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Accounting & Audit

Nonprofit Audit Committees: Their Purpose, Significance, and Effectiveness

By April 23, 2015No Comments

With the ever changing economic environment and the increase in reports of financial debacles and alleged fraudulent activities, there has been an increasing demand for more effective measures of regulation in the nonprofit industry. Many of these concerns were answered with the creation of the Nonprofit Integrity Act of 2004 (“Integrity Act”), which included the requirement for certain nonprofit organizations to have financial statement audits.   The Integrity Act also requires the establishment of an audit committee.  An audit committee holds a vital role in the audit process as it is responsible for  overseeing the financial statement audit and the financial reporting and disclosures of the nonprofit’s financial statements.

Who make the best audit committee members?

When forming an audit committee it is important to consider who it should consist of. Members on the committee should have a high level of involvement with the stakeholders within the organization to ensure they fully understand the organization including its risks, environment and culture. Members of an audit committee must be independent of management in order to be truly objective in the discharge of their duties. The inclusion of at least one audit committee member with financial expertise is a highly recommended best practice. A financial expert is one who is knowledgeable in Generally Accepted Accounting Principals (“G.A.A.P.”) and nonprofit financial statements, can assess internal controls and procedures for financial reporting, and understands the function of an audit committee. It is important to include a financial expert so there is complete understanding when communicating between the audit committee, the nonprofit’s management, and the external and internal auditors. The remaining members of the committee should be comprised of two to five additional individuals with diverse backgrounds and experience in areas such as finance, industry, or leadership to obtain a balanced perspective as a whole. Lastly, someone will be appointed as audit committee chair. This role requires a strong, independent and competent communicator who is willing to ask tough questions of management and others in order to truly understand and ensure that the audit committee is focused on risk management and financial oversight of the organization and that the organization’s strategic direction is in line with reality.

What is the mission and responsibilities of the audit committee?

Once an audit committee is established, the next step is to establish and understand its mission as well as its responsibilities to the entity it works with. An audit committee’s mission should specifically revolve around the oversight of the conduct and integrity of financial reporting, inclusiveness of internal accounting and disclosure controls in the form of risk management, and communication with independent auditors, both internal and external. An audit committee’s responsibilities include maintaining independence, managing the independent auditor, establishing procedures for handling complaints, engaging third-party advisors when needed, and funding for outside auditor compensation and any other independent counsel it employs. Audit committees must provide oversight of management’s risk assessment. A key responsibility is to assess the nature and scope of risks, including fraud risk, applicable to the organization in order to effectively minimize it.

When should the committee meet and with whom?

As a committee, it is important to meet and communicate with the team to understand everything that is happening. It is recommended, at the minimum, that an audit committee meet with management and the independent auditors at least two to three times a year. It is important to meet at the start of an audit to gain an understanding of everyone’s expectations of the work to be done and it is just as important to meet at the end of the audit to discuss the results and proper action that need to be taken based on the conclusion of the audit. It is considered a best practice to meet not only as a group with management and the auditors, but also individually with key members of each group to allow individuals to freely speak about issues they may otherwise feel uncomfortable bringing up in a group setting. These meetings help the audit committee assess management’s tone and uncover issues that would otherwise go left unnoticed.

How should an effective audit committee be governed?

An audit committee should adopt a formal written charter that is focused on the mission of the audit committee. A charter’s primary purpose is to create a practical roadmap that helps an audit committee achieve its goals. The charter should document the scope of the audit committee’s specific responsibilities, how those responsibilities are carried out and the audit committee’s membership requirements. In asking how an audit committee should be governed, it is important to take into consideration self-review. Conducting an annual assessment of the committee’s own effectiveness is important as there is always room for improving quality and performance. An audit committee should also remain current in regard to technical guidance. Engaging in continuing education of the ever changing audit principles and rules will help better prepare an audit committee for the future.

Conclusion

As the rules of the marketplace and accounting requirements continue to change and progress, more risks arise and the financial, economic and ethical pressures continue to mount. With these changes, audit committees’ responsibilities will only widen and take on even more significance in ensuring the health and longevity of the organizations and board they serve. Establishing an audit committee leaves a positive impact on your organization as well as increases public confidence from potential donors. It helps an organization in achieving its goals and meeting its responsibilities to the members, donors and the general public.

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