By: Joe Romagnoli, Managing Partner
Because of the increased attention not-for-profit organizations are currently experiencing by the public and the government, financial audits have become progressively more important. Audits not only provide organizations with a fair assessment of their organization’s financial health, but can also reveal vulnerabilities such as weak internal controls, insufficient cash reserves and poor investment policies. By preparing in advance, and understanding compliance policies, not-for-profit organizations can ensure that their organizations undergo a successful financial audit.
Generally there are two types of financial related audits: an internal audit and external audit. An internal audit is a function of your board’s fiduciary responsibility to the organization and is performed by an “inside” auditor, such as your Treasurer or Chief Financial Officer. In contrast, an external audit is conducted by an independent financial professional, outside of your nonprofit organization. This type of audit is completely separate from an internal audit. Although external audits are optional for not-for-profits in some states, they’re required in others, so it’s critical that you check the rules in your state.
In an external audit, a Certified Public Accountant (CPA) examines your organization’s financial statements and issues an opinion on whether those statements offer a fair picture of your finances and adhere to generally accepted accounting principles. To support this opinion, the auditor tests underlying records such as your not-for-profit’s bank reconciliations, accounts payable records and contribution classifications. The auditor also evaluates your organization’s internal controls.
When selecting a CPA, it’s critical that not-for-profits choose an external auditor who has no relationship to the organization. For example, if a board member has a spouse or close friend who also happens to be a CPA, it’s a conflict of interest for them to perform your organization’s audit.
Also, most nonprofit organizations will select qualified board members to serve on the finance or audit committee. Those committee members typically are financially knowledgeable people who provide oversight of your organization’s reporting and internal controls. The audit committee’s primary role, besides selecting external auditors, is to maintain open communication with internal and external auditors to discuss audit processes and results. The committee should also confirm internal controls are in place throughout the year. The key to an effective audit committee is its independence and ability to bring to the table financial expertise specifically related to not-for-profits.
It’s important that your audit committee and staff make themselves available to answer any questions the auditor may have during the review process. Also, he or she will want to question board or staff members about your internal controls — including procedures for fraud prevention and detection.
Among the issues likely to be reviewed are how money and other resources are received and spent, what the organization does to comply with applicable laws and how financial transactions are recorded.
It’s extremely helpful to keep a running file of necessary paperwork so you’re prepared when the audit takes place. Throughout the year, you should communicate with your auditor as questions arise. Taking precautionary steps will ensure the audit process goes smoothly will help mitigate the risk of fraud.
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