Like many CPAs, you may be planning

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1 THE PPC NONPROFIT UPDATE, MARCH 2014, VOLUME 21, NO. 3 THE PPC NONPROFIT UPDATE Getting Ready for Your Engagements Like many CPAs, you may be planning your June 30th audits of nonprofit organization clients. Although these will be the second audits you conduct under the clarified auditing standards, you may have a few more tweaks to make to your pre-engagement and planning activities. Based on information from customer inquiries and the AICPA s 2013 statistics about common deficiencies indentified on Matter for Further Consideration (MFC) forms during the period from December 2012 through September 2013, here are some tips to keep in mind while preparing for your June 30, 2014, year-end audits or your monthly or quarterly compilations or reviews. The AICPA Peer Review Report is available at interestareas/peerreview/ resources/transparency/ downloadabledocuments/ annrptoversight2013.pdf. Independence As part of your client acceptance and continuance policies and procedures, you need to consider your independence in relation to the client on an annual basis. Because a lack of independence will prevent you from performing a review or an audit, it s an important first step. If you re performing nonattest services for an attest client, you ll need to meet ET Interpretation s requirements to document your understanding with the client about those nonattest services. The engagement letter is an easy place to document those requirements. If you re performing a Yellow Book audit or Single Audit, make sure you address the separate independence requirements under those standards as well as the AICPA Professional Ethics requirements. The auditor needs to be independent for the entire period under audit, so it is important to assess any threats to independence before the start of the audit period. The Yellow Book has its In this Issue: Getting Ready for Your Engagements 2013 Data Collection Form Released Reinstating after Exemption Lost for Nonfiling Website Deemed a Periodical for UBIT Tax Brief This newsletter is also available online. Please call (800) , or order online at

2 2 THE PPC NONPROFIT UPDATE, MARCH 2014, VOLUME 21, NO. 3 own specific documentation requirements related to independence. Engagement Acceptance and Continuance The clarified auditing standards established preconditions that you need to meet before you perform the engagement. Those preconditions require that (1) the financial statements be prepared using an acceptable accounting framework; (2) management accepts responsibility for the financial statements and internal control and provides you access to information and personnel; (3) when the financial statements are prepared using an OCBOA, management agrees that it acknowledges and understands its responsibilities to include all appropriate disclosures; and (4) you not accept the audit if you expect to issue a disclaimer due to a clientimposed restriction. Audit Engagement Letters AU-C 210, Terms of Engagement, requires the auditor to obtain a written understanding with the client about the services the auditor will perform for the nonprofit organization. AU-C specifies an engagement letter or other suitable form of written agreement and lists the required elements of an engagement letter. In addition, there are other AU-C sections with requirements for items to include in the engagement letter when applicable. For example, AU-C has a requirement related to supplementary information. If the engagement is a Yellow Book audit or Single Audit, there are additional requirements for items the engagement letter should cover. The clarified auditing standards added new requirements relating to establishing the terms of an engagement in an engagement letter, including (1) identifying the financial reporting framework, referring to the expected form and content of the reports to be issued, and stating that circumstances may arise in which a report may differ from its expected form and content; and (2) reminding management of the terms of the engagement each year when a multi-year engagement letter is used. Peer reviewers noted that not all CPAs properly updated their engagement letters for the clarified auditing standards to include those required items. Additionally, after the audit commences, you may only change the terms or scope of service if there's a reasonable justification for the change. Compilation & Review Engagement Letters AR and AR require a written engagement letter for all compilations or reviews of financial statements. If the accountant performs multiple types of services (for example, monthly compilations and an annual audit or review), the accountant may choose to issue a single engagement letter covering all of the services. Signed or Not Signed? AU-C 210 and SSARS 19 don t specifically require that the client sign the engagement letter, but legal experts comment that the engagement letter isn t worth much without the client s signature. The proposed SSARSs on preparation of financial statements, compilation engagements, and review engagements all include a requirement to have a signed engagement letter. Client Assistance Nonprofit organizations are typically fee-sensitive. One way for organizations to reduce accountant fees is to provide assistance in preparing schedules, pulling supporting documents, and preparing confirmations. The engagement letter serves as a great way to document the assistance the accountant expects in order to provide services at a specific fee level. The letter can also emphasize that the fees will increase if the nonprofit organization doesn't provide the agreed-upon assistance. PPC s Audits of Nonprofit Organizations includes three audit engagement letter samples: a letter than may be used annually to confirm the terms of a multi-year audit engagement letter, a compilation engagement letter, and a review engagement letter. It also includes checklists to document compliance with the independence requirements. Planning and Risk Assessment Planning the Audit. The clarified standard on audit planning requires the engagement partner to be involved in planning the audit; it explicitly requires you to plan the nature, timing, and extent of engagement

