Nonprofits

Navigating the world of non-profit audits can feel overwhelming — especially for organizations focused on their mission rather than financial procedures and compliance.

But understanding audit requirements and best practices is critical for maintaining transparency, accountability and donor trust.

During our 30+ years as non-profit auditors, we’ve seen nearly every situation under the sun, and answered thousands of questions about the non-profit audit process. Here’s a short Q&A we’ve compiled to help your organization boost its knowledge and prepare for potential audits with confidence.

What is an independent audit?

An independent audit involves a comprehensive review of a non-profit’s financial records, accounting systems and operational procedures by an external professional. This independent professional is typically a certified public accountant (CPA), working under a service contract rather than as an employee.

Throughout the process, the auditor examines the non-profit’s financial statements to verify their compliance with Generally Accepted Accounting Principles (GAAP), noting any discrepancies between the two. The GAAP are established by the Financial Accounting Standards Board and serve as the standard framework for financial reporting.

The CPAs at Magone & Co can also provide risk management services, due diligence and make recommendations for improving internal controls.

Why are non-profits required to undergo an independent audit?

Requirements for audits typically arise from:

• Government agencies requesting audited financial statements
• Non-profits spending $750,000+ in federal funds annually
• State/local government service contracts
• State charitable registration requirements for fundraising
• Private foundation grant application processes
• Banking requirements for loan approval

Whether your non-profit requires a review, compilation or complete audit of your financial statements, we’ll impart the appropriate level of assurance to satisfy your donors.

What states require an independent audit?

State audit requirements for non-profits vary significantly across state lines. Most require independent audits under specific conditions, like annual revenue or contribution thresholds.

The majority of states also require submission of audited financial statements when renewing charitable registration or non-profit status.

However, your non-profit may be exempt from these requirements even in states with audit laws, as exemptions often depend on specific factors like annual gross income or contribution levels detailed in each state’s legislation.

States with mandatory audits for all non-profits include California, Hawaii, Illinois, Maine, New York, West Virginia and Rhode Island. Find out the laws for your specific state.

Why should a non-profit conduct an audit, even if not required by law?

Beyond legal requirements, non-profits may choose to undergo independent audits for several reasons:

• Enhanced credibility. Voluntary audits demonstrate your organization’s commitment to financial transparency — a quality increasingly expected by donors and the public.
• Funding access. Many foundations, private funders and government agencies require audited financial statements as part of their application process, making audits necessary for accessing certain funding opportunities.
• Governance best practices. An audit provides your board with professional assurance that financial statements are error-free, helping them fulfill their fiduciary responsibilities. Audits also serve as guardrails to identify internal financial controls that may be necessary to avoid opportunities for misappropriation of organizational funds.

At Magone & Co, our goal is to instill confidence that your records are an accurate representation of the current financial condition of your organization

From compliance to assurance

Remember, an audit is ultimately a tool that helps ensure your non-profit has the financial foundation it needs to pursue its mission effectively for years to come. Learn why you may need an external auditor to get the job done right.

For specific questions regarding your non-profit organization, contact the expert CPAs at Magone & Company for guidance.

How are you handling your nonprofit’s audits?

Internal audits are a great way to promote fiscal responsibility, but they’re not always the most reliable. Because the auditor is an employee of the organization with a vested interest, it can be challenging to conduct a neutral analysis.

An external auditor, on the other hand, has no affiliation with your nonprofit. They are typically CPAs who are hired to conduct a thorough review of all financial statements to ensure they fairly represent the entity. In other words, they verify the work of internal auditors — which can be beneficial to your organization for several reasons:

1. Mitigate potential risks. External auditors are in a better position to spot discrepancies that can paint an inaccurate picture of your nonprofit’s finances. They can help board members identity any unethical practices or internal errors that could compromise the integrity of the organization.
2. Perform a thorough analysis. The auditor will delve into balance sheets and cash flow statements, as well as leases, mortgages, donations, budgets and more. They may also interview your board members and your employees to learn more about internal controls.
3. Offer outside expertise. Following their review, the external auditor will share their assessment with your organization’s audit committee. They may make recommendations on how to improve your processes and procedures, and safeguard assets. They will also answer any questions raised during the investigation.
4. Strengthen donor potential. Did you know that charity rating websites take into account whether a nonprofit undergoes an external yearly audit? Donors may be more likely to contribute to a charitable organization with this distinction.

