Overcoming Common Nonprofit Compliance Pitfalls

Running a highly effective nonprofit organization is no small feat. The mission-driven focus of nonprofits places a high demand on resources, time, and energy. However, in the process of making a difference, many nonprofits find themselves grappling with compliance issues that can jeopardize their operations and long-term sustainability. Compliance isn’t just about ticking boxes; it’s about ensuring your nonprofit can continue to fulfill its mission without legal or financial setbacks.

In this article, we’ll delve into three common compliance pitfalls that nonprofits face:  bookkeeping (and overall financial management), board engagement, and required filings.  By understanding these areas and how to address them, you can strengthen your organization’s foundation and steer clear of potential hazards.

Bookkeeping and financial management are critical components of any nonprofit organization’s success. Proper management of finances ensures that the organization can continue to operate effectively, achieve its mission, and maintain the trust of donors, stakeholders, and regulatory bodies. However, many nonprofits face significant challenges in this area, leading to compliance issues and financial instability.

The Importance of Bookkeeping and Financial Management

Effective bookkeeping and financial management are essential for tracking an organization’s income and expenses, ensuring funds are used appropriately, and providing transparency to donors and regulators. Without accurate financial records, a nonprofit cannot make informed decisions about budgeting, forecasting, or strategic planning.

We seem to harp on this a lot around here, but it’s too important not to: nonprofits are also subject to specific financial reporting requirements that must be met to maintain tax-exempt status and fulfill legal obligations. Mismanagement of finances can result in penalties, audits, and even the revocation of tax-exempt status, all of which can have devastating consequences for the organization.

Common Bookkeeping and Financial Management Mistakes

1. Inaccurate or Incomplete Financial Records: One of the most common issues nonprofits face is the failure to maintain accurate and complete financial records. This can occur due to a lack of standardized processes, inadequate training, or reliance on outdated systems. Inaccurate records can lead to incorrect financial statements, budgeting errors, and difficulties in tracking the use of restricted funds.
2. Failure to Segregate Duties: In smaller nonprofits, it’s common for one person to handle multiple financial tasks, such as recording transactions, making deposits, and reconciling accounts. This lack of segregation of duties increases the risk of errors and fraud. Proper internal controls are necessary to ensure that financial tasks are divided among multiple individuals to reduce these risks.
3. Neglecting Budgeting and Financial Planning: Nonprofits often operate on tight budgets, making it crucial to have a robust budgeting and financial planning process. However, some organizations fail to create or adhere to a budget, leading to overspending, cash flow issues, and an inability to fund programs effectively. Without careful planning, a nonprofit may find itself in financial distress, unable to sustain its operations.

Best Practices for Effective Bookkeeping and Financial Management

To avoid these pitfalls and ensure financial stability, nonprofits should implement the following best practices:

1. Develop a Comprehensive Financial Management Policy: Establish clear policies and procedures for managing your nonprofit’s finances. This should include guidelines for recording transactions, handling cash, managing bank accounts, and preparing financial reports. Having a well-documented policy helps ensure consistency and accuracy in financial management.
2. Invest in Reliable Accounting Software: Utilize accounting software tailored to the needs of nonprofits, if possible. These tools can help automate bookkeeping tasks, generate accurate financial statements, and provide real-time insights into the organization’s financial health. We also understand that for expediency, the vast majority of small to medium-sized nonprofits will default the something like Quickbooks Online, and that’s OK.  Just understand that there are many workarounds that become necessary when using a non-specific tool like that.  All the more reason to pay attention to the number 6 below.
3. Implement Internal Controls: Internal controls are essential for preventing fraud and ensuring the accuracy of financial records. This includes segregating duties, requiring multiple approvals for significant financial transactions, and conducting regular audits. By implementing strong internal controls, your nonprofit can safeguard its assets and maintain the integrity of its financial management processes.
4. Regularly Review and Update the Budget: Create a detailed budget at the beginning of each fiscal year and review it regularly. Compare actual income and expenses against the budget to identify any variances and adjust your financial plans accordingly. Regular budget reviews help ensure that the organization stays on track financially and can respond to changes in funding or expenses.
5. Provide Financial Training for Staff and Board Members: Ensure that those involved in financial management, including staff and board members, have the necessary knowledge and skills to fulfill their roles effectively. This may involve providing training on financial reporting, budgeting, and the use of accounting software. Educating your team on financial best practices helps create a culture of financial responsibility and accountability within the organization.
6. Hire a Professional to Oversee Your Bookkeeping:  The reality is, most smaller nonprofits don’t have the easy ability to pull off that last recommendation.  Even if your nonprofit is fortunate enough to have financially savvy board members, there is still a lot of wisdom involved in outsourcing your accounting and bookkeeping to a professional firm like Foundation Group.  Their expertise can supplement your internal efforts and provide a much higher degree of confidence that you have your financial house in order.

A nonprofit’s board of directors plays a crucial role in governance and compliance. However, many organizations struggle with keeping their boards engaged and informed, which can lead to governance failures and compliance lapses.

The Role of the Board in Compliance

The board of directors is responsible for overseeing the organization’s operations, ensuring that it adheres to its mission, and maintaining its financial health. This includes ensuring that the organization complies with all relevant laws and regulations. An engaged and informed board is better equipped to fulfill these responsibilities.

