When Does a Nonprofit Need a Financial Audit?

When Does a Nonprofit Need a Financial Audit?

A financial audit is not always legally required, but it becomes essential in certain situations. For instance, nonprofits may need one when applying for large grants, managing government funding, or reporting to donors who require assurance on how funds are used. 

Even when not mandatory, an audit can be smart, especially when your organization is growing, handling complex finances, or wants to strengthen internal accountability and donor trust.

Certain funding thresholds automatically trigger audit obligations, especially when federal or state funds are involved. Beyond government regulations, some private foundations or large donors may also require audited financial statements as a funding condition.

But that’s not the only trigger. Here are some other situations where an audit may be mandatory (or at least strongly encouraged):

You Receive $750,000 or More in Federal Funding in a Year

This is the clearest threshold. If your organization spends $750,000 or more in federal funds in a fiscal year, you’re legally required to undergo a Single Audit (formerly known as an A-133 audit). 

This is not limited to grants; it includes federal awards passed through states or local agencies. The audit ensures that funds are being used for their intended purpose and in compliance with federal requirements. 

Failing to do so could jeopardize your eligibility for future federal funding.

State Laws Mandate an Audit Based on Your Revenue or Assets

Each state has its own regulations regarding nonprofit audits. In many states, an independent audit becomes mandatory once a nonprofit exceeds a certain revenue or asset threshold. 

For example, charitable organizations receiving $500,000 or more in contributions in Illinois must file audited financial statements.

This often ties into fundraising registration requirements. States want to ensure that nonprofits soliciting donations are transparent and financially sound.

You’re Entering Into Contracts With State or Local Governments

If your nonprofit provides community services through government-funded programs, such as housing assistance, education, or health care, the grant or service agreement may require you to submit audited financials. 

The reasoning is simple. When public money is involved, accountability and financial transparency are expected. An audit gives the agency confidence that your organization is managing resources responsibly.

You’re Applying for Grants From Foundations or Corporate Donors

Many private foundations, corporate donors, and large philanthropic institutions must manage their funds responsibly. 

As part of their grant evaluation process, they often request your most recent independent financial audit, which follows Generally Accepted Accounting Principles (GAAP) and is conducted by a licensed Certified Public Accountant (CPA).

You’re Applying for a Loan or Line of Credit

Like a business, a nonprofit may need to borrow money for a building project, equipment upgrade, or cash flow support. Financial institutions, especially traditional banks, often require audited financial statements before extending credit. 

They want evidence of financial stability and solid internal controls; a clean audit helps provide that confidence.

You Want To Build Public Trust and Improve Governance

While not a legal requirement, some nonprofits conduct annual audits voluntarily to demonstrate transparency to donors, board members, and the public. 

Even when it’s not required, many growing nonprofits voluntarily pursue a financial statement audit conducted by an independent CPA, one that adheres to GAAS and GAAP standards.

This is especially common for organizations approaching growth or entering more competitive fundraising environments. An audit can also surface internal issues (like weak controls or inconsistencies) before they become serious problems.

You’re Too Small for an Audit, but Funders Still Want a Financial Review

An audit might be too costly or unnecessary if your nonprofit is smaller or newly established. Still, some funders may ask for financial assurance in another form, like a CPA-reviewed or compiled financial statement. 

These are less rigorous (and expensive) than a full audit, but still demonstrate professionalism and financial position. It’s perfectly reasonable to ask the funder what level of assurance is acceptable.

Nonprofit Independent Audit Readiness Checklist

Does your nonprofit receive $750,000 or more in federal funding annually?	If yes, a Single Audit is federally required.
Do federal laws mandate an audit based on annual revenue or assets?	Check your state’s threshold; many require audits at $500K–$1M in revenue.
Do you hold contracts with local or state governments?	Audit requirements may be embedded in grant or service agreements.
Have any private foundations or funders requested audited financial statements?	Some grants or proposals require an audit to be eligible.
Are you applying for a loan or line of credit?	Lenders often require audited financials for risk evaluation
Is an audit required for charitable solicitation registration in your state	Some states require an audit before you can fundraise publicly.
Have your financial statements been prepared according to GAAP?	An audit requires compliant and well-documented financials.
Do you have your organization’s financial records for the past fiscal year?	Includes bank statements, invoices, receipts, payroll records, and grant documentation.
Are your internal controls documented and operating consistently?	The auditor will assess the strength of your financial policies and procedures.
Has your board approved or reviewed the need for an audit?	Board involvement is critical in overseeing the audit process.
Do you have a timeline and budget set for audit completion?	Audits typically take 4–8 weeks. Plan for auditor availability.
Could a financial review or compilation satisfy donor or funder needs instead of a full audit?	These options are less rigorous and less costly.
Are you a smaller nonprofit or a start-up organization?	If yes, consider reaching out to funders to clarify what level of financial assurance is acceptable.

Types of Nonprofit Audits Explained

There are different types of nonprofit audits each serving a different purpose, with different levels of scrutiny and requirements. Knowing which one applies to your organization (and when to do it) can help you plan smarter, stay compliant, and build greater trust with stakeholders.

1. Independent Financial Audit

This is the most formal and widely recognized audit. It involves hiring an independent, third-party CPA firm to thoroughly examine your nonprofit’s financial statements, accounting practices, and internal controls. 

