Internal Audit Procedure in Real Estate Industry

Updated on November 30, 2023 03:59:05 PM

The real estate industry is a sector that is complex and dynamic and encompasses a wide range of activities, such as development, investment, management, and brokerage. Market fluctuations, construction delays, and tenant defaults are just a few of the unique risks that real estate companies are faced with. To identify and mitigate these risks, improve their operations, and ensure compliance with regulations, real estate companies need internal auditing as an essential tool.

Internal audit in Real Estate Industry can play a key role in developing and implementing new techniques, strategies, etc., such as entering new markets or expanding into new asset classes in real estate companies.

Given below are some parameters that help in assessing the internal controls, management and sale-purchases controls.

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Checklist of Accounts Department

Cash vouchers and bank vouchers

  • Check authorization, supporting bills/invoices, and accounting head.
  • Check cash receipts signature/acknowledgement and that all relevant columns are filled in.
  • Check that supportings are crossed as canceled after payment.
  • Ensure that payments are made solely on the original supporting documents.

Purchase vouchers

  • Check authorization, supporting documents (bill/invoice and GRN), purchase order rates, rejected quantity payment, accounting head, and all relevant columns.
  • Check that PV is passed as per PO terms and that purchase voucher is prepared only for original bills/invoices.
  • Check that bills/invoices are passed strictly as per PO terms.

Journal vouchers

  • Check authorization, supporting documents, supporting documents approval, accounting head, and all relevant columns.
  • Check that contractor bills are supported by work orders, approved by the person responsible for getting the work done, and approved/certified for payment by the user department.
  • Check that contract job bills relating to labor supply are supported by attendance sheets and transporter bills are supported by agreed rates and received copies of consignment notes.
  • Check that measurement books are signed and checked by the engineer in charge of the work and that entries of all running and final bills are made in the measurement books.

Advance to employees

  • Check outstanding amount in the trial balance for each employee, date since when the advance is outstanding, and list of employees whose advances have not been settled for a long period.
  • Ensure that an employee does not receive any more advance until he has cleared the previous outstanding advance.
  • Check that recovery is made from the salary of the employee when the advance is not settled by him within a reasonable period.
  • Check that recovery of installments in respect of loan/salary advance is made correctly on a monthly basis from the salary of the employees.
  • Check and make a list of employees who have left the company and their full and final settlements have not been made but debit balances are still appearing in their names in the advance to employees account.

Confirmation of balances

  • Obtain confirmation of balances with banks/lending institutions on a monthly basis and with creditors/debtors on a six-monthly basis.
  • Reconcile the balances in the creditors/debtors ledger account with the balances as per the party's books on a six-monthly basis.

Bank Reconciliation Statement (BRS) in Real Estate

A financial document that compares a company's cash balance in its accounting records to its cash balance as reported by its bank is known as a Bank Reconciliation Statement (BRS). To detect and prevent fraud, errors, and irregularities in the real estate industry, BRSs are crucial for internal auditing.

Auditor's preparation of BRSs for real estate companies involves comparing the company's cash balance in its accounting records with its bank's reported cash balance. To reconcile the cash balances, they investigate any discrepancies and make adjustments to the company's accounting records. BRSs can help to identify fraud, errors, and irregularities in the real estate industry.

Administration Department in Real Estate

It plays a crucial role in supporting the organization’s overall operations. It is responsible for a wide range of tasks including HR, Finance, Information Technology, and Compliance. Internal auditors assess the administration department to ensure the operational efficiency and effectiveness, also to comply with applicable laws and regulations. This is accomplished by reviewing policies and procedures, conducting interviews, reviewing documentation, and testing controls.

Below given are some of the activities that would fall under the Administration Department of an organization:

  • Security services
  • Housekeeping services
  • Courier services
  • Fixed Assets for maintenance/ repair
  • Fax machines/ Photocopy machines
  • Telephones lines
  • Hotel reservations
  • Visitors registration at the Reception
  • Travel - air/ taxi/ train

Fixed Assets Registration in Real Estate

A fixed assets register is a record of all the company’s fixed assets, including their cost, depreciation and location. It is important for an internal auditor to review the fixed assets register to ensure that all assets are properly accounted for and that there are no authorized additions or disposals.

