20 Nov Construction Dollars and Sense
Tax and Financial Reporting
Briefly: The Construction Dollars and Sense for July introduced the updated IRS audit guide for contractors. Here are the things the agents will exam.
The IRS Audit Technique Guide (ATG) requires exam procedures for agents when auditing contractors There are dozens of items that agents are required to examine, reconcile, test, scrutinize, verify, inspect, probe, evaluate, audit, and ensure. Contractors should know in advance what to expect.
The ATG requires auditors of PCM contractors to: Analyze each component, which includes costs incurred, total estimated costs, estimated contract price, of the percentage of completion calculation for each contract for each year; Obtain a detailed accounting of all costs in the numerator and the denominator of the calculation; Verify that both direct and indirect costs are included; Obtain a detail of all costs included in the total estimated costs; Verify that no warranty costs are in the calculation; Verify that equipment costs that are in the denominator are also in the numerator as they are incurred; Reconcile the differences between the financial statements and the tax return including revenue recognition of CM contracts, recognition of losses, and the treatment of uninstalled materials.
The agent is required to: Review contracts in progress to determine the percent complete; Determine if contracts are complete under the 95-percent rule; Determine if claim revenue is properly recognized; Inspect billings, legal files, correspondence, and court records; Determine that all direct and indirect costs are charged to the contract.
The ATG requires agents to; Look for unreported income; Look at owners personal tax returns, lifestyle assets and court records to gain assurance of reported income; Look at partnership returns for possible receipt of assets other than cash; Understand the job billings and cost records to look for personal use of business assets; Sample invoices for delivery of building supplies to the contractors home; Review bad debts if a related party is involved; Understand and Document the business operations, method of accounting, internal controls, work in progress, and the duties of key personnel; Review construction contracts; Perform income probes for unreported sources of income; Compare the contract to actual costs charged to the job for diverted materials and unreported income; Question the contractor for bartering transactions; Establish the amount of currency that the taxpayer has on hand; Tour the business; Confirm the existence of assets; Test the internal controls by tracing a transaction through the entire accounting process; Tie the reported gross receipts to original source documents; Analyze the personal and business bank accounts to evaluate the accuracy of the gross receipts on the tax return; Evaluate the tax returns of owners for possible diverted funds; Determine if the alternative minimum tax is applicable to the contractor; Determine if non-deductible costs are improperly allocated to a contract; Look for unreported income from scrap sales and old account collections.
These are just some of the required and recommended examination procedures contained in the April 2021 updated ATG. Contractors should be prepared and know where any vulnerability exists.
Questions or comments? Contact Al Clark at 404-252-2208 or AClark@SmithAdcock.com. The information herein is general in nature and should not be construed as advice or opinion of Smith, Adcock and Company LLP. It should not be used as a substitute for competent advice which should be obtained from your Smith Adcock professional.