Navigating Form 990 and avoiding red flags is crucial for nonprofit organizations to ensure compliance, transparency, and the integrity of their operations. Form 990 serves as an important regulatory compliance and public disclosure tool. Form 990 outlines an organization’s financial activities and key governance practices and is instrumental in maintaining public trust and tax-exempt status. This post highlights critical Form 990 red flags that stakeholders should be aware of to safeguard their nonprofit’s reputation and operational effectiveness.
1. Incomplete or Unclear Transactions with Insiders: Not properly filling out the Form 990 schedule that details transactions with insiders or failing to provide explanations for such transactions raises questions about transparency and potential conflicts of interest that could lead to excess benefit transactions.
2. Unexplained Receivables from Insiders: Listing receivables from insiders without a clear explanation can suggest improper financial dealings or lack of oversight.
3. Omission of Compensation Details: Failing to complete the compensation column for insiders or not explaining compensation arrangements suggests a lack of transparency and could hint at unreasonable compensation practices and potential excess benefit transactions.
4. Excess Benefit or Self-Dealing Transactions: Not indicating whether the organization has engaged in these transactions or responding “yes” without explanation points to potential misuse of assets.
5. Compensation Based on Assets or Revenue: Compensation arrangements based on a percentage of assets or revenue could incentivize prioritizing financial gains over mission fulfillment.
6. Insiders Receiving Fees for Services: When insiders or their related companies receive fees for services, it raises concerns about conflict of interest and the fairness of such arrangements.
7. Below-Market Loans to Insiders: Providing loans to insiders at below-market rates suggests improper benefits and misallocation of resources that could amount to excess benefit or self-dealing transactions.
8. Misappropriation of Funds: Failing to explain a misappropriation of funds raises questions about financial mismanagement and potential legal violations.
9. Compensation Spread Among Affiliated Organizations: Spreading compensation among affiliates requires careful scrutiny to ensure that total aggregate compensation is reasonable and justified.
10. Unreasonable Compensation for Part-Time Work: Paying excessive amounts for part-time roles may indicate poor financial management or improper benefits to insiders.
11. Inconsistencies in W-2 Reporting: Reconciliation issues between W-2 reporting and Form 990 disclosures can signal inaccurate or misleading financial reporting.
12. Inadequate Documentation for Public Charities: For public charities, failing to properly document the basis for qualifying for the rebuttable presumption of reasonableness can indicate governance weaknesses and potential compliance issues.
14. Inadequate Board Oversight: Limited or ineffective board oversight, including a lack of regular meetings, meeting minutes, or financial statement reviews, can result in governance failures and unchecked management.
13. Lack of Conflict of Interest Policy: A lack of a clear and enforced conflict of interest policy undermines the organization’s integrity and can lead to questionable decisions.
15. Non-Compliance with Public Disclosure Requirements: Failing to make required disclosures, such as Form 990 availability, undermines transparency and public trust and violates tax law.
16. Lack of Independent Board Members: For public charities in particular, a lack of independent Board members suggests an inability to manage conflicts of interest and a higher likelihood of financial mismanagement.
Addressing these red flags requires diligent oversight, transparent governance practices, and a commitment to ethical management. By recognizing and acting upon these warning signs, nonprofit organizations can better fulfill their missions, maintain public trust, and ensure compliance with legal and regulatory requirements.
Ellis Carter is a nonprofit lawyer with Caritas Law Group, P.C., licensed to practice in Washington and Arizona. Ellis advises nonprofit and socially responsible businesses on federal tax and fundraising regulations nationwide. Ellis also advises donors concerning major gifts. To schedule a consultation with Ellis, call 602-456-0071 or email us through our contact form.Â