The Internal auditor verifies that:

  • The maintenance and updating of a fixed asset register is done regularly.
  • The register contains specific information on fixed assets, such as quality, number, location, identification number, depreciation, rate, accumulated depreciation, original cost, additions, deletions and written down values.
  • Fixed assets have the same identification numbers as those in the register.
  • Proper authorization obtained from sales-purchases of fixed assets.
  • Physical Verification of fixed assets is carried out as per generally accepted accounting practices and procedures.
  • After approval from the appropriate authority, discrepancies observed during physical verification are corrected in the books of account.
  • The sheets that were prepared and signed by responsible persons, with the name, designation of employees, and verification data clearly mentioned, will be verified.

Dispatch of Goods and Receipt of Materials

The assessment of dispatch of goods and receipt of materials helps the organization to improve their internal controls and reduce their risk exposure.

Internal auditors review the dispatch of goods to ensure that it is efficient, effective and compliant with the necessary rules and regulations.

Dispatch of goods (Finished Products)

  • Receiving and reviewing dispatch plan.
  • Ensuring smooth dispatches
  • Reviewing dispatch report
  • Checking pending delivery status
  • Ensuring necessary papers are checked at exit gates
  • Verifying transporters wise truck status and penalty for non-provision
  • Checking truck loading weight and marine insurance status
  • Ensuring approved transporters and contracts.
  • Verifying weighing system and invoices.

Verification of Inward Material (Goods)

The verification of inward material helps in ensuring timely management of material in good condition. This helps in prevention of fraud, theft and losses.

The process of verifying inward material (goods) include:

  • Make certain that the weighment/counting is done in a proper and accurate manner.
  • Ensure that the freight consignment note has been stamped and acknowledges the quantity and condition of the goods received.
  • Examine the record of all incoming materials received from consignment, which includes the date, vehicle number, description, quantity, and other relevant information.

Quality Assurance

A systematic approach to ensuring that products and services meet customer requirements and expectations. Quality Assurance is important because it helps to reduce defects, improve performance and protect customers from harm.

Internal auditors review the quality assurance process to ensure its effectiveness. Some key areas to focus are as follow:

  • Examining the process for approving RM for use in the production.
  • Make sure that the procedure for quality testing of raw materials and finished goods is documented and adhered to.
  • Ensure that the quality assurance department is reporting to a management that is independent.
  • Verify that rejected raw materials and finished goods are not cleared under deviation later on.
  • Make sure that the testing samples are properly labeled and segregated.

Import Purchases in Real Estate

Import purchases are a significant part of the real estate industry, as many real estate companies rely on imported materials and goods for their projects. However, purchases can also be complex and risky for a number of reasons. One of the key risks to be assessed by the Internal auditor is to check whether the goods are arriving on time or not. Another risk to be evaluated is receiving damaged or defective goods.

The internal auditor reviews the following points during the auditing process:

Purchase Orders: The auditor should ensure that they are authorized properly with all the required information included. This information includes the name of the supplier, goods or services being purchased, the quality and price, delivery terms, etc.

Supplier Selection: One should verify that suppliers are reputable and that they have the necessary experience and expertise to deliver required goods and services. This involves reviewing suppliers references, financial statements, and quality control procedures.

Received Goods: Inspect goods upon arrival to ensure that they are in good condition and meet all specifications. Check for damage, defects and completeness.

Custom Clearance: Verify all custom duties and fees have been paid. This may involve reviewing custom clearance documents and reconciling them to the purchase order and invoice.

Accounting Records: Ensure import purchases and properly record it in the company's accounting system. Reviewing purchase orders, invoices and custom clearance documents to ensure that they are accurately reflected in the general ledger.

Property Management in Real Estate

This involves overseeing the operations, maintenance and administration of real estate assets on behalf of property owners or investors. This adds significant value to real estate investments. It maximizes the rental income, maintains property value, and enhances tenant satisfaction, which leads to tenant retention.

Major focus areas while auditing are as follow:

Tenant Leasing and Rental: Enforcing lease agreements while identifying and screening tenants, collecting rent, and enforcing lease agreements.