3 team supervision and workpaper review. Additionally, you now have to document the audit strategy and the reasons for any changes to the strategy or the audit plan as the audit progresses. Risk Assessment. The clarified auditing standards made quite a few changes that impact certain risk assessment areas, such as related parties, accounting estimates, compliance with laws and regulations, auditor consideration of weaknesses in the client's process to identify risks, and service organizations. Accordingly, make sure that you plan and perform a thorough risk assessment and document your understanding of those areas of heightened emphasis. Peer Review Comments. Common peer review MFCs in the area of planning, audit procedures, and risk assessments include not appropriately following the firm's methodology and practice aids, inadequate risk assessment, internal control testing and documentation deficiencies, risk assessment not being completed at the financial statement level, and not appropriately linking audit procedures with the risk assessed Data Collection Form Released Auditors and nonprofit organization managers trying to complete the last task on their 2013 Single Audits can breathe a sigh of relief. After an extended delay, the 2013 Data Collection Form was finally released on January 7, The 2013 Data Collection Form must be used for audits of fiscal periods ending in 2013, 2014, or The OMB granted an automatic extension until February 28, 2014, for all 2013 forms due on or before February 28, Data Collection Form Changes The instructions to the 2013 Data Collection Form highlight many of the changes to the revised form. The changes include the following: Part I, General Information: Beginning with 2013 audits, all audit firms must report their Employer Identification Number (EIN) in new item Part I, Item 6b. Secondary auditors must report their EIN on the secondary auditor contact information page. THE PPC NONPROFIT UPDATE, MARCH 2014, VOLUME 21, NO. 3 3 Part III, Federal Programs: Items 4, 5, and 6 were removed and the remaining items were renumbered. Part III, Federal Programs: Item 6 (previously Item 9), Federal Awards Expended During Fiscal Year, added a new column (column f) to identify whether a program is a loan/loan guarantee program and a new column (column k) to state the number of findings for each federal award. Part III, Federal Programs: New Item 7, Federal Awards Findings, provides detailed information about each audit finding from Part III, Item 6, column k. Information on audit findings must be listed once for each federal award affected by that finding [with certain data auto-filled by the Federal Audit Clearinghouse s Internet Data Entry System (IDES)]. Item 7 includes separate columns to provide audit finding reference numbers (column d); identify the type of compliance requirement to which the finding relates with a letter identifier from a list (column e); indicate whether the auditor identified the finding in the major program report as the basis for a modified opinion, other matter, or neither (columns f and g); indicate whether the auditor identified the finding in the report on internal control over compliance as a material weakness, significant deficiency, or neither (columns h and i); and indicate whether the finding has questioned costs (column k). Audit Finding Reference Number Standardized Format. The instructions to the form notes that for 2013 year-end single audits, the requested format for audit finding reference numbers is a four-digit audit year, a hyphen, and a three-digit sequence number (e.g., , ). Standardized audit finding reference numbers will be required beginning with the 2014 audit year. The finding reference numbers on the Data Collection Form should match those reported on the schedule of findings and questioned costs. Submission of Searchable PDFs. The OMB has also specified new submission requirements. For 2013 audits with a cognizant agency and for all remaining audits in 2014, all reporting package uploads must be text-searchable, unlocked, and unencrypted PDF files. Detailed guidance on creating a compliant PDF Single Audit report is provided on the Federal Audit Clearinghouse website. See the Federal Audit Clearinghouse website at aspx for the 2013 Data Collection Form and its related instructions and other information.

