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When one nonprofit considered moving away from having an annual audit to having a review, the board wanted a legal opinion before making a decision. They sought out nationally-recognized nonprofit attorney Tom Silk, who has generously shared his letter with Blue Avocado readers:
Dear _____ [CEO]:
You have asked me to advise you and the board of _______ whether it should obtain an audit or review of its financial records for FYE June 30, 2009.
Background
There is currently no federal requirement mandating financial audits of charitable organizations, with one exception: OMB Circular A-133 requires an annual audit for organizations that received $500,000 or more in federal grants. Until recently, there was also no state requirement that charities be audited. In the last decade, several states, including California, have enacted laws requiring annual audits of charities whose revenues equal or exceed a certain threshold. California’s law puts the threshold at $2 million.
Although your organization is incorporated in ______, which has no mandatory audit requirement, its principal place of business is in California, generating sufficient contacts to subject the organization to California’s mandatory audit law. To complete the picture, we should also take into account a "growing trend for charitable organizations to comply with the highest standard of accountability and transparency -- whether or not required by law."
Comparing an audit and a review
As Independent Sector’s Panel on the Nonprofit Sector observed, "Financial audits can be a substantial expense for many charitable organizations, depending on the size, scale and complexity of the organization’s operations." A review, on the other hand, "offers a less expensive option while still providing the board, regulators, and the public with some assurance of the accuracy of the organization’s financial records." [4]
________, the audit partner at _______ assigned to your organization, has estimated that a review would cost 55 to 60% of the cost of an audit, putting it in the $15,000 to $16,500 range.
The key difference between an audit and a review is that the audit requires the auditor to obtain independent confirmation or verification of financial information. The goal of a review is to provide assurance (without such confirmation or verification) that the financial statements do not contain any material errors or departures from GAAP. In a review the CPA will make inquiry of management and conduct an analytical review to assure that the numbers make sense. The written financial statements made by the CPA in a review, according to ______, "would be the same -- and look the same -- as an audit except without the additional assurance of an audit."
Recommendation
Charitable organizations have not been immune from investment underperformance or severe revenue shortfalls in this past year. When I am asked by a California charitable client whose revenue puts it under the threshold requiring an audit, whether it should obtain an audit or a review, my advice is that the review should provide the charity, and its funders and constituents, with sufficient comfort and assurance about the financial condition of the charity, and, if the charity is faced with severe budget constraints, a review rather than an audit is the prudent choice. However if management or the board suspects fraud or other improper financial activity then, from a fiduciary standpoint, an audit is a must.
I offer the same advice to you and to my colleagues on the board. The organization is indeed suffering from the current economic malaise, and I am not aware of any suspicion of fraud or other improper financial activity at the organization, hence, I recommend that you obtain a review rather than an audit [emphasis added].
However, falling below the audit threshold depends on a reliable calculation that gross revenues for the year now closed are less than $2 million. For FYE June 30, 2008, the gross revenues of the organization were a robust $4 million. I would not abandon the notion of an audit without first obtaining from our CPA a preliminary written confirmation that the gross revenues for FYE June 30, 2009 are likely to be less than $2 million.
Respectfully submitted, Thomas Silk
Tom Silk is a leading attorney in the fields of nonprofit and philanthropic law, and has written many books and journal articles on U.S. and international nonprofit law. He accepts selected cases from nonprofits and philanthropies, and practices at Silk Nonprofit Law in San Francisco, California. He is also a member of Blue Avocado's Leadership Council.