Non-profit organizations face unique responsibilities and challenges, particularly in accounting and financial management. Maintaining operational efficiency and fulfilling the organization’s mission depend on effectively handling financial elements. Regular focus on financial accountability and transparency is crucial, including adherence to all relevant rules, regulations, and non-profit compliance requirements. In the following guide, we’ll review several aspects to help you in your journey.
Why Accounting Is Different For Non-Profits
Non-profits and for-profits operate differently when it comes to the monetary aspect of things. Non-profits operate in a business sense: they collect revenue, spend money on expenses, and track their overall performance. However, accounting for charitable organizations is quite different from accounting for for-profit businesses. These include key differences such as:
- Revenue sources: For non-profits, these revenue sources are donations, grants, and program service fees, to name a few. Since they are labeled as such, they are often faced with accounting challenges, unlike sales-driven income.
- Restrictions on funds: Donor-imposed restrictions may also be applied. Which means that such contributions may need to be tracked separately from other types of revenue. For example, grants may have restrictions in place where the funds provided can only be spent on specific items.
- Mission-driven focus: What makes a non-profit successful is not the financial elements. It’s how the resources are used to achieve the intended mission. Just because a non-profit may have more money than yours doesn’t mean they are automatically successful.
- Reporting standards: Non-profit compliance requirements are strict, and your organization must comply with them for the purpose of financial transparency. Failure to do so can lead to more scrutiny and an erosion of trust from your supporters and other funding sources.
Due to the unique financial structures of non-profit organizations, traditional for-profit bookkeeping methods are often unsuitable, leading to a high demand for specialized non-profit bookkeeping services. This guide aims to clarify the essential distinctions in accounting and compliance for non-profits, helping to prevent unintentional errors that could result in unnecessary audits.
What Are The Core Principles of Non-Profit Accounting?
Each non-profit organization should have an understanding of how its accounting system should operate. These core principles can help set the foundation for reporting that makes it easier for compliance and preserving trust in donors and other supportive resources. Here’s a look at these principles:
Fund Accounting
Non-profits use fund accounting since they are required to separate money based on the intent, along with any restrictions that may apply. For example, a donor may instruct your organization to disburse funds for scholarship programs. This means that the money is spent as intended and not for any other reasons outside of it. Fund accounting requires you to report those funds accurately, including how it was spent.
Revenue Recognition
Non-profits recognize contributions the moment they are received. This is done to ensure that the financial statements are accurate. Revenue recognition covers not only donations from individuals, but also other revenue resources as well.
Expense Allocation
Expenses must be categorized accordingly to ensure that the reports are accurate. The expenses to consider for categorization are as follows:
- Program services such as direct mission work
- Fundraising (donor outreach and development)
- Management and general (for administration purposes)
It is important that you are clear with the categorization, as it can help you with non-profit transparency. At the same time, it will be easier for donors to understand what the expenses are and what the purpose is.
What To Know About Meeting Non-Profit Compliance Requirements?
Each charitable organization, from the small upstarts to the much larger established groups, must meet non-profit compliance requirements both at the federal level and the state level (which may be dependent on where they are based). These standards intend to protect the donors, the beneficiaries, and the public in general, to ensure that the resources are managed properly and responsibly.
An organization needs to be aware of key compliance areas. These include the following:
- Incorporation & tax-exempt status: You may need to register with the state in which your organization is based, while also applying for 501(c)(3) or other tax-exempt recognitions that the IRS has available.
- Annual filings: This requires you to submit Form 990 (or variations like the 990-EZ) to ensure that your exempt status is maintained accordingly.
- Fundraising regulations: Consider looking into any charitable solicitation laws that apply to the state(s) you are operating in.
- Employment laws: Such laws apply to payroll compliance for employees (if you have any).
Please note that your tax-exempt status may be revoked if you fail to comply. Not only that, but public trust can also dwindle. Further proof that compliance (or lack thereof) can make or break your non-profit organization.
IRS Reporting For Charitable Organizations
One of the biggest cornerstones for financial compliance is IRS reporting for charities. To maintain tax-exempt status, the IRS requires your organization to file an annual report. The forms themselves are also reviewed by donors, watchdog groups, and others who may need to be in the know, like organizations that can provide you with additional resources and grants that can help further the mission.
For IRS filings, it is common to file a Form 990. However, larger organizations will typically utilize this to provide detailed financial information. For smaller organizations, the EZ version of Form 990 (990-EZ) is simplified for the same purpose. If you have gross receipts of less than $50,000 and are a very small non-profit, the 990-N (e-Postcard) is applicable for you.
