Operations

Nonprofit Financial Management: Avoid Fraud with Internal Controls

| Updated December 12, 2017

Prevent theft and fraud while supporting financial transparency at your nonprofit

Internal financial controls help prevent theft, financial fraud, and the misuse or misappropriation of funds. These same controls also help you maintain accountability to your clients, donors and the community.

What are some key internal financial controls?

Beyond simply preventing financial loss, your accounting policies and procedures should set clear standards of transparency and accountability for every person involved with financial transactions, including staff, board and volunteers.

Key internal financial controls include:

Separation of duties

The importance of separation of duties can't be overstated. This control mandates a checks-and-balances system to secure finances and sensitive information. Proper separation of duties ensures that no single person has sole access to all of the organization's financial resources, preventing overt theft through embezzlement or skimming as well as errors due to oversight or miscalculation.

Charity Charge This article is sponsored by Charity Charge

In practice, staff members who have approval or signing authority shouldn't be the same staff members who process expenses or reconcile bank statements. The tasks of inputting, processing and approving payroll expenses should be assigned to two or more people. Alternatively, payroll may be contracted to an external firm with best-practice procedures already in place.

Conflicts of interest

A conflict of interest policy reduces the appearance of impropriety and helps ensure that your organization conducts business in a manner consistent with your charitable purpose. The policy should outline how to handle transactions in which board members, directors or other staff may have an interest.

Monitoring and reporting

Closely monitor finances and encourage employees to speak up if they notice any irregularities in bank statements or account balances. This monitoring should include regular preparation of financial reports that detail all revenues and expenditures and note any variances that occur month-to-month. Internal and/or external audits can be helpful as well.

Expense authorization

Limit the power to make major purchases or otherwise spend relatively large sums of money to just a small number of people. At minimum, require the signatures of two staff members for major purchases — so that no single person can make irresponsible expenditures. Also insist that purchases be tracked from origin to completion, accounting for every step (and every dollar or pound) in the process.

Record keeping

Keep track of receipts, get reimbursement requests in writing and collect detailed invoices from vendors. A clear paper trail and month-to-month records of expenses can keep your organization from falling victim to common scams, such as creating fake vendors and billing for fake invoices or overcharging for services.

Physical security

Physical security may seem obvious, but it's an often-overlooked part of day-to-day financial controls — especially in small nonprofits. Lock offices, cash boxes, safes, file drawers and other physical locations used to store cash, checks and credit cards. Keep close track of who has access to these locations. Secure digital assets and data — especially the personal information of employees, clients and donors — with strong and regularly updated passwords.

Who develops internal financial controls?

Creating and adhering to financial controls requires buy-in from the top down. The board of directors or trustees should take the lead in developing, monitoring and updating controls. Other stakeholders may include the finance committee, your organization's chief financial officer, and managers and staff involved with daily fiscal operations.

As your organization develops its financial controls, the authority to make financial decisions must be clearly defined. This authority extends to:

  • Approving budgets
  • Reviewing financial reports, audit findings and tax filings
  • Monitoring the status of operating reserves
  • Adjudicating conflicts of interest
  • Reviewing and adjusting fiscal policies

What are some best practices for preserving internal financial controls?

Internal financial controls help your nonprofit preserve transparency and accountability. To preserve effective controls, create an organizational culture that values security, transparency, monitoring and reporting. Clearly define specific financial responsibilities for each staff member — and make sure the staff as a whole is aware of internal financial controls. Review existing controls with the board and staff at least once a year.

Establishing a clear, organized, systematic set of internal financial controls will pay dividends for your nonprofit's financial sustainability and longevity.

MissionBox editorial content is offered as guidance only, and is not meant, nor should it be construed as, a replacement for certified, professional expertise.

References

First Nonprofit Foundation: Best practices for nonprofit internal controls: Enhancing your internal control environment (2013)

New York Attorney General: Internal controls and financial accountability for not-for-profit boards (2015)

CompassPoint: Nonprofit fiscal policies and procedures: A template and guide (2012)

National Council of Nonprofits: Internal controls for nonprofits

National Council of Nonprofits: We're a small nonprofit. What internal controls do we need to have in place? by Andy Robinson and Nancy Wasserman (2013)

Minnesota Council of Nonprofits: Protecting assets with sound internal controls by the Nonprofit Risk Management Center

Nonprofit Accounting Basics: Internal controls by Patricia A. O'Malley (2009)

Blue Avocado: Five internal controls for the very small nonprofit by Carl Ho

Was this article helpful?

Baltimore-based writer and educator