Sarbanes-Oxley

When Accountability Comes Knocking

Berit M. Lakey

The Sarbanes-Oxley Act, ostensibly aimed at cracking down on publicly traded companies in the wake of security and corporate boardroom scandals, for the most part left nonprofits alone. Or did it?

With states like New York already contemplating nonprofit versions of Sarbanes-Oxley, it's becoming apparent that enacting voluntary accountability standards may be in the best interests of the nonprofit sector.

That's why BoardSource and Independent Sector have released a new report "The Sarbanes-Oxley Act and Implications for Nonprofit Organizations."

The key points of this Act include:

• Audit committees must include individuals with financial expertise, who are also familiar with the organization's activities.
• The committee has hands-on responsibility for hiring and overseeing the performance of the external auditors.
• Members of the committee must be independent directors without any compensation for service on the committee.
• External auditors cannot provide most other business services to the organization.
• Rotation of individual auditors - not necessarily the company, as often erroneously believed - is required every five years.
• Chief executives and financial officers must certify that financial reports are accurate and compliant.
• Policies must be developed and followed to protect whistleblowers.
• Destruction and alteration of relevant documents are a crime.

More than a year after lawmakers approved the Act, aimed at tightening regulation of accounting rules and auditing requirements for corporate boards, it is providing a perfect forum for nonprofits to analyze their own practices and methods of operation.

At present, very little of Sarbanes-Oxley actually applies to nonprofits. Only two criminal provisions - those regarding document destruction and retaliation against informants - could currently be extended to nonprofits. To protect against this, a board should, at the very least, establish a records retention policy and should have processes in place for receiving whistleblower complaints about improper financial practices.

Disclosure and compliance are important buzzwords in the discussion of ethics for nonprofit board members. A climate of openness is essential to the character of nonprofit boards to ensure that stakeholders maintain confidence in the organization, so the more transparent, the better off you are.

The public continues to expect nonprofit organizations to adhere to high ethical standards; so regular independent audits send a message that accountability and transparency are concerns taken seriously by the sector.

W. Warren Hamel, a partner at Venable LLP in Baltimore, MD, said in a recent issue of Board Member, our member publication, that adopting accountability standards could give nonprofits a competitive edge.

"You gain a competitive edge if you can show that you hold yourself to the gold standard of accountability," he says. "If I am a donor and I have a million dollar grant to give, I want to make sure you have your house in order. I might love your mission, but how do I know that, for example, you're not overpaying your CEO? Philanthropy is declining and everyone is scrambling for cash. This is one way to place yourself above the pack."

Here are some recommendations you might consider before remaking yourself in Sarbanes-Oxley's image:

• Disclose publicly that you have adopted - and follow - a code of ethics and a conflict-of-interest policy for senior management and the board
• Create an audit committee. Most nonprofits should have an annual audit as an outside assessment of its financial status, as an indication of built-in checks and balances, as a tool to help it improve its financial and risk management processes, and as a confidence builder for constituents and supporters who want to feel comfortable that their trust is justified. Make sure that at least one financial expert sits on the committee. In a smaller organization, a finance committee can sometimes function as an audit committee.
• Have your chief executive and CFO publicly attest to the accuracy, completeness, and fairness of your financial statements, and to the adequacy of your internal accounting controls.
• Implement training for board members on financial stewardship and how to understand a financial report.
• Establish a policy for retaining records.
• Make sure you have a process in place for employees to report complaints without fear of retaliation.

Ensuring ethical behavior is a board commitment that is essential for establishing, maintaining - or restoring public trust in a nonprofit organization. This requires commitment, dedication, persistence, and the courage to make tough decisions.

For more information on the new report "The Sarbanes-Oxley Act and Implications for Nonprofit Organizations," visit www.BoardSource.org.

Berit M. Lakey, PhD, is a senior consultant with BoardSource, the premier resource for practical information, tools and best practices, training, and leadership development for board members of nonprofit organizations worldwide.