An audit is an audit, right? Some people love that phrase!

It’s true that the ISAs, and in part methodologies, that govern and guide our audit work apply equally, irrespective of the entity being audited. However, the risks you identify and work you perform while complying with those standards will depend entirely on the type of client. Even within the not-for-profit sector there is huge variety in what charities do and how they raise, manage and spend funds, let alone compared to a manufacturing business or an insurance broker.

So perhaps an audit isn’t just an audit!

Here are just a few areas often significant to charity audits where a different approach and mindset is needed.

Trustees’ Annual Report

Whilst the Trustees’ Annual Report is intended to do the same job as the narrative reporting of a for profit entity, the reality at the smaller end of the of the spectrum could not be more different. If you’re familiar with trying to get a Strategic Report out of the directors of an owner managed company the phrase ‘blood out of a stone’ can sometimes come to mind. This is rarely the case with even the smallest of charities because they come at it from a completely different perspective. Rather than including the bare minimum, charities rightly use the Trustees’ Annual Report as an opportunity to tell the world about all the good charitable work they have done. This difference is at the heart of what makes charities different; they don’t exist to make money.

So, what’s the impact for auditors? As already noted, the requirements are the same; broadly checking that information is consistent with the financial statements and your understanding, and that it’s been prepared in accordance with the applicable requirements. The difference is there’s usually lots more information and more detailed requirements and it can sometimes be difficult to pin down where particular requirements have been addressed. In addition, whether a requirement has been adequately addressed can be a matter of judgement. The upshot is that this area will require significantly more time in the budget than for a commercial company of a similar size.

Fund accounting

Fund accounting is unique to charities and can often be a risk area in charities with multiple restricted or designated funds. The focus is often on restricted funds because their use is not at the discretion of the trustees. This is not misplaced, but the same disclosures are required for designated funds and the information about these funds can be of equal relevance to users of the accounts. However, because the designation is internal, it is usually easier to obtain evidence to support their classification.

The risk with restricted funds is that an imposed restriction is either missed by management or is not considered to be a restriction, so the auditor needs a good understanding of the charity, it’s governance and activities to identify where any such restrictions might be. On the flip side, some trustees take a cautious approach in this area and may incorrectly classify funds as restricted, for example where a donor expresses a wish without there being a legal restriction. Either way, in most cases, where a charity has multiple funds it makes sense to include these in the risk assessment and design a bespoke response.

Income

As well as how they spend their money, the defining aspect of a charity is how they generate income in the first place; the most common being from grants, donations, return on investments or from delivering its charitable activities. Income needs to be classified under the headings prescribed by the SORP, but the question is often around the timing of its recognition. This can be particularly challenging in the case of some grants where, in the absence of any further performance conditions, income is recognised up front when it is receivable, irrespective of when it will be received or spent. Some trustees do not like the implications of this risk and a common risk is the incorrect deferral of income.

Auditing the completeness of income can pose unique challenges when it comes to donations. To test for completeness, you need to start outside of the accounts with the evidence of the event or transaction that gives rise to income. You can then test that all the related income has been included in the accounts. In the case of donations this often does not exist, and auditors need to think beyond the standard approach to transaction testing. Very often this involves relying on the controls put in place by the charity to ensure that such income is captured.

Disclosures

The Charities SORP includes a fair amount of disclosure requirements over and above those in FRS 102 (that also apply), especially for ‘larger charities’ with income above £500k. These include requirements around staff and trustee remuneration, related parties, grants, analysis of costs and fund movements. The variety in the sector can mean some charity’s activities don’t fit neatly in the boxes inferred by the standard.

The first part is to know what disclosures are required and to spot if any are missing, and, much like any audit, a disclosure checklist will help with this. The greater challenge comes from determining that disclosures are accurate and sufficient to give the user the understanding intended by the requirement, especially where they are outside of the norm. This is an area on file reviews where we often find that the considerations around such disclosures are not adequately documented on the file.

In summary

When you first get involved in charity audits there are a few areas that need a different approach and require some learning. But these are also the areas that make charity audits interesting and different from the other types of clients. These topics and some other common challenges will form the basis of our ‘How to Audit a Charity’ course at 9:30 on 3 October.

Richard Hemmings, September 2023