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How a not-for-profit should prepare for a financial audit

Outside financial audits may seem like an extravagance to nonprofits working to contain costs and focus on their mission. However, undergoing regular audits allows an organization to identify risks early and act quickly to prevent problems. Independent audits also provide valuable reassurance to donors. Fortunately, audits can be performed efficiently with good preparation.

Draft an RFP

Start by drafting a request for proposal (“RFP”) from prospective auditors. The RFP should describe the nonprofit organization, its programs, major funding sources and the type of service(s) the nonprofit needs. Once an auditor is selected, the firm will provide an engagement letter outlining the scope of services to be performed and assign responsibility for various tasks to the nonprofit’s staff or the auditors.

The pre-audit meeting with the auditors comes next. Finance staff and management should attend, as well as representatives from the board of directors or audit committee. Those involved will draw up a timeline for the work, and the auditors can answer any questions about the information needed.

During this meeting, inform the auditors of any changes in the nonprofit’s activities from that included in the RFP, including new or eliminated programs, new grant reporting requirements, and changes to internal controls and staff.

Assemble documents

Collecting and organizing the documentation auditors need before the audit begins saves the auditors time and saves the nonprofit money. Usually auditors will provide a list of documents — such as financial statements, accounting records, physical inventories and investment-related documents — and the date when each item is needed. Keeping accurate, complete and up-to-date records throughout the year will make this step much easier. It is also beneficial to stay abreast of changes to the Financial Accounting Standards Board’s rules for nonprofits.

Auditors also need relevant organizational records such as articles of incorporation; financial policies; exemption letters; board meeting minutes; grant agreements, pledges and other funding documents; contracts; leases; and insurance policies. Maintaining and providing a current organizational chart is helpful too. Gather support for the footnote disclosures, as well, including documentation of significant estimates, pending litigation, restricted contributions and related-party transactions.

Anticipate issues

Don’t wait for auditors to find problems and ask questions. The nonprofit can expedite the process and reduce costs by identifying and addressing issues before the issues are raised by auditors.

After making year-end closing entries, reconcile schedules and workpapers to the trial balance and review for obvious anomalies. Double-check manual journal entries, accrual calculations, entries that require estimates, and in-kind donation valuations. Compare actual figures with budgeted ones and be ready to explain any significant variances.

Process can be affirming

Annual independent audits do not have to be stressful. By devoting proper time and attention to accounting throughout the year, the audit may even be affirming. 

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