Auditing Nonprofits: Three Issues Encountered By Auditors
By Vanessa Burnette
July 2004 (VSCPA) Auditors commonly encounter three issues while auditing nonprofit organizations: insufficient staffing of the accounting/finance department, weak internal communications and deficient application of internal control. These issues can affect the reliability of financial information reported by an organization, weaken the competitiveness of the organization at a time when donor pools are shrinking and create an environment for potential fraudulent activity. However, there are a number of ways nonprofits and their auditors can overcome such risks.
Inadequate staffing can also adversely affect the competitiveness of an organization at a time when donor pools are shrinking due to a sluggish economy. Too many tight deadlines may not give personnel sufficient time to research and focus on the full impact of proposed strategies for organizational growth. Also, an organization that fails to have an accounting expert on staff or work with an accounting consultant may appear to potential donors to be uninterested in carefully monitoring its own financial activities.
In addition, insufficient staffing of the accounting department can open the potential for internal fraud. A limited number of accounting personnel creates the need for personnel to take on more than one role within the department, leading to improper segregation of duties. Proper segregation of duties is a key element to minimizing fraud risk. Authorization of transactions, custody of assets and record-keeping functions must be separated so that unobserved fraudulent activity does not occur.
Organizations may need to analyze their own situations regarding the staffing of their accounting departments. If accounting/finance personnel are overburdened, it may be necessary to hire one or two more individuals. If full-time assistance is not necessary, then bookkeeping/accounting professionals who desire part-time work can be utilized. Outsourcing to a CPA firm is also a reasonable alternative.
To maintain competitiveness, make certain that at least one financial expert is on staff or acting as a consultant on a regular basis. To reduce the risk of fraudulent activity, maintain reasonable monitoring of the accounting department and the financial information that it supplies. Auditors familiar with the organization’s financial operations can offer other recommendations for effective solutions tailored to the specific needs of the organization.
Weak internal communications
How can communication problems affect the competitiveness of an organization? If the personnel in the accounting department are not made aware of specific grant restrictions, the nonprofit may not comply and thus jeopardize its ability to obtain grants. Future grants may be at risk if the organization is closely scrutinized by regulatory agencies and found to be seriously deficient. Potential and current donors may decide that it would be wiser to contribute to organizations that place more emphasis on the careful handling of the funds they receive.
An increased potential for fraudulent activity can be created when there is deficient communication within a nonprofit. If the accounting department is not adequately informed of the organizations’ various activities, questionable expenditures may not be identified, organizational assets such as inventory may not be sufficiently recorded or unusual transactions may go unnoticed. Even if these situations are identified, staff could fail to communicate the findings to those overseeing the organization, thus continuing a negative situation.
Organizations can overcome the risks related to insufficient internal communication by ensuring that the accounting department receives copies of all contracts and agreements, is notified of all oral transactions and is informed of the nature and purposes of all transactions. Auditors should communicate any weaknesses found in this area to the organizations’ overseers.
How can an organization begin to fix a severe communication problem? It may be necessary to request a joint meeting of key accounting personnel, management, the audit/finance committee and the auditor to gather a complete picture of the organization’s activities.
Insufficient application of internal control
A lack of adequate policies and procedures can adversely affect an organization’s competitiveness. For example, if those overseeing an organization do not conduct reviews of budgets, forecasts and prior periods on a regular basis, potential financial problems may not be identified until the audit, delaying corrective action.
Internal control inadequacies can increase fraud risk, such as when proper physical controls and segregation of duties are not maintained. If reviews related to financial performance and computer processing of information are not conducted on a regular basis, detecting unusual activities related to fraud is less effective.
Organizations should seriously examine their internal control structure to identify weaknesses, and those in oversight positions should regularly and actively verify the financial information reported to them. When auditors discover internal control weaknesses, they should expand audit testing to compensate for lack of controls and offer suggestions for improvement.
The issues of insufficient staffing of the accounting/finance department, weak internal communications and deficient application of internal control can be found in a variety of organizations, large and small, non-profit and for-profit. These issues can affect the reliability of financial information reported by an organization, weaken the competitiveness of the organization and create an environment for potential fraudulent activity. However, such risks can be overcome when the organizations and their auditors work together to find solutions.
VANESSA BURNETTE is a senior accountant with Stokes & Company, P.C., in Washington, D.C. She performs the roles of auditor, accountant and tax advisor for a variety of non-profit and for-profit organizations. She is an active member of the Washington Association Financial Management Roundtable and the VSCPA. She can be reached at firstname.lastname@example.org
2004 Virginia Society of Certified Public Accountants. All rights reserved. Reprinted with permission. Visit www.vscpa.com