4 4 THE PPC NONPROFIT UPDATE, MARCH 2014, VOLUME 21, NO. 3 Reinstating after Exemption Lost for Nonfiling Organizations exempt from taxation under IRC Sec. 501(a) are required to file an annual information return (e.g., Form 990, 990-EZ, or 990-PF) [IRC Sec. 6033(a)(1)]. Several categories of tax-exempt organizations are not required to file an annual information return, but are required to file an annual electronic notice, Form 990-N (e-postcard). Any organization that does not file an information return or electronic notice for three consecutive years automatically has their tax exemption revoked as of the due date of the return or notice for the third year (the revocation date) [IRC Sec. 6033(j)(1)]. The IRS has recently provided procedures an organization can follow to reinstate its tax-exempt status after automatic revocation (Rev. Proc , IRB 411). Generally, the revenue procedure applies to any application filed after January 1, However, pending applications submitted before that date that would be eligible for retroactive reinstatement are not required to resubmit applications. Pending applications will be approved based on the procedures provided by the IRS. Organizations that have previously received reinstatement from the postmark date prior to the effective date of the revenue procedure and would qualify for retroactive reinstatement under the streamlined procedures for a small organization or other organization that applied for reinstatement within 15 months after revocation have until May 2, 2014, to resubmit their applications. No user fee is required for resubmitted applications. Streamlined Procedures A streamlined retroactive reinstatement is available for a small organization that (1) has not previously had its tax-exempt status automatically revoked, and (2) submits the reinstatement application no later than 15 months after the later of the IRS revocation letter or the date the organization s revocation appears on the IRS website (the 15-month revocation period). A small organization is one that was eligible to file Form 990-EZ (Short Form Return of Organization Exempt From Income Tax) or Form 990-N (e-postcard) for each of the three consecutive years preceding revocation. Reinstatement Application. An entity seeking reinstatement must file either Form 1023 [Application for Recognition of Exemption Under Section 501(c)(3)], Form 1024 [Application for Recognition of Exemption Under Section 501(a)], or any other prescribed form or procedure regularly used to apply for recognition of exempt status as provided in Rev. Proc , IRB 281. The appropriate form must be submitted for reinstatement even though the organization was not originally required to apply for recognition of exempt status. For example, if the tax-exempt status of a subordinate organization included in a group exemption letter has been revoked, such organization must submit an application for reinstatement on its own behalf. User Fee. A user fee of $850 ($400 if average annual gross receipts are normally $10,000 or less during the first four years) for reinstatement must be included with the application. Effect of Approval. If the application is approved, the organization is deemed to have reasonable cause for its failure to file Form 990-EZ or 990-N, and it will be reinstated retroactively to the revocation date. This rule applies before the date the IRS revises Form 1023 and 1024 to permit organizations that otherwise qualify for retroactive reinstatement under these streamlined procedures to demonstrate reasonable cause by attesting that the organization s failure to file was not intentional and that it has procedures in place to file in the future. After such date, reasonable cause may be demonstrated through attestation. Penalty Waiver. The penalty for failure to file will not be imposed provided the organization that is retroactively reinstated under these provisions files a properly completed and executed Form 990-EZ for each of the three prior years it was required, but failed, to file. An organization is not required to file Form 990-N or 990- EZ for any year it was eligible to file Form 990-N. Reinstatement Procedures for Others Organizations that are not eligible to use the streamlined procedures must follow different reinstatement procedures depending on whether Form 1023 or 1024 is submitted within the 15-month revocation period. These procedures are more onerous than the small organization procedures. An organization that submits an application within the 15-month revocation period must also include a reasonable cause statement (RCS) that establishes reasonable cause for the failure to file a required annual return for at least one of the three consecutive years for which it failed to file; and a statement confirming that it has filed returns for all taxable years in the consecutive three-year period for

5 which the organization was required, but failed, to file a return, and for any other taxable years after such period and before the application filing date for which required returns were due but not filed. An organization that submits an application after the 15-month revocation period must satisfy all requirements described in the previous paragraph, except that it must establish reasonable cause for the failure to file for all three years (not just one) that it failed to file an annual return or notice. Reasonable Cause An organization must demonstrate that it exercised ordinary business care and prudence in determining its reporting requirements. The required RCS should include a detailed description of all the facts and circumstances that led to the failure to file, the discovery of the failure, and the steps that have been or will be taken to avoid or mitigate future failures. Factors considered in establishing reasonable cause (with no single factor being either necessary or determinative) include good faith reliance upon erroneous written information from the IRS (or presumably from tax counsel as well) that it was not required to file a return or notice; events beyond the organization's control that prevented the required filing; evidence that the organization has undertaken significant steps to avoid or mitigate the failure to file a return or notice and to prevent future failures; and a history of complying with reporting requirements, aside from the three-year lapse. The RCS must also include a declaration signed under penalties of perjury by an officer, director, or trustee stating the submission is true, correct, and complete. An organization whose tax-exempt status has been automatically revoked and reinstated may have its exemption revoked again for failure to file annual returns or notices for three consecutive years. An organization seeking reinstatement following a subsequent revocation will not be permitted to use the streamlined procedures. THE PPC NONPROFIT UPDATE, MARCH 2014, VOLUME 21, NO. 3 5 Website Deemed a Periodical for UBIT Organizations frequently distribute newsletters, magazines, or other periodicals that contain articles and editorial materials related to their exempt purpose. Consequently, publishing and distributing these periodicals is an exempt activity, and any revenue produced in the process is generally exempt function income that is not subject to unrelated business income tax (UBIT). However, income from the sale of advertising in the periodical is normally subject to UBIT [Reg (a)-1(f)(1)]. For UBIT, a periodical is defined as regularly scheduled and printed material published by or on behalf of an exempt organization that is not related to, and primarily distributed in connection with, a specific event conducted by the organization. Printed material includes material that is published electronically [Reg (b)]. Ask and Ye Shall Receive In Ltr. Rul , a Section 501(c)(3) organization (X) published an educational magazine bimonthly for several years as its principal activity. To reduce costs and increase readership, it discontinued the print version and began publishing the content exclusively on its website, which was available to the public without charge. The website included essentially the same kind of content and addressed the same or similar subjects that appeared in the print version of the magazine. The website also contained new features, such as documentary videos, that were not available in the print version. X updated its website regularly; at least weekly and often every business day. X employed and/or contracted with writers, researchers, a creative director, and an editorial director to produce the editorial content of the website just as it did for the print magazine. X also incurred expenses for website maintenance and overall administration. It financed the website through grants, contributions, and advertising revenue. The IRS ruled, as requested by X, that the website was a periodical for UBIT purposes. Was There Any Doubt? X, in effect, moved its prior print periodical onto the website. The website was operated similarly to that of many newspapers and magazines with an online