Last but not least, a Schedule A is also a common filing that will ensure public charity status and public support. Non-profit transparency depends on these common forms being used to ensure that you are complying with the necessary rules, regulations, and laws. At the same time, stakeholder trust is also important to retain as it can help sustain your organization’s financial capabilities while also ensuring that you are able to continue operating accordingly.
Tips For Non-Profit Audit Preparation
Annual audits are likely for most non-profit organizations. If you have received government grants or exceeded specific revenue thresholds, there’s a higher than likely chance that an audit can happen. Audits can ensure that your organization can be trusted by donors and others alike. Even if you are not facing audits any time soon, preparation is key, especially when it involves:
- Gathering any supporting documents like financial statements, ledgers, and other applicable documentation.
- Make sure that donor-restricted funds are properly categorized (based on restrictions) and accounted for.
- Reviewing the organization’s governance practices and internal controls.
- Reconcile all accounts before the audit itself.
To ensure a successful audit, appropriate preparations are essential. It would be better for you to make sure you have the documentation on hand at all times (while it’s regularly updated). It’s better to be prepared as you go rather than hastily put everything together at the last minute, which can be challenging and even stressful.
To effectively prepare for an audit, your organization should establish a clear plan. Ensure all documents are properly filed and categorized. Conduct monthly account checks and reconciliations to maintain accuracy. Following these steps will ensure your organization is well-prepared when an audit occurs.
What Are The Financial Best Practices That Non-Profits Should Follow?
The financial best practices that non-profits should follow are important for their long-term sustainability. Whether you are a small organization or a larger one, it is important to make sure you follow these accordingly. They include the following:
- Segregation of duties: Rather than have one person handle it all, certain aspects of financial transactions are handled by trusted employees. For example, one person can handle the reconciliation responsibilities while another reports the incoming donations.
- Regular reconciliation: Bank accounts and ledgers need to be reconciled every month. This can be beneficial for the sake of transparency while also preparing you for audits that may occur.
- Cash flow monitoring: Operating expenses are part of the financial picture. As a rule, you’ll want to have reserves that allow for 3 to 6 months’ coverage for operating expenses.
- Budgeting & forecasting: Make sure you create a realistic budget and make the necessary adjustments accordingly.
- Consider technological tools: These include the use of accounting software. Some may be specifically designed for accounting for charitable organizations.
- If you’re stuck, seek advice: Our advisors at The Quantify Group can assist you with any questions or concerns you may have about non-profit accounting.
These best practices will help you utilize the necessary resources effectively and efficiently. In addition, it can make compliance a lot easier, so you can reduce the risk of fraud, mismanagement, and other types of scrutiny.
What Should You Know About Non-Profit Tax Compliance
Non-profits may enjoy tax-exempt status, but they won’t be exempt from all taxes. Going a bit further, non-profit tax compliance requires your organization to understand the obligations at both the federal and state levels. As such, here are some taxes that apply to non-profits:
- Unrelated Business Income Tax (UBIT): This covers income from activities that are not directly related to the mission. As such, it can be subject to taxation.
- Employment Taxes: If your non-profit organization has employees, you will need to withhold and remit payroll taxes.
- State & local taxes: Depending on the state you operate in, you may be subject to tax exemptions that pertain to property or sales that might require annual filing.
Proactive compliance with tax requirements and laws is crucial for non-profits to avoid expensive penalties and maintain public trust. The Quantify Group offers expert advisors specializing in tax compliance to help organizations navigate these complex regulations and prevent future issues.
What Tools & Systems Can Be Used For Accounting For Charitable Organizations?
Charitable organizations have access to many tools for simple accounting. There is specialized software that offers features for fund accounting, grant tracking, and donation management. When selecting the best fit, you should consider the key features.
- Grant management
- Restricted fund tracking
- Templates for board reporting
- Easy integration with other fundraising platforms
- Tools for budgeting and forecasting
The right systems and tools can be used so that compliance is much easier while improving overall efficiency. For your organization, you’ll need to consider the idea of finding tools and systems that are reliable, get the job done, and are easy to use without worrying about breaking the budget.
Board Reporting For Non-profits: What Is Contained?
Your organization’s board of directors has the responsibility to oversee its financial health. That’s why you’ll want to be accurate with your board reporting for non-profits so that you make informed decisions as well as strengthen governance. When preparing board reports, you’ll want to be sure that the following elements are included:
- Statement of Financial Position ( or your balance sheet)
- Statement of Activities (i.e, Income & Expenses)
- Cash Flow Projections
- Program Expenses Ratios
- Key Performance Indicators (KPIs)
To ensure the board fully understands your non-profit organization’s financial transparency and gains confidence in its operations, all submitted reports must be accurate and clear.
