e-Newsletter: Connect to Solutions
Preparing for the Audit
by Susan Griffin, Director of Operations, Center for Nonprofit Excellence
For many nonprofits the financial year ends on December 31. This means that audit preparation will begin shortly.
The purpose of an audit is to obtain an opinion from the auditors on the fairness (accuracy and validity) of a nonprofit organization's financial statements as a whole (not on individual accounts) and their determination whether the financial statements are in conformity with generally accepted accounting principles (GAAP). The auditors' primary concern is with the fairness of the organization's financial statements, not with the financial quality of the organization or the business decisions made by management.
Steps to prepare for the audit:
1. Know whether your nonprofit needs an audit
Many states require an audit for nonprofits which receive contributions over a specified amount (the amount varies from state to state) and/or nonprofits who hire a paid fundraiser. Contact the Secretary of State or Office of the Attorney General for regulations in those states where you raise money. In addition, nonprofits which receive government funding (Federal, State, or Local) are usually required to have an audit per their funding contract.
Your nonprofit may choose to obtain an audit even if you are not legally required to do so. Many funders commonly request audited financial statements. In some cases, they will accept statements prepared in-house. Some may accept a CPA review (a more limited examination of the financial statements by a CPA) in place of an audit.
2. Send out a Request for Proposal (RFP) for the audit
If you don't have an auditor identified yet, but know your organization needs an audit, consider sending an RFP to several firms/independent practitioners with the specifics of what you want and need in your audit. Knowing there is competition for your business may result in a lower price, and the Board of Directors (or Board Finance Committee) will be able to make a more accurate comparison.
Include in the RFP whether your organization requires an A-133 audit (required when the nonprofit expends more than $500,000 in federal funds in the fiscal year) or an audit in accordance with Government Auditing Standards (required when a nonprofit receives material government funding).
Board members, staff, and their relatives cannot perform audits because their relationship with the organization compromises their independence. You may be able to take advantage of (usually) reduced rates from accountants and request that the audit be conducted mid-year or later.
Click here to download a sample generic RFP. [Word]
3. Assign responsibility
IRS regulations now require nonprofits to have “financial expertise” on the Board of Directors, and either the Board or the Finance Committee must be designated (i.e. documented in the board minutes) to have responsibility of oversight for the audit. This also means they select the audit firm and receive the report on the audit from the firm. Many audit firms will provide a list of information that must be prepared for the audit; this tool can be used as a planning document and as a mechanism to assign responsibility for each item or task to be prepared.
4. Know what to expect
The auditor will issue an audit report addressed to the Board of Directors. The report should include the auditor’s opinion*; the financial statements: statement of financial position (balance sheet); statement of activities (income statement); statement of cash flows; and statement of functional expenses (mandatory for health and social service organizations). It will also include notes regarding the financial statements with information about accounting policies, contributions, functional expenses, loan and debt information, etc.
*The auditor is required to express an opinion as to whether the financial statements, taken as a whole, give a fair representation of the organization’s financial picture. The auditor states either an unqualified opinion or a qualified opinion. An unqualified opinion includes wording such as, “In our opinion, the accompanying financial statements present fairly the financial position of XYZ … in conformity with generally accepted accounting principles.” A qualified opinion is issued when the auditor believes the financial statements are, in a limited way, not in accordance with generally accepted accounting principles. A qualified opinion might include wording such as, “In our opinion, except for the omission of … the accompanying financial statements present fairly…” The auditor usually also prepares a management letter citing areas in the organization’s internal control system that are evaluated to be weak and suggest how these areas can be improved.
5. Get organized!
Gather information that includes:
Contributions: The Financial Accounting Standards Board (FASB) requires nonprofits to distinguish between contributions received with permanent restrictions, temporary restrictions, and no restrictions. It also stipulates that promises to give with payments in the future (pledges) must be reported at fair value. Make sure you have documentation available such as donation letters, grant correspondence and confirmations, etc., that stipulate whether or not there are restrictions on the contribution.
Expenditures: Ensure that all expenses have supporting documentation, such as an invoice, and documentation of all capital expenditures to determine depreciation. Usually documentation must be shown for expenditures that are materially different (by a dollar amount or percentage) from the prior year, and for prepaid expenses (such as rent, insurance, etc.).
Payroll expenses: Auditors usually need to see documentation of year-end balances of accrued benefit time (vacation, etc.), bonuses and contributions to retirement plans, etc.
Unrelated Business Income Taxes (UBIT): Nonprofits that are subject to UBIT should estimate year-end tax liabilities and ensure that timely tax payments are made to avoid penalties and interest.
Grant activity: Compare actual expenditures to the reimbursable budget levels for all restricted foundation and government grants and organize documentation of related expenses and reimbursements.
Supporting documentation: Gather related materials including original minutes of board and finance committee meetings, documentation of new hires and terminations, services provided in the fiscal year, and internal control policies including technology controls.
6. Develop a realistic timetable with the audit firm
Know what items both parties need in order to complete the audit and establish due dates for their completion.
7. Schedule all required communication with donors
This may include acknowledgment letters to donors and all summaries of accountability for donors, together with all other prior year compliance-related reporting requirements.
Contact Jeff Vengrow, Director of CNE Solutions at (330) 762-9670 or vengrow@cfnpe.org for more information or to speak with one of our staff.
Resources / Sources
Click here to download a sample generic RFP. [Word]
Audit Committee Guide for Not-for-Profit Organizations. McGladrey & Pullen, LLC; 2004.
Audit Guide for Small Nonprofit Organizations. Virginia Society of Certified Public Accountants Web Site. http://www.vscpa.com/Visitors/Nonprofit_Resources/Audit_Guide.aspx. September 2007. Accessed January 21, 2010.
Boatright, V. Church Audit - How to Prepare For a Nonprofit Or Church Audit. Ezine Articles Web Site. http://ezinearticles.com/?Church-Audit---How-to-Prepare-For-a-Nonprofit-Or-Church-Audit&id=1914726. January 23, 2009. Accessed January 21, 2010.
Coe, C. Maintaining Control: Annual audit a good idea for small nonprofits. Philanthropy Journal Web Site. June 29, 2004. Accessed January 21, 2010.
Making the Best Use of the Auditing Process. Nonprofit Quarterly. 2005(4).
Napoli, J. Nonprofit Audit Preparation Checklist. Napoli & Long, PC Web Site. http://www.nlcpa.com/aulist.htm. 1997. Accessed January 21, 2010.
Ruegg, D. Bookkeeping Basics: What Every Nonprofit Bookkeeper Needs to Know. Amherst H. Wilder Foundation; 2003.
Ruppel, W. Not-for-Profit Accounting Made Easy. Wiley; 2002.
Sumariwalla, R. Unified Financial Reporting System for Not-for-Profit Organizations. Jossey-Bass; 2000.
Wojcik, B. Preparing For Your Year-End Audit: Planning Ahead Helps to Avoid Surprises. Nonprofit Fiscal Fitness Web Site. http://www.blackbaud.com/files/Newsletters/FiscalFitness/2005/FiscalFitnessMay2005.htm#YearEnd. May, 2005. Accessed January 21, 2010.