6 6 THE PPC NONPROFIT UPDATE, MARCH 2014, VOLUME 21, NO. 3 The PPC Nonprofit Update is published monthly by Thomson Reuters/Tax & Accounting, P.O. Box 966, Fort Worth, Texas , (800) Thomson Reuters/Tax & Accouning. All Rights Reserved. Reproduction is prohibited without written permission of the publisher. Not assignable without consent. This publication is designed to provide accurate information regarding the subject matter covered. It is sold with the understanding that the publisher is not engaged in rendering legal, accounting, investment, or other professional advice. If such assistance is required, the services of a competent professional should be sought. Reports on products or services are intended to be informative and educational; no advertising or promotional fees are accepted. Tax & Accounting Research and Guidance P.O. Box 966 Fort Worth, Texas PRSRT STD U.S. POSTAGE PAID Thomson presence. So why was there a possibility that the website would not be deemed a periodical? Ltr. Rul cites two examples in the regulations that imply that a website is ordinarily not regarded as a periodical [Reg (f), Examples 11 and 12]. In these examples, the organization recognized a financial supporter on its website and, for UBIT, treated the income as qualified sponsorship payments rather than periodical advertising. Note: Sponsorship payments have some characteristics of advertising (e.g., public recognition of the sponsor by the recipient organization). However, unlike advertising, sponsorship income is not subject to UBIT if the guidelines in the regulations are followed. The Method to the Madness Why would X invite the taxability of advertising income by requesting the IRS rule that the website was a periodical? The answer lies in how taxable periodical advertising income is determined. The unrelated business taxable income produced by advertising revenue in an organization s periodical is generally determined by calculating four amounts: (1) gross advertising income, (2) direct advertising costs, (3) circulation income, and (4) readership cost. A periodical s excess readership cost (i.e., the amount, if any, by which readership costs exceed circulation income) is deductible for UBIT purposes up to the amount of the net advertising income [Reg (a)-1(f)(2)(ii)]. X s website produced no circulation income because access was free. Consequently, X argued for periodical treatment of its website in order to use the costs of maintaining the website (excess readership costs) to offset the advertising income like a print periodical can. If the website was not deemed a periodical, X would have been taxed on its net advertising income without deducting website maintenance costs. Until there is specific guidance for similar online transactions, internet use to accomplish a particular task does not alter the way current tax laws apply. Tax Brief 2014 MILEAGE RATES. The optional standard mileage rate for the business use of an automobile has been reduced from 56.5 cents to 56 cents per mile (IRS Notice ). The new rate also applies to mileage allowances that are paid both to an employee and for transportation expenses paid or incurred by the employee. The medical and moving mileage allowance is decreased from the 2013 rate of 24 cents to 23.5 cents. The rate for charitable mileage remains unchanged at 14 cents per mile because it is fixed under IRC Sec. 170(i).

Applicable Sections: Revenue Procedure SECTION 1. PURPOSE

Applicable Sections: Revenue Procedure SECTION 1. PURPOSE Applicable Sections: 26 CFR 1.6033-2. Returns by exempt organizations (taxable years beginning after December 31, 1969) and returns by certain nonexempt organizations (taxable years beginning after December