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Statutory audit of real estate firms: Holding auditors to account

By RB Sinha
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publive-image Real estate in NCR | Photo courtesy: The Probe

With a series of real estate developers like Supertech, Jaypee Infratech, Logix, Three C and others located in the National Capital Region making a beeline for insolvency proceedings under Insolvency and Bankruptcy code (IBC) before the National Company Law Tribunal (NCLT) because of the default in the delivery of flats to homebuyers as well as repayment of loans to banks and others, attention is getting drawn to the role of Statutory Auditors in the audit of the real estate companies and their qualifications of the accounts so as to give timely warning signals to the stakeholders.

The real estate sector has been marred by a number of scams over the last ten years that have affected the lives and livelihoods of thousands of families adversely across the country. The real estate sector is one of our economy's most recognised and vibrant sectors, and therefore the central and state governments have come up with various initiatives to strengthen the governance in the sector. In order to protect the interests of the consumers and enhance transparency and accountability in the sector, the parliament of India passed the Real Estate (Regulation and Development) Act 2016 in March 2016, leading to the establishment of the Real Estate Regulatory Authority (RERA) in the states. Further, the Government of India also launched an ambitious plan to provide "Housing for All" by 2022 to fulfil one of the people's basic needs - housing.

publive-image Supertech Ecovillage 1 in Greater Noida, Uttar Pradesh | Pic courtesy: The Probe

As thousands of consumers have thronged to the RERAs across the country for redressal of their grievances, an attempt was made to examine the audited accounts of the real estate promoter companies/firms in the state of Bihar in terms of Section 34 (a) & (f) of the Act to find out whether there are systemic issues that need to be addressed in the sector.

It is observed that the auditing of real estate companies has not improved to the desired level as mandated in the auditing standards in the last five years since the passage of the RERA Act in 2016. Some of the auditing firms continue to conduct the audit in the pre-RERA ways though Section 143 (9) mandates each Auditor to comply with the auditing standards, as prescribed in Section 143(10) of the Act.

In this connection, SA 250 (Consideration of Laws and Regulations in an Audit of Financial Statements) & SA 315 (Identifying and assessing the risks of material misstatement through understanding the entity and its environment) prescribed by the ICAI (Institute of Chartered Accountants of India) are of particular significance.

Consequent to the passage of the Real Estate Regulatory Authority Act (RERA Act), the Statutory Auditors were required to keep the provisions of the RERA Act in mind while conducting the audit of the financial statements of the real estate companies with effect from the financial years 2016 to 2017 in terms of SA 250 and SA 315. However, such compliance was rarely observed in the audit reports of the Statutory Auditors.

In the course of the examination of financial statements of the real estate companies for three financial years in the state of Bihar alone, many issues of concern have been observed. A majority of the real estate companies with RERA registered projects until 30 June, 2021 have equity capital of less than Rs 5 Lakhs and have two Directors or less. In most cases, both the Directors are closely related. Most of them have equity of Rs two lakhs or fewer, with usually husband and wife as Directors. The inherent risk in investing in the projects of such closely related authority Promoters needs to be depicted in the audited accounts of such companies appropriately.

Such cases are also prevalent in other neighbouring states, including NCR in Uttar Pradesh. For example, the Logix Group and Three C group of companies created several dozens of real estate companies with two or three common directors and equity of rupees one lakh each during 2009 to 2012 to bid for plots of land (Group Housing, Commercial including Sport Cities) at Noida and after allotment of the plots, used these subsidiary companies to transfer or sell the sub-plots to third parties.

Most of the Promoter Directors left after 3-5 years, leaving the companies in the hands of their proteges. For example, Three C group of companies have appointed a Director having qualification of "High School" with five years of work experience (no details furnished) in 14 Companies as of date. He was also a Director in 18 other companies from 2018 to 2020. The only other director was 28-yrs-old with ten years of work experience. These companies include Three C Green Developers Pvt Ltd, the SPC of Sport City Plot (of 174 acre) No SC-01/78-79, Three C Universal Developers Pvt Ltd - whose credentials were used by the Three C group to garner many plots, including 2 Sport City Plots in prime sectors at Noida between 2010 and 2014.