Property Maintenance: Keeping properties in good condition by arranging for repairs and maintenance, regularly inspecting them, and arranging for repairs and maintenance.

Financial Reporting: Preparing budgets and generating financial statements, as well as tracking income and expenses.

The company's business model may require auditors to focus on specific risks that are relevant, such as compliance with REIT regulations or risk management procedures for property management.

Transaction Verifications in Real Estate

Verification of transactions is essential to verify the accuracy, completeness and compliance with all due regulations and laws. Auditors may use variety of methods to verify transactions such as:

Reviewing supporting documentations: This includes invoices, contracts, and few other documents that support the transactions. Auditors will examine evidence to verify that the transaction took place and that the transaction's amount and terms were accurate.

Physical Inspection: During internal audit, an auditor should physically inspect the properties to verify that the work or services that were paid for were actually performed.

Using Data Analytics: Auditors may use data analytics to identify the trends and patterns in transactions. This can help auditors differentiate usual or suspicious activity.

Some specific verification procedures that an auditor may use for common real estate transactions are:

Property Purchase: Reviewing the purchase agreements, appraisal reports, and title report to verify the purchase was made at a fair price and the seller had clear title to the property.

Sale of Property: Ensuring the sales contract, closing statement and title report to verify that the sale was completed properly and the sale was completed properly and the sale proceedings were properly accounted for.

Rental: Review the lease agreement, rental income statements, and tenants deposits to verify that rent is being collected accurately and that tenants deposits are being handled properly.

Lease Audits

Lease audits are an important part of Internal auditing in the real estate sector. Their role involves ensuring that lease agreements are accurate and complete, and that the company is complying with all applicable laws and regulations.

Lease audits typically involve the following steps:

Review of lease agreements: Auditors review all lease agreements to ensure that they are accurate and complete. They also check to ensure that the terms of the leases are aligned with the company's business needs and that the company is getting a fair deal.

Review of lease accounting: Auditors review the company's lease accounting procedures to ensure that they are accurate and compliant with all applicable accounting standards. This includes verifying that lease liabilities and right-of-use assets are being properly recorded on the balance sheet.

Review of lease expenses: Auditors review the company's lease expenses to ensure that they are accurate and reasonable. They also check to ensure that the company is not being overcharged for rent or other lease-related expenses.

Review of lease compliance: Auditors review the company's lease compliance procedures to ensure that they are effective. This includes verifying that the company is complying with all applicable laws and regulations, such as zoning laws and building codes.

Lease audits can help real estate companies to identify and address any weaknesses in their lease management controls. This can help to mitigate risks, improve efficiency, and ensure compliance with all applicable laws and regulations.

Conclusion

Internal auditing in the real estate industry is a vital tool for bringing transparency, efficiency and compliance within the property management and its operations. Auditing plays a crucial role in safeguarding the financial integrity, mitigation of risks and enhancement in the values of real estate assets.

Internal auditors are instrumental in the industry's stability and growth by rigorously evaluating financial controls, lease agreements, regulatory compliance, and tenant relations. Organizations can benefit from their findings and recommendations by making informed decisions, addressing weaknesses, and optimizing processes, leading to better property performance and the protection of both property owners' investments and the well-being of tenants.

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FAQs on Internal audit in the Real Estate Industry

How does auditing in real estate contribute to risk management?

It helps in identification and assessment of risks related to tenant disputes, property maintenance, financial mismanagement and regulatory non-compliance, allowing organizations to implement risk mitigation strategies.

What are the key areas of audit in the real estate industry?

Internal auditors typically focus on lease agreements, rent collection, financial reporting, regulatory compliance, tenant satisfaction, etc.

How often should audits be performed in the real estate industry?

The frequency of internal audits varies but usually occurs annually. More frequent audits may be conducted for high-risk areas or when significant changes occur.

What is the role of an internal auditor in a real estate company?

The internal auditor’s role in the real estate sector is to ensure the business processes in a company are risk management compliant. The operating process includes assessing certain areas for compliance with relevant laws and evaluating its effectiveness.

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