At the end of the audit, the nonprofit auditor issues an opinion letter that indicates whether your financial statements are accurate and compliant with GAAP.

Pros	Cons
Highly credible and trusted by donors, grantmakers, and government agencies	It can be expensive (especially for smaller nonprofits)
Helps identify weaknesses in financial controls	Time-consuming, requires significant staff preparation
Can improve internal processes and governance	Not always legally required
Often required for funding or compliance

Requirements:

• Mandatory if your nonprofit spends $750,000 or more in federal funds annually (Single Audit requirement)
• Required in many states if you exceed a certain revenue threshold (e.g., $500,000 or $1 million)
• May be needed to satisfy funder or grant conditions

When to Do It:

• Annually (if required by law, funders, or state registration)
• When applying for major grants
• If your nonprofit is growing rapidly or seeking a bank loan

2. IRS Financial Audit (Federal Examination)

This is a government-initiated audit conducted by the IRS, not something you opt into. It typically happens when there’s a red flag on your Form 990, inconsistencies in filings, or if you’re randomly selected for a compliance review.

Pros	Cons
Provides clarity on your federal government tax compliance	Stressful and time-intensive
Forces your organization to get its books and policies in order	This may lead to penalties or loss of tax-exempt status if serious issues are uncovered
Can help prevent future tax issues	Beyond your control (you can’t choose when it happens)

Requirements:

• Triggered by filing errors, anomalies, whistleblower complaints, or random selection
• Nonprofits must retain complete and accurate financial records in anticipation

When to Prepare For It:

• Always. Good financial hygiene helps minimize the risk
• Especially when leadership changes, you restructure or have unusual financial activity

3. Internal Financial Audit

Unlike external audits, internal audits are conducted in-house by your board, finance team, or internal audit committee. They review financial transactions, budgeting practices, and internal controls to ensure they align with policies and strategic goals.

Pros	Cons
Cost-effective	It is less formal and lacks third-party credibility
Offers early insight into problems or inefficiencies	Risk of bias or oversight if the team lacks audit expertise
Promotes accountability and strong financial management	Findings may not be taken as seriously by funders
Can serve as a prep step for a future external audit

Requirements:

• Not legally required, but considered a good governance best practice

When to Do It:

• Annually or semi-annually for larger nonprofits
• Before an external audit or major financial decision
• When new leadership or financial processes are introduced

4. Compliance Audit

This type of audit focuses on whether your organization is adhering to federal, state, and local laws, grant terms, and internal policies. 

While financial compliance is part of it, it includes charitable registration, licensing, donor data protection, and governance practices.

Pros	Cons
Helps ensure legal and regulatory compliance	Can expose compliance failures requiring time-consuming fixes
Builds confidence with regulators, funders, and the board	This may require engaging external experts for policy-heavy areas (e.g., HIPAA, GDPR)
May prevent penalties or legal issues down the line

Requirements:

• May be required by grant agreements, state agencies, or accrediting bodies
• Often expected for larger or high-profile nonprofits

When to Do It:

• When entering new funding agreements or expanding programs
• During periods of rapid growth or after internal restructuring
• If you’ve recently updated your bylaws, policies, or compliance framework

5. Operational Audit

An operational audit evaluates how effectively and efficiently your nonprofit is running. It examines processes, staffing, resource use, technology systems, and administrative functions. The goal is to identify performance gaps and opportunities for improvement, not just to check the books.

Pros	Cons
Improves productivity and resource allocation	May uncover uncomfortable truths about performance or leadership gaps
Can reveal bottlenecks, duplicate efforts, or underused assets	It can be time-intensive, depending on scope
Valuable for strategic planning and scaling operations	Not focused on financial compliance (though it may touch on it)

Requirements:

• Not legally required
• Typically initiated internally or recommended by consultants

When to Do It:

• Before launching a major new program or capital investment
• After leadership transitions
• As part of a strategic planning or restructuring process

The Pun Group’s Approach to Nonprofit Financial Audits

Financial audits aren’t just about compliance—they’re about trust, credibility, and organizational strength. Whether your nonprofit is dealing with government funds, applying for major grants, or entering a growth phase, an audit could be the key to unlocking new opportunities and ensuring long-term stability.

At The Pun Group, we specialize in guiding nonprofits through every stage of the audit process—whether you’re navigating federal requirements, responding to donor requests, or simply aiming to strengthen governance. With decades of experience and a nonprofit-focused approach, we go beyond issuing clean audit reports. We work alongside your team to improve financial systems, meet funder requirements, and build lasting confidence among your stakeholders.

Here’s what you should do next:

1. Evaluate whether your organization meets any audit-triggering thresholds, like receiving $750,000+ in federal funding, exceeding state revenue limits, or applying for major grants or loans.
2. Gather your financial records, review internal controls, and clarify your funder and regulatory obligations—this will help determine whether you need a full audit, a review, or a compilation.
3. Connect with The Pun Group to explore audit services tailored to your size, funding model, and strategic goals. Our nonprofit specialists are ready to help you prepare and position your organization for long-term success.

Don’t wait until an audit is required—take the proactive step. Schedule a call with The Pun Group and learn how we can make your next audit a smart move for your mission.

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