Although failing to file a Form 990 with the IRS when required to do so is probably a more serious mistake, filing it with data errors isn’t recommended. Similarly, your not-for-profit should strive to be as accurate as possible when preparing accounting and other tax documents. Carelessness can cost you support from donors and grant makers and, in extreme cases, threaten your exempt status. Here’s how to avoid financial errors.

Follow processes and procedures

First, make sure your nonprofit has formally documented its accounting processes. All aspects of managing your nonprofit’s money should be reflected in a detailed, written accounting manual. This should include how to accept and deposit donations and pay bills.

Your organization may depend on accounting software for daily functioning. But even with the assistance of technology, mistakes happen. Your staff should follow certain procedures, such as double-checking entries and reconciling bank accounts, to ensure transactions entered into accounting software are complete and accurate.

Avoid common pitfalls

Next, keep an eye on unrelated business income (UBI). IRS officials have cited “failing to consider obvious and subtle” UBI tax issues as the biggest tax mistake nonprofits make. Organizations commonly fail to report UBI — or they underreport it. Be sure to follow guidance in IRS Publication 598, Tax on Unrelated Business Income of Exempt Organizations. And if you need more help, contact us.

Correctly classifying workers as employees (vs. independent contractors) is another area where nonprofits commonly make errors in judgment and practice. You’re required to withhold and pay various payroll taxes on employee earnings but don’t have the same obligation for contractors. If the IRS can successfully argue that one or more of your contractors meet the criteria for being classified as employees, both you and the contractor possibly face financial consequences.

For peace of mind

Finally, if your nonprofit doesn’t already regularly back up accounting and tax information, start doing so. Otherwise, your data may not be safe in the event of a fire, natural disaster or cyberattack. Back up data automatically using cloud-based or other offsite storage solutions.

For extra peace of mind, contact us. We can help prepare your organization’s tax filings and review financial statements for accuracy and adherence to Generally Accepted Accounting Principles.

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Whew! That’s probably your reaction when outside experts announce that their audit of your not-for-profit is complete. But even if auditors have left your premises and returned the documents they’ve reviewed, the work isn’t really over. Not only do your executive director and board need to review the audit report, but it may be necessary to address auditor concerns by making changes to your organization.

Review the draft

Once outside auditors complete their work, they typically present a draft report to an organization’s audit committee, executive director and senior financial staffers. Those individuals should take the time to review the draft before it’s presented to the board of directors.

Your audit committee and management also need to meet with the auditors before the board presentation. Often auditors will provide a management letter (also called “communication with those charged with governance”) highlighting operational areas and controls that need improvement. Your nonprofit’s team can respond to these comments, indicating ways they plan to improve operations and controls, to be included in the final letter. The audit committee also can use the meeting to ensure the audit is properly comprehensive.

Assess internal controls

The final audit report will state whether your nonprofit’s financial statements present its financial position in accordance with U.S. Generally Accepted Accounting Principles. The statements must be presented without any inaccuracies or “material” — meaning significant — misrepresentation.

The auditors also will identify, in a separate letter, specific concerns about material internal control issues. Adequate internal controls are critical for preventing, catching and remedying misstatements that could compromise the integrity of financial statements. If the auditors have found your internal controls to be weak, promptly shore them up.

Gather feedback

One important audit committee task is to obtain your executive director’s impression of the auditors and audit process. Were the auditors efficient, or did they perform or require redundant work? Did they demonstrate the requisite expertise, skills and understanding? Were they disruptive to operations? Consider this input when deciding whether to retain the same firm for the next audit.

The committee also might want to seek feedback from employees who worked most closely with the auditors. In addition to feedback on the auditors, they may have suggestions on how to streamline the process for the next audit.

Fiscal responsibility

Your donors, grantmakers and other supporters expect your organization to do everything in its power to ensure funds are used appropriately and responsibly. If you fail to act on issues identified in an audit, it could lead to asset misappropriation and seriously damage your nonprofit’s reputation and viability. Contact us if you have questions, require an audit or need help improving internal controls.

© 2022

So you forgot to file your not-for-profit’s Form 990, 990-EZ or 990-N with the IRS. It can happen — particularly with newer organizations that are still trying to get a handle on all the financial and regulatory requirements of running a nonprofit. However, if you forget to file three years in a row, you could face an automatic revocation of your tax-exempt status. This is serious because it means your donors can’t deduct their contributions. But it doesn’t have to be final.

Essential forms and dates

Assuming you lost your exempt status for failing to file, you can regain it with another filing. Talk to your tax advisor about submitting either Form 1023, “Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code” or Form 1024, “Application for Recognition of Exemption Under Section 501(a) or Section 521 of the Internal Revenue Code,” based on your type of nonprofit.

Smaller organizations that were eligible to file either Form 990-EZ or 990-N for each of the three consecutive years and that hadn’t previously had their tax-exempt status automatically revoked, can apply to have their status retroactively reinstated effective from the revocation date. To apply for this retroactive reinstatement, file the applicable form within 15 months or the later of 1) the date of the IRS revocation letter, or 2) the date the IRS posted your organization’s name on its website.

If you aren’t eligible for retroactive reinstatement, your organization’s activities between the revocation date and the reinstatement date will be considered taxable. This includes donors’ contributions.

Required documentation

When you file for recognition of exemption, attach a detailed statement that provides reasonable cause for failing to file required returns in each of the three consecutive years. You should state the facts that led to each failure and the continual failure, discovery of the failures and steps taken to avoid or mitigate them.

