I work with a lot of small to mid-sized nonprofits. One of the questions I’m often asked is “Do we really need an audit?” This is followed closely by “How do I find an auditor?” So, I put some thoughts together to help answer these questions.
An important first step to answering these questions is to understand exactly what an audit is. I think a good definition is:
A set of procedures and analyses performed by a CPA in order to be able to express an opinion on whether the organization’s financial statements present information fairly, in all material respects and in conformity with applicable reporting standards.
That’s a nice definition, but what does it really mean? What do auditors actually do and how do they do it.
What do auditors do?
- Based on their work, auditors determine whether statements are ‘materially correct’. They are not saying that the statements are perfect or even close to it, but rather that they are materially correct.
- Auditors make sure that statements are presented in a way that complies with applicable standards. This means they are presented according to generally accepted standards that the AICPA (American Institute of Certified Public Accountants) require on for-profit, nonprofit or governmental organizations.
- The auditor prepares statements that address the organization’s financial position, results of operations and cash flow along with notes that further explain the statements.
- Finally, the auditor expresses an opinion on the statements. That opinion could be that the statements meet these standards (unqualified opinion); that the statements mostly meet the standards (qualified opinion); that they decline from expressing an opinion (Disclaimer); or they can issue an opinion that indicates major issues with the statements (adverse opinion).
How do auditors do it?
- Inquiry: They ask questions about how the organization operates, internal control policies, and decision-making processes. Generally, they get to know the business and its principals better.
- Observation: Auditors observe how the management and staff handle financial information and documents.
- Physical inspection: They look at the documents, assets, and inventory that underlie the numbers in the statements.
- Third party confirmation: Auditors confirm balances or transactions with outside parties like clients, vendors, and banks.
- Examination: Auditors look at randomly selected transactions and the documentation supporting those transactions to ensure compliance with recordkeeping best practices and adherence to internal control policies.
- Analytical review: They review financial trends, comparisons to prior periods and industry standards as well as relationships among the different account.
What an audit is not
Financial audits are not meant to and often do not detect fraud or misdeeds. If you suspect that this is going on in your organization, you should contract a forensic audit, which is specifically designed to detect, document, and prosecute fraud, embezzlement or other financial misdeeds.
Does my organization need an audit?
- There are four primary reasons that an organization may need an audit.
- The organization may have a current or potential funder that requires audited financials in order to be considered for new or continuing funding.
- The organization works in a geographic or specialty area in which an audit is required by industry or government regulation.
- The organization’s bylaws may require annual audits.
- A bank or other lender requires annual audits.
Audits are expensive and time-consuming, so if you are not required to have one, you probably shouldn’t do it.
How do I find an auditor?
Finding an auditor is just like finding any other professional, but there are a few specific things to look for that are unique to auditors. Here are a few suggestions.
- Ask colleagues in other organizations for recommendations
- Check with board members or other professionals you work with for recommendations
- Does the firm or a division of the firm specialize in nonprofit organizations?
- Is the firm peer reviewed? A peer review is an audit of the auditors.
- Consider the following in narrowing down your decision: responsiveness to the request for proposal, relevant experience, availability of staff with professional qualifications, technical abilities, results of peer and external quality control reviews, and price.
What role does my board or audit committee play in the audit process?
One last thing that’s important to nonprofits when selecting and working with an auditor. Under Sarbanes-Oxley, nonprofits are required to have an audit committee, but not all nonprofits understand the duties and responsibilities of that audit committee. According to the National Conference on Nonprofits, board audit committees are responsible for the following.
- Drafts a charter for its own role and evaluates it periodically
- Is responsible for the appointment, compensation, and oversight of the independent auditor’ work
- Asks questions of management and the independent auditors to evaluate the audit process
- Receives reports directly from the auditors (not the executive director) in connection with the audit’s findings
- Receives and considers actions to recommend to the full board as a result of the recommendations from the auditors.
I hope this helps you better understand what an audit is and what it isn’t. I also hope that you are able to decide whether or not you need an audit and if you do, how to find the one that’s right for your organization.
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