of revenues and expenses to independently verify each item selected for sampling..

4. Who sets the standards that govern the audit?

An audit guide for HOAs is available for $22 by calling the AICPA (American Institute of Certified Public Accountants) at (800) 334-6961 or (800) 248-0445 (in New York State). Mention product number 012481. The guide is for CIRA (Common Interest Real Estate Associations) which includes HOAs.

All CPA firms practicing in Texas must also register with the TSBPA, (Texas State Board of Public Accountancy) so each firm member undergoes a peer review process mandated in the Texas State Statutes. The peer review process is where the auditor gets audited. Not every audit or work performed by the CPA is selected for peer review, but the number of audits selected for review can be expanded if the initially selected audits were deficient in meeting auditing standards outlined in the peer reviewer’s checklist. The AICPA provides a 47 page checklist document entitled, “Not-for-Profit Audit Engagement Checklist”, to assist in the review. The auditor can also be hauled before a hearing to if a deficiency is found in the review of their audits and lose their license to practice if the deficiency is deemed to be significant.

5. When is it appropriate to change auditors?

When an HOA flips from builder to owners, the receiving board often seeks a new auditor as part of the transfer process to ensure an independent assessment of the builder’s financial data.

A change in management companies or a desire to keep a long-standing management company on it’s best behavior can also be a rationalization for a fresh auditor.

When over 10% of an auditor’s income comes from auditing the same management company used by the HOA, the HOA may seek out an auditor who is less reliant on the HOA’s management company as a source of income.

The HOA should be alert for situations that compromise an auditor’s independence and change auditors when an auditor or close family member or business associate of the auditor acquires property in the HOA or is involved with the operations or ownership of the management company.

Auditors can create the need for a new auditor by retiring or selling their practice to another auditor.

6. Is it good to keep the same auditor or re-bid each annual audit?

Insurance companies have data that prove frequent changing of auditors is a bad sign. Reluctance to resolve or insistence to keep secret embarrassing findings is seen by insurers and the audit industry as a more typical cause for changing auditors than all other causes listed above under, “When is it appropriate to change auditors?”

Auditors buy their errors and omissions policies from the same insurance companies who make it their business to track how often auditors are changed. A new auditor every three to five years or less will increase quotes from auditors to defray the risk of dealing with clients who are historically proven to be more prone to hide illicit on-goings.

Embarrassing findings can often be resolved with honest intent between when an audit is initiated during the year being audited and before the end of the year being audited. Issuance of the audit report can also be delayed to allow time to for the auditor to test on-going effectiveness of corrective processes implemented. Such flexibility leaves little excuse for management or a board to not work with an auditor over a period spanning at least two fiscal years. Depending on the size of an organization, the scope of unfavorable audit findings can be so vast that progressive effort can span two or more years to complete.

In order to stay independent from management, auditors are prohibited from personally altering internal records of an audit or review client or personally implementing internal processes and internal controls. The most an auditor is allowed to do is offer their findings and illustrate examples of for corrective action. Changing an audit firm makes it easy for management to avoid implementing any necessary corrective actions or adjustments. Changing auditors also adds cost for the next auditor to re-discover and re-explain the same findings. Keeping consistent auditors for at least three to five years allows the audit firm to follow-up and build progress risk assessments towards resolving findings that were already reviewed with management in prior years.

7. How can I reduce my HOA’s audit cost?

The HOA focus is best directed to benchmarking the HOA’s audit fees with similar HOA’s audit fees. The HOA can then ask their auditor to explain a higher cost and/or match a lower cost.

The HOA may also ask an auditor to provide the HOA board with a list of adjustments that were required during the audit. The HOA should review the adjustments with the management company and ask the management company to incorporate the internal processes and controls necessary to ensure that the same adjustments are not required in the next year’s audit.

One way auditors reduce their cost is by going paperless. Payroll to manually archive and retrieve paper files is the largest savings once files are only a few mouse clicks away. “Paperless” practices limit paper use to only the original signed copies of engagement letters signed by clients. Additional savings from not having to buy labels and label makers or folders, filing cabinets, rent office space and light-up and air-condition filing rooms will far offset the cost of a good scanner and hard drive.

The HOA should insist that their management company also strive to be as paperless as possible to help reduce cost of accessing and transferring data to the auditor.

8. What might make an audit cost more than initially expected?

When an independent verification solicited from a bank, a vendor or customer of a balance item selected for sampling disagrees with the current records, the protocols governing the audit require the auditor to expand the sampling.

The HOA can often reduce the cost of the adjustments by insisting that the management company provide the bookkeeper adequate time to learn and make the required adjustments so that the adjustments are made by the bookkeeper at the bookkeeper’s lower hourly rate instead of being continually reminded by auditor of the required adjustments at the auditor’s higher hourly rate.

Homeowners can self-inflict higher costs by allowing their board and management to ignore inadequate internal controls deemed worthy of disclosure by auditors. Such findings left unresolved will expose the HOA to higher costs not only for subsequent auditors but also higher interest rates from lenders and premiums from insurers. Until statues are in place to hold HOA board members more accountable to association membership, homeowners need to take active roles in their homeowner associations when audits disclose inadequacies.

9. What is a reasonable cost for an HOA audit?

The wide ranges presented below are due to the wide difference that two HOAs with identical revenues can have in the number of accounts requiring statistical sampling, the condition and format of the internal records and the level of cooperation provided by the management company and HOA to the auditor.