You’ll need to attach a statement that describes safeguards put in place and steps taken to avoid future failures as well as evidence to support all material aspects of those two statements. In addition, include properly completed and executed tax returns for all taxable years during and after the three-year period your organization failed to file.

Also submit an original declaration dated and signed by an authorized person in your organization such as an officer or director. (See IRS Notice 2011-44 for the required wording.)

All’s well

Assuming you file correctly and submit all required paperwork that shows your organization qualifies as a nonprofit, it’s likely to regain its tax-exempt status. At that point, the IRS will issue a new determination letter and update its records that confirm your eligibility to receive tax-deductible contributions. Generally, the effective date of reinstatement is the date your exemption application was submitted.

If you’re having trouble keeping up with IRS filings or have questions about nonprofit regulations, contact us for help.

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Do you think about your not-for-profit’s annual report as a yearly obligation or even an unpleasant chore? If so, your annual report likely isn’t much fun to read — and you’re missing a chance to attract and engage critical audiences. Instead, embrace this opportunity to communicate the good your organization does and promote your mission and programs. Here’s how to write an annual report that will keep readers’ attention.

Tackle first things first

Most nonprofit annual reports consist of several standard sections, starting with a Chair of the Board’s letter. This executive summary needs to provide an overview of your nonprofit’s activities, accomplishments and anything else worth highlighting. It should be direct and to the point, but also reflect the chair’s personality.

Financial information is another essential section. This generally is subdivided into three sections:

1. Independent auditor’s report. This CPA report states whether your nonprofit’s financial statements have been prepared in accordance with Generally Accepted Accounting Principles.
2. Financial statements. Data should include a Statement of Financial Position (assets, liabilities and net asset categories as of the last day of the fiscal year), Statement of Activities (revenues earned and expenses incurred during the year) and Statement of Cash Flows (changes, sources and uses of cash for the year).
3. Footnotes. These expand on financial statement items regarding subjects such as leasing arrangements and debt.

You can make your financial statements easier to understand by creating an abbreviated version with a synopsis that quickly communicates your overall financial situation. Whenever possible, use simple graphs, diagrams and other visual aids to highlight specific points.

Describe your work with words and images

A “Description” is the other major section in a typical nonprofit annual report. This is where you can — and should — get creative. Explain your organization’s mission, goals and strategies for reaching those goals. Then, describe who benefits from your organization’s services and how your services contribute to the community.

To do justice to this work, include client testimonials where those you’ve helped tell the story in a personal way. Or create a timeline that enables readers to see the progress you’ve made toward a long-term goal such as establishing an endowment or constructing a new facility. Your annual report should be as visually pleasing as it is interesting to read. Include engaging photos, arresting graphics and creative layouts.

Reward your audience for reading

The audience for your annual report may be larger than you think. Ensure it offers something to grab the attention of donors and other supporters, clients, community members, charity watchdog groups and the media. Otherwise, you could be wasting an important opportunity.

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Although most charitable donors aren’t primarily motivated by potential tax breaks, they still need to know how donations affect their taxes. It’s important for your not-for-profit to educate them — particularly as tax laws change. For example, in 2020 and 2021, even nonitemizers were allowed to deduct up to $300 and itemizers could deduct cash gifts up to 100% of their adjusted gross income (AGI).

These breaks have lapsed and aren’t available for 2022, unless Congress acts. The following summarizes laws that continue to affect donors.

Cash and certain property donations

Generally, donors who itemize can deduct total cash contributions up to 60% of their AGI. To be deductible, cash gifts under $250 must be supported by a bank record (such as a canceled check or credit card statement) or receipt (such as a thank-you letter from your nonprofit showing the date and amount of the gift). Cash gifts of $250 or more must be substantiated by a contemporaneous written acknowledgment from your nonprofit.

Total donations of ordinary-income property usually are deductible up to 50% of the donor’s AGI but limited to the donor’s tax basis in the property (typically the purchase price). Property is ordinary-income property when donors would recognize ordinary income or short-term capital gains if they sold it at fair market value (FMV) on the date of donation. Examples include stocks and bonds held for one year or less.

Capital gains property

Donors of capital gains property usually can deduct the property’s FMV, but a lower AGI limit of 30% applies. Property is considered capital gains property if the donor would have recognized long-term capital gains had he or she sold it at FMV on the donation date. This includes capital assets held more than one year. But in some circumstances, such as when the donation is intellectual property, only the donor’s tax basis of the property is deductible.

If your nonprofit uses tangible donated property for its tax-exempt purpose — for example, a museum displays a donated painting — the donor can deduct its fair market value. But if the property is put to an unrelated use (a hospital sells the donated painting), the deduction is limited to the donor’s basis in the property.

For donations of property, the substantiation requirements depend on the deductible value. If someone donates an item worth less than $250, a receipt is sufficient. However, for gifts:

• Of $250–$500 in value, the donor must have a contemporaneous written acknowledgment from your nonprofit.
• Of $501–$5,000 in value, the donor must also file Form 8283.
• Of more than $5,000 in value, the donor must also obtain a qualified appraisal.

In general, only donations of the full ownership interest in property are deductible. The right to use property usually is considered a contribution of less than the donor’s entire interest in the property.

What isn’t deductible

Finally, make sure donors understand they can’t claim a deduction for the donation of their professional services. Related out-of-pocket costs, such as supplies and miles driven, on the other hand, are deductible as charitable contributions. Contact us for tax advice if you’re working with a donor making a major gift or complicated donation.

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