How can I make my not-for-profit audit ready in four parts from an expert accountant
The Challenges of Not-For-Profits
Not-for-profits are some of the most important drivers of positive change in the united states. The not-for-profit hire over 12 million people all across the country, making it the third largest hiring industry in the US. Declaring a business as a nonprofit can have different types of benefits, the biggest of which being that the federal government does not implement income taxes on businesses declared as nonprofits. This can greatly impact the amount of capital required for a company to stay afloat, which is vitally important as many of these businesses rely on donor support, which can be an inconsistent means of cash flow and difficult to source. The road to becoming a not-for-profit is a long one with an intense declaration process, but once it is achieved a business has the opportunity to make a deep impact on its local community, and can do so without the concern of having to pay high tax rates to do so.
Nonprofits don’t have it entirely made for them, however, as since they are exempt from income tax the industry overall receives intense oversight from different governmental agencies. Nonprofits frequently receive federal aid in order to continue producing programming, and after three-quarters of a million dollars are received, a nonprofit will have to go through an audit. These strict compliance laws verify that US tax dollars are not being turned into someone’s personal piggy bank and that the capital is used for its intended purpose. There are other triggers for a not-for-profit audit, but the important element to understand is that nonprofits are audited frequently, so bulletproofing your not-for-profit financials keeps your business in compliance and safe from penalties.
So How can I make my not-for-profit audit ready? Here are four parts of the audit preparation process that you should do prior to your first audit, and check out our nonprofit audit-ready checklist for eight more insights.
How can I make my not-for-profit audit ready – Obtain
The obtain phase in preparation for an audit is an important first step in the audit process. We will be going through a full review of the financials of your business, so having all elements prepped and in front of you will simplify the next three steps. There are a lot of documents to have on hand when beginning this process, so here is a list of some of the materials you will want to have quick access to:
- All grant agreements, donor letters, contracts, etc. all ready and available for auditor review
- All 1099s, W2s, payroll tax forms, etc available
- All organizational documents available – board minutes, bylaws, grant proposals, funding reports, contracts, lease agreements, etc.
Not all of these documents are specifically for your own review to make sure you’re in compliance. Your auditor may want to corroborate any claims of fund usage with the appropriate paperwork as well. For example: Claiming that your nonprofit is spending “X” amount of its budget on its office lease can easily be corroborated by showing the lease agreement. We want to make sure that any major expenditures to your organization can be proven with the appropriate paperwork.
How can I make my not-for-profit audit ready – review
Once all the appropriate paperwork is gathered, the review phase can begin. This phase is exactly what it sounds like, reviewing the appropriate materials to ensure accuracy before confirming with the federal government. Some elements of your nonprofit that you may review include:
- Review grant and other receivables to ensure fully collectible and to ensure cash deposits have been appropriately deposited
- Review payables to ensure accuracy
- Review the statement of activities year on year to determine whether fluctuations are in line with the expectation or whether adjustments/reclassifications need to be made
There are of course other elements of your organization that should be reviewed pre-audit, but the most important elements are the receivables and payables your organization has done throughout the year. These need to be classified properly to confirm that compliance is followed through both state and federal levels of government.
How can I make my not-for-profit audit ready – Reconcile
Reconciliations should be an already implemented process that your organization goes through once a month in order to avoid backlogs in your bookkeeping. It’s critical for any organization to reconcile, but even more critical for nonprofits so that they can continue to validate where the capital gained is going, otherwise, they could be at risk of losing nonprofit status. Some of the consistent reconciliations your organization will go through include:
- Reconciliations to Investments and return
- Reconciliation of Credit cards
- Reconciliation of Vendor invoices
The bottom line is your books need to be balanced before an audit begins, and any unjustified outstanding accounts will prolong the audit process and most likely raise costs if using a hired third-party auditor. Keep things cheap and simple, reconcile your books.
How can I make my not-for-profit audit ready – Ensure
The final step of our four-part nonprofit audit preparation process is to ensure. We’ve gathered our documents, reviewed all material, reconciled any outstanding accounts, and now we must ensure that everything has been done with accuracy and care. Now is a great time to go back through on your second pass to confirm that everything you will be turning in to your auditor reflects your organization the way you want it. Listed below are a few additional items to consider when ensuring that your organization is audit-ready:
- Ensure bank accounts are fully reconciled with any stale or uncleared checks reviewed
- Ensure all fixed asset additions have been capitalized, ensure all disposals are recorded, and depreciation posted
- Ensure a schedule of net assets with donor restrictions is maintained with support for releases
- Ensure payroll expenses align to payroll reports (YTD etc)
There is a lot of double-checking we encourage that may come across as over-preparedness. We encourage this behavior for one simple reason, it’s better for you to catch an error than an auditor. If your federal auditor finds too many errors, it could be interpreted as intentional violations of compliance, resulting in fines or worse the revoking of your nonprofit status.
With your review complete and finances in order, congratulations, you are ready for an audit.
Why audits are important
The audit process can take its toll on the administrators and leaders of a not-for-profit organization, but it’s important to recognize that audits serve a critical role in the industry of bettering the lives of citizens. Without tight audit procedures and consistent demands to stay within compliance, there is a major opportunity for fraud to run rampant throughout the industry. As the US’s third largest hiring sector, fraud not only poses a major risk to those benefiting from local nonprofits but the employees of those nonprofits as well. If the government did not implement the audit process onto Not for profit organizations, then funneling money into the pockets of wealthy advisors or corrupt organizational leaders and away from the organization’s employees and programs would be fairly simple and difficult to catch. Less money to employees means fewer jobs, and fewer job opportunity leads to higher unemployment rates, damaging both the local and nationwide economy. So while the process itself is tedious, the reasoning behind the thoroughness is one that benefits all citizens as a whole.
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