Remaining transparent and open is crucial to being a successful nonprofit in the eyes of stakeholders, donors, and the public. One way to demonstrate transparency is through your financial statements via an independent audit. But before committing the time and resources, your organization should first determine if an audit is necessary. You have other options, such as a review, compilation, or preparation engagement that could satisfy financial transparency at less cost to your organization. This article will discuss the factors in determining whether an organization needs a financial statement audit and how best to prepare for that audit.
Do you need an audit?
There are multiple factors to consider when determining if an audit is necessary, including:
- Internal requirements: Organizations have internal documents that can dictate their financial reporting requirements. An organization’s bylaws might state that a financial statement audit is required annually for the organization to remain transparent with donors.
- Charity registration requirement: The state where you are registered might require an audit based on revenue or other financial metrics. For example, in New Jersey, a registered nonprofit organization is required to attach a certified audit with its charity registration renewal each year if its gross revenue exceeds $1,000,000.
- Grant funding requirement: Organizations that expend more than $100,000 in combined federal and state funds in a fiscal year require a Generally Accepted Government Auditing Standards (GAGAS) Audit, frequently called a Yellow Book Audit. Additionally, organizations that expend more than $750,000 in combined federal and state funds in a fiscal year require a Single Audit.
- Grant Application Requirement: At times some grantors require a financial statement audit
regardless of the amount awarded to ensure trustworthiness relative to the funds. This could
come in the form of a requirement to include your most recent audit with an application in consideration of grant renewal.
Understanding the audit process
Once an audit has been determined necessary, the next steps are to understand the audit process
and properly plan for it. An audit involves a thorough review of financial records, internal controls,
and compliance with other requirements to ensure that financial statements are fairly presented in
accordance with the applicable accounting standards. Here are some tips to help you prepare for a
successful audit:
- Maintain accurate financial records. Accurate and up-to-date financial records and reports are essential for a smooth audit. Accounts should be reconciled and reviewed by management and/or the board of directors on a regular basis not only to ensure proper documentation for an audit but to assist in identifying errors and discrepancies that can be addressed prior to the audit.
- Be cognizant of changes in accounting standards. In recent years, the Financial Accounting Standards Board (FASB) has put many new standards in place, including ASC 606 Revenue Recognition and most recently ASC 842 Lease Standard, that have had significant impacts on nonprofit organizations. It is important for management to stay up to date on new standards as they enter the pipeline so the organization can properly prepare for them. Some new standards can be complicated enough to require additional training of accounting personnel prior to implementation.
- Engage professional auditors. Selecting a reputable and experienced audit firm is essential for a thorough and unbiased examination of financial statements. The board of directors and/or audit committee should seek recommendations, conduct due diligence, and ultimately choose an audit firm with a track record in nonprofit auditing. The process of selecting an auditor can take one to three months, so getting started early is key.
- Develop a timeline and establish responsibilities. As part of the process of engaging an auditor to perform a financial statement audit, the auditor will provide an engagement letter laying out the terms of the engagement, including expectations, responsibilities, start date, and expected issuance date. It is important to review and agree to the terms laid out and make sure that your accounting department is aware of the timeline and the expected fieldwork dates.
- Prepare for the auditors. An auditor typically prepares a document request list prior to the start of an audit, listing what they need and expect to receive prior to and during the scheduled audit fieldwork. Here is a checklist of some requests to expect for individual accounts:
- Reconciliations for all bank and investment accounts
- Aging schedules for accounts receivable and payable
- Schedule of capitalized assets along with the related capitalization policy
- Schedules and statements for debt and other long-term liabilities
- Schedule of donor restricted net assets
- Schedules of major sources of revenue
- Schedule of expenses allocated by functional categories
Preparing for a nonprofit financial statement audit requires careful planning, attention to detail, and a commitment to transparency. By understanding audit requirements, maintaining accurate records, staying up to date on new standards and pronouncements, engaging a professional, and understanding the timeline, responsibilities and audit requests, your nonprofit organization will be able to navigate the audit process successfully and efficiently. Proactive measures, clear communication, and a commitment to continuous improvement contribute to building a strong financial system of integrity and fair financial reporting.
For more information on nonprofit auditing efficiencies, see “Nonprofit Audits Made Easy or Easier” by Kathleen M. Clayton, CPA, PSA, Principal and Co-National Director of HBK Nonprofit Solutions.
Read the latest issue of Insights, the HBK Nonprofit Solutions quarterly newsletter.
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