However, when board members are disengaged, uninformed, or lack a clear understanding of their roles, the organization can quickly find itself in trouble. Poor board engagement can lead to a lack of oversight, missed deadlines, and uninformed decision-making, all of which can have serious compliance implications.

Common Challenges in Board Engagement

1. Lack of Clarity About Roles and Responsibilities: Board members often have busy schedules and may not fully understand their roles and responsibilities within the nonprofit. This lack of clarity can lead to disengagement and a failure to participate in important governance activities.
2. Infrequent Communication: Effective board engagement requires regular communication between board members and the nonprofit’s leadership. When communication is infrequent or ineffective, board members may feel disconnected from the organization and its mission, leading to a decline in their involvement.
3. Failure to Provide Ongoing Education and Training: Nonprofit regulations and best practices are constantly changing. However, many nonprofits fail to provide ongoing education and training to their board members, leaving them ill-equipped to navigate compliance issues.

Strategies for Enhancing Board Engagement

To improve board engagement and ensure compliance, nonprofits should consider the following strategies:

1. Clearly Define Roles and Expectations: Ensure that each board member understands their specific roles and responsibilities. This should be outlined in a board handbook or reference guide and discussed during orientation for new members. Setting clear expectations can help prevent misunderstandings and disengagement.
2. Foster Regular Communication: Establish regular communication channels between the board and the nonprofit’s leadership. This can include monthly or quarterly board meetings, regular email updates, and informal check-ins. Keeping the board informed about the organization’s activities and challenges can help maintain their interest and involvement.
3. Invest in Board Development: Provide ongoing education and training opportunities for board members. This can include workshops, webinars, and conferences focused on nonprofit governance and compliance. By investing in their development, you equip your board members with the knowledge and skills they need to fulfill their roles effectively.  Foundation Group regularly produces content like this article, as well as our video series.  Make sure your board members are subscribed!
4. Encourage Active Participation: Create opportunities for board members to actively participate in the organization’s activities, such as fundraising events, volunteer opportunities, or program evaluations. Active participation can deepen their connection to the organization’s mission and increase their commitment to governance and compliance.

Nonprofits are subject to lots of filing requirements at the federal, state, and local levels. Missing deadlines or failing to submit the necessary documentation can lead to penalties, fines, or even the loss of tax-exempt status.

Understanding Required Filings

The specific filings required for a nonprofit will vary depending on its location and activities, but common requirements include:

1. IRS Form 990: All tax-exempt organizations must file an annual information return with the IRS, known as Form 990. The specific version of Form 990 (990, 990-EZ, or 990-N) that an organization must file depends on its gross receipts and assets. This form provides the IRS and the public with information about the organization’s finances, governance, and programs.
2. State Filings: In addition to federal filings, nonprofits may be required to submit annual reports, charitable solicitation registrations, and other filings to state agencies. These requirements vary by state and may include both financial and operational information.
3. Local Filings: Some municipalities require nonprofits to file reports or obtain permits related to their activities. For example, a nonprofit that holds fundraising events may need to secure special event permits or licenses.

Common Filing Mistakes

1. Missing Deadlines: One of the most common compliance pitfalls is missing filing deadlines. Nonprofits often juggle multiple responsibilities, and it can be easy to overlook a filing deadline, especially if there are different due dates for federal, state, and local filings.
2. Incomplete or Inaccurate Filings: Filing incomplete or inaccurate information can lead to delays in processing, fines, or even audits. Common errors include failing to report all sources of income, not providing adequate explanations for financial discrepancies, and not updating information about the board of directors.
3. Failure to Monitor State and Local Requirements: Nonprofits that operate in multiple states or engage in activities that trigger local filing requirements may struggle to keep track of all the necessary filings. This can result in missed registrations, fines, or the suspension of activities in certain jurisdictions.

Best Practices for Managing Required Filings

To stay on top of your filing requirements and avoid compliance pitfalls, consider the following best practices:

1. Create a Compliance Calendar: Develop a compliance calendar that lists all required filings, along with their due dates. Include federal, state, and local requirements, and set reminders well in advance of each deadline. This will help ensure that you never miss a filing.
2. Assign Responsibility: Designate a specific person or team within your organization to be responsible for managing compliance and filings. This individual or team should be familiar with all filing requirements and have access to the necessary information and resources to complete them accurately and on time.
3. Review Filings Before Submission: Before submitting any filings, review them carefully to ensure that all information is complete and accurate. This review process can help catch errors and omissions that could lead to compliance issues.
4. Stay Informed About Changes in Regulations: Compliance requirements can change, so it’s essential to stay informed about any updates to federal, state, and local regulations that may affect your nonprofit. Regularly review information from the IRS, state agencies, and local authorities to ensure that your organization remains in compliance.
5. Enlist the Services of a Professional:  This is again an area where having a professional in your corner makes a world of difference.  It is not a substitute for the best practices listed above for the simple reason that your nonprofit is ultimately accountable for its own compliance, not your third-party professional.  That said, Foundation Group helps thousands of clients each year to prepare and file most of your most critical filings, including Form 990 and state charitable solicitations.  We make it our job to keep our clients informed and up-to-date.