What Makes a Great Audit Committee?

With increased scrutiny on nonprofit governance, forming — and using — an independent audit committee has quickly become a best practice of better-performing nonprofit organizations.

A well-balanced audit committee typically consists of two to five members who bring a wealth of industry, general business, and financial knowledge and experience to the table. Best are individuals who have been directly involved in roles bearing immediate financial responsibility — such as CEOs, CFOs, bankers, public accountants, auditors and investment advisors — or who have supervised others in these roles.

At least one member of the audit committee should be a “financial expert.” To meet this definition, this individual, through education and experience, must:

•          Understand generally accepted accounting principles (GAAP).

•          Understand financial statements.

•          Understand financial risks.

•          Understand the impact of business decisions on the financial statements.

•          Be able to identify balance sheet risks.

•          Understand revenue recognition issues on the financial statements.

Note that if a financial expert cannot be found to serve on the committee, an outside consultant may need to be brought in to address issues that are beyond the scope of the members’ knowledge. The American Institute of Certified Public Accountants (AICPA) has an Audit Committee Matching System to help nonprofits find potential audit committee members with the necessary expertise. Visit www.aicpa.org for details.

How Should They Serve?

In a word: Independently. To be truly effective, an audit committee must be separate from the finance committee. This means that no staff members should serve as voting members, and no managers — not even the CFO — should be voting members of this committee.

Audit committee members should be able to resist any attempt by management to override or undermine their authority. And they should be free of any conflicts of interest with the organization. This includes recent employment with the organization, family relationships with management, and direct business relationships with the organization or its leaders.

How Should They Function?

Of course, audit committee members should function with integrity and an unbiased perspective. Just as important, they should operate with a healthy degree of skepticism. This means:

•          Not taking at face value what they are told about how the organization operates.

•          Being prepared to ask management hard questions about practices and policies.

•          Being comfortable coming to critical conclusions.

Look for Leadership

Audit committee members should exhibit solid leadership — from running the committee in a professional manner to serving as role models for the rest of the organization.

In particular, the audit committee chair is responsible for setting the tone of the group. He or she should work hard to prevent “group think” and collusion.

Rather, committee members should be encouraged to critically test, analyze and evaluate ideas on their own.

Why Have an Audit Committee?

The short answer is that an increasingly skeptical public is watching. IRS Form 990 now asks very specifically if an organization has an audit committee. A “no” answer begs questions from potential funders and others as to why an organization is not following a suggested best practice.

In addition, certain states require an audit committee if the organization solicits charitable donations.

Help Is Available

To help audit committees operate more effectively, the AICPA has compiled an Audit Committee Toolkit that includes actionable tools (matrices, questionnaires, RFPs, evaluations, how-to, etc.). Visit www.aicpa.org for details. Also, the Association of Certified Fraud Examiners (ACFE) offers guidance on fraud prevention, detection, investigation and establishing internal controls on its website at www.acfe.com.

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Please contact us for more information regarding audit committee selection.