Preparing for an external audit

An external audit is usually performed at the close of an organization’s fiscal year. To streamline the process, begin by compiling the financial documentation that the auditor will likely need. This includes:

• Banking and financial statements
• Budgets
• Donations
• Payroll documents
• Accounts receivable and accounts payable records
• Mortgage statements or leases
• Board meeting minutes

In addition, it’s important to share any factors or legal matters that may have impacted the organization’s reporting and recordkeeping. So be sure to collect any related documentation.

Guide your organization to a healthier financial future

Some nonprofits, because of the size of their annual budgets, or because they receive federal or state funding, are required by law to conduct an independent audit.

In other situations, a charitable nonprofit has a choice whether or not to conduct an independent audit. If you’re among the latter, you may choose to invest in an audit for the reasons mentioned above. If you need help determining if an audit would benefit your organization, give us a call at (973) 301-2300 to learn more.

Once you’ve completed the process of securing your nonprofit’s tax-exempt status, the last thing you want to do is lose it. If you lead a 501(c)(3) organization, be sure to familiarize yourself with the IRS’s tax-exempt rules and prohibited activities to keep your status in good standing.

1. Political campaigning. 501(c)(3) nonprofits are banned from participating in any political campaign for or against a candidate running for public office. This applies to campaigns on all levels, including federal, state and local elections.  Your organization will be in violation of the rule if it makes contributions to political campaign funds or issues public statements favoring or opposing a candidate. However, your nonprofit is allowed to engage in certain activities promoting voter registration and participation. It can also provide voter information, as long as it remains neutral.

2. Lobbying. Lobbying is defined as attempting to persuade members of a legislative body to propose, support, oppose, amend or repeal legislation. Essentially, your organization can’t try to convince a legislator to vote a certain way. As long as lobbying doesn’t represent a “substantial part” of your nonprofit’s overall activities, it generally won’t harm your tax-exempt status. But what you consider insubstantial may differ from the IRS’s definition. Consult your tax advisor for further details.

3. Unrelated business income. Nonprofits are not designed to make money, but that doesn’t mean your organization can’t earn income, as long as it furthers your tax-exempt mission and meets several other legal tests. A nonprofit’s unrelated business income is taxed at the same tax rate as corporate income. This tax is commonly known as the unrelated business income tax (UBIT) and is triggered when an organization’s annual income exceeds $1,000.

4. Annual reporting. You can’t simply apply for and receive a tax-exempt status, then forget about it. Your organization must also satisfy regular reporting obligations (with certain exceptions for most faith-based organizations), including filing these federal forms:

• • Form 990, Return of Organization Exempt from Income Tax
  • Form 990-EZ, Short Form Return of Organization Exempt from Income Tax
  • Form 990-N, Electronic Notice (ePostcard) for Tax-Exempt Organizations Not Required to File Form 990 or 990-E

Your state may also have reporting requirements, so check with your attorney or advisor for details.

5. Private benefit inurement. No part of a 501(c)(3) organization’s net earnings may inure to the benefit of a private shareholder or individual who has the opportunity to benefit. This prohibition is aimed at preventing insiders from profiting from their charitable services. Board members, officers, directors and other key employees all qualify as insiders. The ban against private inurement includes payment of dividends, unreasonable executive compensation arrangements and transfers of property to insiders for no or below-market value.

6. Stated purpose. Your tax status may be jeopardized if you stop operating in accordance with your stated tax-exempt function. This is harder for the IRS to monitor. In general, the tax agency only acts when a nonprofit admits it’s no longer following its own mandate. For example, an organization may come under scrutiny for failing to file annual reports. The IRS investigation may subsequently indicate that its exempt function has changed.

Protect your status as a nonprofit

Spend more time championing your cause, and less time worrying about the IRS. NJ CPA firm Magone & Company can help. Give us a call today at (973) 301-2300 to learn more.