There are a lot of good CPAs out there. Many with decades of experience and professional accomplishments. But when it comes to finding an HOA CPA for your homeowners association, it might be more challenging than you thought.
Many folks unfortunately believe that CPAs can answer all tax questions and prepare any type of tax return. In theory, this is correct. However, in reality it doesn’t work like that.
Many CPAs will “specialize” in a specific area. It may be partnerships, S-Corps, real estate, or simply individual tax returns. CPAs will need to do additional education and research in order to cross over into a different field of tax.
So even though many CPAs may have the capability of filing an HOA tax return, they simply don’t have the experience. When you don’t have the experience of doing anything in life it clearly makes it more challenging.
HOAs have tax situations that are very unique. Through various IRS statutes, the tax criteria can be complex. In addition, HOAs are prevalent in certain states. If a CPA works in an area that has limited HOAs, then the demand will not be there. So CPAs will simply stick to the type of returns that they know best.
Let’s take a look at 5 questions you should ask any CPA you interview:
1) Do You Understand Taxation of Homeowners Associations?
One of the unique tax characteristics of an HOA is the ability to file form 1120-H. We have taken a close look at an example of an HOA tax return in other posts. This is unique to homeowners associations and also includes filing of timeshare associations and condo associations.
But in addition to filing form 1120-H, HOAs also have the ability to file a standard form 1120. Most CPAs would have experience filing this form because it is the standard form for a C-Corporation. But an HOA CPA needs experience with other filing requirements (including condo assoc tax returns).
The filing of form 1120 is more complex than filing form 1120-H. In addition, many CPAs don’t realize that they have the option to pick and choose which form to file in a given year. This is determined based on the profit and loss of the HOA in addition to the risk tolerance (more about this later).
2) Have You Ever Seen Tax Form 1120-H?
Form 1120-H is not a complicated form. It is governed by IRC Section 528. Any net income (aside from the $100 standard exemption) is at a flat tax rate of 30%.
The form separates out income and expenses relating to exempt and non-exempt activities. Discussion of the specifics of the form are outside of this post. But needless to say, the form is not a typical form that a CPA completes. When I took the CPA exam I don’t remember one question on it.
Filing of this form is an annual election that the HOA makes. The election should be made by the due date of the return, which includes extensions.
3) Do You Understand the Risks of Filing Form 1120?
Over my career as a CPA I’ve heard other CPAs discuss the advantages of filing form 1120 for an HOA. Proponents of filing form 1120 basically make one argument. This is the fact that the first $50,000 of income on form 1120 is subject to a 15% tax rate. This is in contrast to 30% tax rate for form 1120-H. But the CPAs fail to address one main issue and that is the audit risk associated with form 1120.
No longer does the IRS publish statistics on HOA tax returns. Based on prior statistics, approximately two-thirds of HOAs file form 1120-H as compared to form 1120. If you look at the numbers, an HOA often pays lower tax by filing form 1120. But when you consider the audit risk of filing the form that may change their view.
Many HOAs will not notice a small tax savings afforded to them under form 1120. However, if they are audited they could be subject to a higher tax liability, including penalties and interest.
I would estimate that somewhere between 80 to 90% of the audits relating to HOAs relate to filings under form 1120. Accordingly, form 1120-H is a very safe form to file. Many CPAs just don’t understand this important distinction.
4) Do You Understand Exempt and Non-Exempt Function Income?
Exempt income is not subject to taxation. This is unique to HOA tax returns. Exempt function income is income received in the specific function of the HOA itself. This is generally a vast majority of it’s income and includes member assessments.
Exempt income is derived by the members that are served by the HOA. It cannot come from members acting as “customers” of the HOA. Any assessments and fees that relate to a specific common activity qualifies. But any charges for providing services do not.
5) Do You Have The Time?
I am not trying to make any excuses for CPAs. But in many situations, we can be a complacent group. Thanks to the complexity of the Internal Revenue Code, many taxpayers need an HOA CPA to assist them throughout the year.
Because of time constraints during tax season, many CPAs simply do not have the ability or desire to take on more clients during tax season. If the CPA desires to take on additional clients, they will typically stay with what they know. Branching off into a different area of expertise (like HOA tax filings) is just not something that appeals to them.
So How Do You Find An HOA CPA?
Just ask these 5 simple questions and you are off to a great start. Once an HOA realizes that not all CPAs are the same what are they to do? They can do one thing – plenty of research. There are numerous resources available online and at local associations.
With a little due diligence, they can locate an HOA CPA that can file HOA returns and assist the HOA with other reporting requirements.