Therefore, it is no wonder that none of the sports infrastructures envisioned in the Sport City plots, admeasuring more than 500 acres allotted in May 2011 and July 2014, have seen the light of the day. Further, the project Lotus Yardscape Phase-1 of Three C Green Developers has not moved much even after ten years of allotment of the plot. A few of such companies have now gone under insolvency proceedings before the NCLT.

Registered Development Agreements
More than 90 per cent of the real estate construction/promoter companies in the state of Bihar develop their real estate projects without acquiring their own plots of land. They generally enter into registered development agreements with landowners or a group of landowners on sharing basis with specified terms and conditions and have a definite time frame for the completion of the projects. Therefore, they have significant liabilities towards the landowners, but none of these are disclosed either in the notes of accounts or in the audit reports of the Statutory Auditors. At Noida, lease premium of the plots of lands is payable over ten years period to the Authority, but the outstanding amounts payable to the Noida Authority are rarely disclosed in the notes to the accounts or by the Statutory Auditors in their reports causing enormous sufferings to the homebuyers in later years.

Significant Share of Landowners in the Projects
In most of these projects, the share of landowners is significant, ranging from 40 to 60 per cent of the flats, duplexes, and constructed areas of the project. Further, the right of the promoter to sell his share of flats will arise when they complete and hand over the share of the landowner(s) within the committed time frame.

publive-image A residential apartment complex in Noida | Picture courtesy: The Probe

Similarly, in Noida, the cost of the land is required to be paid to the Authority within a period of ten years, whereas the projects are usually completed in three to five years. The Comptroller and Auditor General of India (C&AG), in its performance audit report on the functioning of the Noida Authority (December 2021), has stated that the Noida Authority had outstanding dues of Rs 18,633.21 crore for group housing plots as of 31 March 2020 of which Rs 14818 crores are due from 65 allottees after ten years of allotment of plots. These amounts include Rs 7281.89 crores from Unitech Ltd and Rs 2276.67 crores from the Amrapali group, amongst others. Therefore, the ownership of the flats would devolve upon the homebuyers only when the outstanding dues of the Authority on account of lease premiums of the plots are extinguished by the developers and the builders.

In their Financial Statements in the last five years, most companies have not disclosed their significant liability towards the landowners as agreed in the registered development agreements executed with the landowners for the development of the real estate projects or towards outstanding dues of the plots payable to the Authority. The Statutory Auditors have also not qualified/commented upon this crucial aspect in their audit reports of most of the companies.

Definite Time Frame
Under the agreement, the promoter/company is required to complete the project within a definite period ranging from three years to five years, failing which the promoter is required to pay penal rent/penalty at the prescribed rate to the landowners. There should have been a provision of liability on passage of the stipulated period or suitable disclosure ought to have been made in the notes to account for the information of all stakeholders. Even Statutory Auditors have failed to qualify/comment in this respect in their audit reports of most of the companies.

Sanctioned Plan
A real estate project can only be registered with the RERA if it has a sanctioned plan of the project from the competent authority. Each plan is valid for a definite period. It is observed that even after expiry of the validity of the sanctioned plan of the project, the companies do not make any disclosure in their notes to the accounts. Further, the Statutory Auditors have also not qualified or commented upon this aspect in their audit report. Continuance of construction of real estate projects without a valid sanction plan is illegal. Such a lack of disclosures also affects the interests of prospective homebuyers adversely.

Registration of New/Ongoing Project Mandatory
Under Section 3 of the RERA Act, no promoter is permitted to advertise, book, market or sell or offer for sale any flats or plots in any real estate project unless they are registered with the RERA. If any promoter contravenes the provisions of Section 3 of the Act, he or she is liable to pay a penalty up to ten per cent of the cost of the project. Suitable disclosures ought to have been made in this respect in the notes to accounts of companies having undertaken real estate projects. But the Statutory Auditors have failed to qualify/comment in this respect in their audit reports in most cases, even when proceedings have been initiated in RERA against a few companies.

publive-image The office of the Real Estate Regulatory Authority (RERA) in Uttar Pradesh | Picture courtesy: The Probe

