For many nonprofit organizations, the word “audit” can evoke feelings of stress and apprehension. However, audits are a normal part of the nonprofit world, serving as a tool to validate financial practices, ensure compliance with accounting standards, and enhance credibility with donors, grantmakers, and regulatory bodies. Understanding the nonprofit audit process and preparing it effectively can transform the experience into a positive one, ultimately supporting the organization’s transparency and accountability.
Introduction
An audit is an official inspection of an organization’s accounts, typically by an independent body. For nonprofits, audits review financial statements and practices to ensure they are accurate and comply with generally accepted accounting principles (GAAP) and federal, state, and local regulations. This guide explains the nonprofit audit process and provides tips on how to prepare for a smooth and successful audit experience.
The Importance of Audits for Nonprofits
Audits are essential for nonprofits for several reasons:
- Enhance Credibility: Audits show donors, grantmakers, and the public that the nonprofit is transparent and accountable.
- Ensure Compliance: Audits help ensure that the organization is complying with tax laws and financial regulations.
- Improve Financial Management: The audit process can identify weaknesses in financial procedures and suggest improvements.
- Facilitate Funding: Many grantmakers require audited financial statements as part of the grant application process.
The Nonprofit Audit Process Explained
1. Pre-Audit Phase
The audit process begins long before the auditors arrive. Preparation is key to a smooth audit.
a. Understand the Scope of the Audit
- Audit Standards: Nonprofits are generally audited according to GAAP.
- Federal Requirements: If your nonprofit spends $750,000 or more in federal funds in a year, a single audit is required under the Uniform Guidance.
b. Choose an Auditor
- Selecting an Auditor: Choose a certified public accountant (CPA) or an auditing firm with experience in nonprofit audits.
- Engagement Letter: Once selected, the auditor will send an engagement letter outlining the scope, objectives, and timeline of the audit.
c. Prepare Internally
- Create a Timeline: Develop a timeline for pre-audit preparation, including when to gather and review documents.
- Assign Responsibilities: Designate staff members to be responsible for providing information and answering auditor questions.
2. Document Gathering and Preliminary Review
a. Gather Financial Documents
- Financial Statements: Include the balance sheet, income statement, and statement of cash flows.
- Accounting Records: Include ledgers, journals, bank statements, receipts, and invoices.
- Tax Documents: Ensure access to filed forms, like the 990, and any correspondence with tax authorities.
b. Review Internal Controls
- Evaluate Processes: Review your financial procedures and controls.
- Document Procedures: Have written documentation of all financial processes and controls.
3. Fieldwork
This is the phase when auditors are actively inspecting your records.
a. Auditor Requests
- List of Items: Auditors will provide a list of additional items they need to examine.
- Interviews: Auditors may interview staff to understand processes and controls.
b. Testing and Sampling
- Transaction Testing: Auditors will test a sample of transactions for accuracy.
- Compliance Testing: If required, compliance with specific grants or regulations will be tested.
4. Exit Interview
At the end of fieldwork, auditors will discuss their findings.
- Preliminary Results: Auditors share initial findings with key management and sometimes the board’s audit committee.
- Discussion of Issues: Any significant issues will be discussed, along with potential recommendations.
5. Audit Report
The final phase is the presentation of the audit report.
- Draft Report: A draft of the audit report is reviewed by management.
- Management’s Response: Management can respond to any findings in the report.
- Final Report: The finalized audit report is issued.
Preparing for the Audit: Tips for a Smooth Experience
1. Be Prepared
- Organize Documents: Have all requested documents organized and ready for review.
- Use Checklists: Many auditors provide a checklist of what they will need.
2. Communicate Effectively
- Pre-Audit Meeting: Meet with the auditors beforehand to understand expectations.
- Open Lines of Communication: Ensure auditors have clear points of contact.
3. Review Previous Audits
- Learn from the Past: Review prior audit findings and ensure previous issues have been addressed.
4. Engage Your Board
- Audit Committee: If your board has an audit committee, involve them early in the process.
- Board Review: The board should review and discuss the final audit report.
5. Educate Staff
- Prepare Staff: Ensure staff understand their role in the audit and are prepared to provide information.
6. Stay Compliant Throughout the Year
- Routine Checks: Regularly review and update internal controls and procedures.
- Continuous Documentation: Keep meticulous records throughout the year, not just at audit time.
Conclusion
Understanding and preparing for Nonprofit audit process can significantly reduce stress and lead to a more beneficial audit experience. By seeing an audit as an opportunity to improve and validate your financial practices, you can enhance your nonprofit’s credibility and ensure a higher level of financial transparency and accountability. Remember, a successful audit is not just about passing a test; it’s about demonstrating your commitment to stewardship and excellence in all aspects of your organization’s operations.
