Nonprofit Accountability

by Judy Murphy

The recent corporate scandals that rocked investor confidence and ultimately contributed to the dissolution of several major corporations and one of the world’s largest accounting firms didn’t just change the way corporations do business. They also taught important lessons on governance and financial best practices to the nation’s nonprofit organizations – both large and small.

The nonprofit sector has not been immune to problems. Highprofile controversies have plagued some large nationally recognized agencies, too. As a result, New York Attorney General Eliot Spitzer has pushed hard to bring for-profit standards to bear on nonprofit organizations. The New York State Senate also has introduced a bill, set to take effect this month, to protect against financial frauds by nonprofits. Tighter controls in other states are expected to follow soon.

Although the recently enacted Sarbanes-Oxley provisions do not require nonprofits to match the new accounting rules adopted by public companies, well-informed boards of directors are nonetheless pushing to adopt many of the new measures. If you serve on a not-for-profit board or are a large or concerned donor, you may want to consider the following for your organization:

•Develop, enforce and publicize a code of ethics.
•Ask the CEO and CFO to publicly attest to financials and the adequacy of internal controls.
•Increase the number of independent members on the governing board and ensure that several members have real expertise in finance and accounting.
•Establish an independent audit committee.
•Have all work by auditors approved by an independent audit committee.
•Minimize loans to executives and board members, particularly loans with provisions that forgive all or a portion of the loan principal.
•Create and implement a conflict of interest policy.

As a member of a board of directors for a not-for-profit organization, your primary responsibilities are to:

•Oversee the mission and ensure the not-for-profit stays true to it.
•Set policy and ensure the policies are designed to ensure compliance with all rules and regulations that govern the not-for-profit.
•Support and promote the organization.

Internal Accounting Control Systems
As a board or finance committee member, one of your most important jobs is to ensure that the organization has an effective internal accounting control system. Among other things, encourage close involvement of management and the board and create a clear segregation of duties. Have the executive director (or treasurer) receive the bank statements directly, reviewing the statements and cancelled checks before giving them to the accounting department for reconciliation. Also, make sure all incoming checks are restrictively endorsed upon receipt and deposited promptly or securely stored. Other good strategies include requiring dual signatures over a certain amount, making sure signed checks are mailed by someone other than the preparer, and having an independent party reconcile monthly bank statements. Encourage your organization to introduce appropriate recordkeeping and information systems, develop written policies and procedure manuals, and establish clear budgets with interim financial reporting.

Governance Responsibilities
A not-for-profit board and management should also verify their organization is complying with all rules and regulations. Check and double-check that:

•All required annual tax returns, payroll reports and forms and payroll taxes are all filed on time.
•The terms of all grants and contracts are being met.
•Fund uses comply with all donor restrictions and intentions.
•Registration with the appropriate regulatory agency is complete if your organization is soliciting funds in your state, by mail or through advertisements in other states.
•Adequate insurance is in place, including directors’ insurance for board members.
•The not-for-profit is adhering to the legal limits on lobbying (legislative activities).
•The not-for-profit does not engage in any political activity (support of a candidate for office).
•Personnel policies are appropriate, consistent and communicated to employees.

Investment Policies
In addition to office matters, boards also manage risk. Make sure a written investment policy is in place to manage risk in the investment portfolio. Key policy issues to be considered and addressed include investment objectives (should be different for operating funds versus endowment funds), asset allocation (specify ranges for cash, equities, bonds, etc.), permitted investments, prohibited investments, expected rate of return and spending policies.

There are several ways to determine a not-for-profit’s spending limit. One formula takes the expected return on the endowment less the rate at which the endowment fund must be increased to protect it from inflation. The balance is what can be transferred to operations. For example, if the expected rate of return is five percent and the inflation rate is three percent, only two percent would be available for operations. As the expected rate of return declines, less is available for operations. To “smooth out” the amount available for operations, not-for-profits often apply the percentage to a three- to five-year term or 36- to 60-month rolling investment average.

Conflict of Interest
A conflict of interest can occur when a board member makes decisions out of self-interest or when a not-for-profit enters into a transaction with a business or organization that has a financial connection with the board member or a board member’s family. If the latter situation exists, the board member should refrain from discussion and voting on the matters.

“Insiders” for a not-for-profit could include anyone from officers, directors and trustees or senior and middle management to major donors, close family members of any of the above, affiliated organizations, or businesses owned or managed by any of the above.

Boards should have written conflict of interest policies clearly outlining the organization’s guidelines. Conflict of interest questionnaires may also be utilized to regularly query parties. If uncertainty exists, legal counsel should be sought.

Serving on a nonprofit board of directors frequently represents a major time commitment, a financial pledge and, more often than not, a true labor of love. If you want to really help your favorite not-for-profit, help them institute best practices in finance, accounting and governance issues. You, your fellow board members, the organization and, most importantly, the people and communities you serve, will ultimately reap the benefits.

Judy Murphy, CPA, is the partner in-charge of the Not-for-Profit Services Group at Rubin, Brown, Gornstein & Co. LLP.

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“New York Attorney General Eliot Spitzer has pushed hard to bring for-profit standards to bear on nonprofit organizations ... Tighter controls in other states are expected to follow soon.”

Judy Murphy, CPA, Rubin, Brown, Gornstein & Co. LLP.

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