Non-Profit Financial Transparency Tips For Organizations
While compliance is one piece of the puzzle of non-profit financial transparency, trust is the other. Without that trust, your organization may not thrive as much as it should. By following these tips, you’ll be able to preserve that trust while maintaining compliance:
- Publish annual reports with detailed financial summaries.
- Break down how the donations are used in terms of expenses (i.e, programs, administrative costs, etc.)
- Share Form 990 on your organization’s website.
- Be clear and effective in communication with donors, grantors, and others who may apply.
Transparency is crucial for any organization, as it builds and maintains trust with supporters. By openly sharing how your group operates and being forthright about its activities, you provide undeniable evidence that funds are being used effectively to achieve your mission. This commitment to honesty should be woven into the very identity of your organization.
To ensure transparency and demonstrate your organization’s impact, regularly share stories and testimonials from both beneficiaries and members of your organization.
Building a Compliance-Ready Culture
Compliance is fundamental to establishing a trustworthy non-profit organization and is closely linked to transparency. Cultivating a compliance-ready culture is essential for any organization aspiring to grow from a modest, unrecognized group into something more substantial. Key considerations include:
- Be sure to properly train your staff on compliance basics. This includes how revenue is reported, such as donations, categorizing restrictions, and so on.
- Make sure you regularly update any policies or procedures and review them accordingly.
- Regularly review financial controls and make adjustments, if necessary.
- Encourage whistleblower protections in case someone speaks up about possible unethical acts or similar situations.
What Can Professional Non-Profit Financial Advisors Do For You?
The Quantify Group has professionals who are familiar with the financial aspects that pertain to non-profit organizations. Whether it’s navigating the complex non-profit compliance requirements or something else, we can assist you with certain needs you may have. This can include, but isn’t limited to the following:
- Day-to-day bookkeeping
- Tax compliance and IRS filings
- Audit preparations
- Strategic financial planning
- Ensuring you are implementing the financial best practices wherever and whenever necessary
Managing non-profit bookkeeping doesn’t have to be a solo effort. With a team of financial experts and advisors specializing in non-profits, you can have peace of mind, knowing your finances are expertly managed.
Frequently Asked Questions (FAQs)
Non-profit organizations that work with The Quantify Group often ask us questions about accounting and compliance. We have fielded some of the most commonly asked questions to include in this guide as a way to assist you further. Here are some of the following:
How often should a non-profit review its financial policies and internal controls?
It is recommended that you review your non-profit’s financial policies and internal controls annually. However, if there are major organizational changes, you may need to review them as well to ensure that your organization remains compliant while reducing risks of scrutiny, loss of trust, etc.
What are some of the most common mistakes non-profits make in accounting and compliance?
Errors that are common in non-profit accounting and compliance include poor recordkeeping, missing filing deadlines, poor board oversight, and not segregating restricted funds.
How can non-profits maintain compliance with donor restrictions?
One of the best ways for non-profits to maintain compliance with donor restrictions is to include strong internal controls, use reliable fund accounting software, and regularly reconcile your financial accounts so that restricted funds are spent properly.
Can a non-profit work with a CPA to handle its accounting?
Even though it’s not legally required, your organization could work with a CPA with experience in non-profit accounting to handle the accuracy, compliance, and donor confidence elements. Please note that not all CPAs will have this kind of experience.
What could trigger an IRS audit for non-profit organizations?
Common triggers that can lead to an IRS audit may include inconsistent Form 990 filings, misuse of restricted funds, and excessive executive compensation, among others.
Are non-profits required to have annual audits?
Not necessarily. However, there are federal, state, and grant requirements that may mandate an audit if the organization’s revenue or funding exceeds certain thresholds. Regardless, it would be important for you to ensure you regularly document and keep the relevant records on file in the event an audit does happen.
What role does the board play in complying with audits?
Your organization’s board is responsible for oversight, ensuring internal controls are being followed, and approving audited statements.
What happens if an organization fails to file Form 990 on time?
If a non-profit organization fails to file Form 990, the IRS can impose penalties. In addition, if they miss three consecutive years, they can face automatic revocation of their tax-exempt status.
Can grant funders request their own audits?
Yes, private grants and even federal grants can require a single audit or a special compliance review if the funding exceeds a specific threshold.
Final Thoughts
Navigating non-profit accounting and compliance can be simplified with the strategies outlined in this guide. For further assistance, The Quantify Group is equipped to help your non-profit organization maintain compliance and manage its accounting requirements. Whether you need expert advice or hands-on support with complex tasks, The Quantify Group is ready to partner with you. Contact us today to discover how we can support your non-profit.
