Nonprofit Risk Assessment: Keeping your Organization Safe

Is your organization at risk? Nonprofit organizations face many risks including financial loss, reputational loss and income tax exposure. Yes I said income taxes—so much for being exempt, right? Let’s take a brief look at these risks and see how they can be addressed.

When it comes to financial loss, one of the most common risks is employee defalcation.  What is your defense? Internal controls. Although your internal controls are only as good as the employees who carry them out (after all, we’re all human), good internal control design will mitigate your defalcation risk substantially. One of the strongest of these internal controls is segregation of employee duties. When one employee has access to all aspects of an accounting cycle, from recording to authorizing to custody of the assets, wrongdoing can occur.  Not only should duties be segregated, but this segregation shouldn’t be limited to an organizational chart. Instead, enforce segregation of duties through accounting system access with good password controls.

In addition to asset loss, avoid unauthorized spending. It’s not just the government who likes to overspend. If your organization does not have good budgetary control or is not centrally controlled, or if your organization does not have good control over purchasing, you may wind up with employees committing the organization to significant liabilities. This often occurs through the leasing or procurement of goods and services that have not been planned or budgeted. To limit this exposure, good procurement and authorization controls should exist to enforce discipline and ensure rogue departments or chapters are not over committing the organization.

A nonprofit’s good name may be its most valuable asset and has a direct relationship to fundraising. Organizations need to ensure that their name is not misused. If an organization has chapters around the country, it is important that policies and guidelines are established for proper use of the name or trademark. In addition, controls should be established to monitor activities, thus ensuring that chapters are not misusing your organization’s name or giving it a mud bath.

Just because your organization is exempt from income taxes doesn’t mean you won’t pay income taxes. This condition is thanks to the unrelated business income tax (UBIT). While some organizations are very aware of this tax and actually pay income tax, others may be unaware that they are liable for profits made on activities unrelated to their exempt purpose. These rules can be complex, and organizations should consider a UBIT review to ensure that they are complying with the law. For those organizations that are paying UBIT, a UBIT review can be valuable in potentially reducing taxable income. Often, costs are not allocated appropriately, resulting in significant tax owed.

To mitigate risk, it’s a good idea to create a game plan to periodically review each of these high-risk areas to ensure your organization is not exposed.