Commercial Investment Real Estate July/August 2018 | Page 20

LEGAL
BRIEFS
IRS Audit Focus:
Are You at Risk?
As the IRS increases audit scrutiny of large land developers, best practice
companies reduce risk by modeling accounting method options.
by Diane Tinney
A
Dueling Accounting Methods
Land developers for long-term housing development contracts
sometimes use the completed contract method of accounting
instead of the percentage of completion method. Under PoC,
taxable income is recognized based on a contract’s cost to date
when compared to the total estimated cost of the contract.
Unlike PoC, CCM does not recognize revenue until the client
completes and accepts the contract. CCM allows for a higher
deferral of income, which results in deferral of taxes compared
to PoC. This could result in tax deferrals of millions of dollars
for large land developers.
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July | August 2018
Examining CCM
Prompting the current campaign, the IRS believes that some
developers, particularly residential developers, have been using
CCM incorrectly. For example, developers who gross $10 million
annually can use CCM only under a home construction contract
that extends beyond a single year. However, some developers are
deferring all gains until the entire development is completed, not
just the home construction projects.
The overall objective of the IRS LB&I Land Developer
CCM campaign is to ensure compliance with CCM account-
ing standards. The IRS is taking a three-pronged approach to
enforcing compliance:
1. Giving specialized training to revenue agents assigned to
work on the issue;
2. Issuing warning letters to those deemed noncompliant; and
3. Following up on audits, when necessary.
Given the IRS attention and approach to the issue, land
developers must take proactive action to protect themselves. A
wait-and-see approach is not a viable option; it could open the
possibility of a costly audit. The Financial Executives Research
COMMERCIAL INVESTMENT REAL ESTATE
n Internal Revenue Service audit can be a terrifying,
expensive proposition. For large land developers, an
IRS campaign is examining the completed contract
method of accounting for compliance risks.
This IRS campaign is designed to ensure that land developers
are complying with Internal Revenue Code Section 460, which
states that they generally are required to report taxable income
under the percentage of completion method.