Avoiding a Troublesome Audit

Audits are a lot of work in the best situations, but sometimes they can be downright painful.  Nonprofit audits can be delayed and deadlines missed if support for some accounting issues is not carefully planned. Here are a few of the areas that can cause delays and give all involved a case of heartburn.

Valuation of investments: Depending on what type of investments your nonprofit organization carries, this can be simple or quite difficult. Debt and equity securities should be recorded at fair value. Fair value for stocks and bonds traded on a national exchange is easily determinable, but if you have investments in hedge funds, private equity funds, funds of funds, or bank common/collective trust funds—collectively termed “Alternative Investments”—it can be more difficult.

In 2006 the AICPA issued a practice aid called Alternative Investments – Audit Considerations to help auditors determine how to audit the fair value of these so-called alternative investments. It is important to keep in mind that the fair value determination should be made by management and not the auditor. The trouble can come when management relies solely on investor statements. The practice aid requires auditors to dig deeper and understand what the underlying investments of these investment vehicles are, and how the investment fund is determining fair value. These considerations should be discussed with your auditor in advance, but management should plan on contacting the investment fund or an investment advisor to request audited financial statements of the alternative investment and an SOC-1 Report (Service Organization Controls Report), if available. The combination of these documents will provide information on how the underlying investments are valued and evidence that they are in accordance with GAAP. Other investments may present similar issues if your organization has a policy of recording at fair value. Oftentimes, these other investments consist of real estate. You will need evidence to support this value, which will consist of appraisals or a broker’s opinion of value. Plan to get this information in advance of the audit.

Non-Cash Gifts: Similar issues may occur when you receive non-cash gifts. These gifts should be recorded at fair value on date of gift and can consist of real property, private company stock, or in some cases, an entire business. Valuations should be planned well in advance to avoid delays. Also, it is wise to discuss the qualifications of the chosen appraiser with your auditor so they are comfortable relying on this specialist.

Defined Benefit Plan Pension Assumptions: If your organization has a defined benefit pension plan, it is important to discuss the discount rate you and the actuary determine with your auditor. If the auditor disagrees with this rate after the actuary has completed a report, that report may need to be redone, causing delays and additional cost.

Income Taxes: Don’t forget about income taxes. The pesky unrelated business income tax rules can be complex, and are easily overlooked. The IRS has been aggressive of late, and many things you may have assumed are not taxable may indeed result in taxable income. Discussing all of your organization’s activities in advance with a tax specialist should prevent issues from arising in the future.

While many aspects of an audit can be troublesome, adequate planning and close contact with your auditor can prevent surprises.