Operation of Separate/Designated accounts
Under section 4 (2) (l) (d) of the RERA Act, seventy per cent of the amounts realised for the real estate project from the consumers and allottees shall be deposited in a separate bank account to cover the cost of construction and the land cost and is supposed to be used only for that purpose. Further the rules also mention that the promoter can withdraw the amounts from the separate account, only in proportion to the percentage of completion of the project and that the amounts from the separate account can be withdrawn by the promoter after it is certified by an engineer, an architect and a chartered accountant to the effect that the withdrawal is in proportion to the percentage of completion of the project.

It is not clear from the notes to the accounts or audit reports whether the provisions of Section 4 (2) (l) (d) of the RERA Act have been followed by the companies. It is also not evident whether the Promoter has got each project account audited within six months after the end of every financial year by a CA in practice to ensure that the amounts collected for a particular project has been utilised for the specific project and the withdrawal has been in compliance with the proportion to the percentage of completion of the project. Had these certificates been issued timely, such a beeline before the National Company Law Tribunal would not have been necessitated.

Percentage of works Not disclosed in any Projects
It was also found that there was no disclosure on the percentage of work completed in each of the real estate projects. Even in those companies that have booked revenues in the financial statements for 2018-19 & 2019-20, the project-wise details have not been given. The Statutory Auditors have also not commented in this respect.

Completion Certificate(CC)/Occupancy Certificate(OC)
Section 17 of the RERA Act mandates promoters to obtain CC/OC of the real estate projects from the competent Authority before registering the conveyance deeds of flats/plots and common areas in favour of allottees/association of allottees and handing over the possession of the flats/plots and common areas to allottees/association of allottees. It has been found that even in this respect there is no disclosure on completion of the project in the notes to accounts of the Companies. There is no qualification or comments in the Auditors Reports of the Statutory Auditors on the financial statements of the promoter companies.

Association of Allottees
Section 11 (4) (e) read with Section 17 of the RERA mandates the Promoters of the real estate projects to facilitate the formation of an Association of Allottees within three months of the booking of the majority (51 per cent) of flats/plots and execute the registered conveyance deeds of common areas in favour of association of allottees and hand over the possession of the common areas to them. Reports also indicate there has been no disclosure in the notes to the accounts of the promoter companies in this respect as well, and there were no qualifications or comments in the Auditors Reports of the Statutory Auditors on the financial statements of the promoter companies.

There is also no reference either in the Auditor's Report or in the notes to accounts that the companies have conformed to the mandatory provisions of the RERA Act as required under the SA 250 & SA 315 prescribed by the ICAI as mandated under Section 143 (10) of the Companies Act, 2013. Therefore, there is an urgent need to issue a direction to the Statutory Auditors conducting the audit of real estate companies under the Companies Act for submission of a detailed RERA Act compliance certificate to the RERA of the state while conducting the annual audit of such companies to protect the interest of the homebuyers and other stakeholders.

In response to the reference made to them, the National Financial Reporting Authority (NFRA), constituted under section 132 of the Companies Act, has suggested (August 2021) that the RERA may consider obtaining separate RERA compliances certifications from the Statutory Auditors of real estate companies as is the practice of certain sectoral regulators like RBI and others. However, NFRA could have prescribed such guidelines under Rule 3 b of NFRA Rules 2018 in the case of large real estate companies.

Further, as each state has a RERA, it would be appropriate if the Central Advisory Council of the Ministry of Housing and Urban Affairs (MOHUA) may prescribe necessary guidelines to Statutory Auditors to keep the provisions of the RERA Act in view and submit a compliance report to RERA of the state directly while conducting the annual statutory audit of the financial statements of the real estate companies to protect the interests of homebuyers and other stakeholders like banks and enhance the transparency and accountability of the real estate companies. This will go a long way to stem the rot in the sector.


RB Sinha, a 1983 batch Indian audit and accounts service officer, is a retired DG of the C&AG of India. He was a member of RERA, Bihar, during April 2018-December, 2021. Sinha has more than 35 years of experience in financial management and audit of government accounts.