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Do You Need an Audit, a Review or a Compilation?

CPA firms offer a variety of services to help small businesses and nonprofit organizations with financial reporting requirements. Audits, reviews, and compilations can help your small business secure or maintain a loan or satisfy regulatory rules, or entice new investors. For nonprofit organizations, these services can help you obtain a grant, comply with regulatory requirements, satisfy lenders and maintain the public trust. These services can be pricey, so it’s a good idea to understand what each entails before you commit.

Audit

If you need to provide to another party financial statements that are certified by a CPA that they are materially accurate, an audit is the way to go. During audits, CPAs gain an understanding of your business, accounting procedures and controls over the accounting process, analyze your accounting records, study the documentation for your transactions, observe inventory and confirm certain information with outside parties.   After finishing this research, the CPA issues an opinion. If they are satisfied with the results of their procedures, they’ll give you an unmodified opinion. This means that they believe that your financial statements comply with generally accepted accounting principles in all material respects.

When Is an Audit Is Necessary?

The answer to this question, as with many accounting and tax questions, is “It depends”.   For a small to mid-size businesses without outside investors, it will typically be to obtain or maintain loans or lines of credit with banks. Many lenders at this level may only require a review or a compilation (see below).

For nonprofit organizations, it’s more likely an audit will be needed. It will depend on:

  1. Funding source requirements (i.e., grants, government funding, loan financing, etc.)
  2. The organizations bylaws – some may require an annual audit, an audit and a review on a rotating basis or may be silent on this matter
  3. Size of the organization – the larger the organization, the more likely an audit is needed to satisfy the board, donors and other stakeholders (maintaining the public trust)
  4. State laws for charitable corporations.

When an Audit Is Worth It

An audit is the highest level of assurance you can obtain from a CPA. Because the stakes are high, the CPA has to spend a lot of time and resources and comply with intensive professional standards. Those requirements can make audits expensive. For most small to mid-size businesses, an audit may only be necessary if you have outside investors or, in some circumstances, to satisfy a loan requirement or obtain new financing. Check with your lender first and factor the cost of an audit into your decision to choose a lender and whether to finance with a bank.

For nonprofit organizations, it will be worth it if you are planning a major capital campaign, if your board and/or the community expects it, if it’s required in your bylaws, if you are seeking federal or state grant funding or for other reasons. A rough rule of thumb is once an organization has more than $1M in annual revenue, an audit is appropriate. At lower revenue levels, a review or even a compilation may be sufficient.

Review

A financial review is not nearly as rigorous as an audit. When conducting a review, the CPA expresses limited assurance about your financial statements. Rather than digging through documentation, the CPA performs basic analytical procedures on major account balances and make inquiries of those with knowledge of the accounting to determine that the financial statements make sense. The best opinion you can get from a review is simply that the CPA is not aware of any material departures from GAAP.

When a Review Is Necessary

It’s fairly common for lenders to request a review before they issue a small business loan and, for nonprofit organizations, for local United Way organizations and other grantors and lenders to require financial statements with some level of CPA involvement. If the loan or grant contains ongoing financial requirements — known as loan covenants — you’ll probably need to provide reviewed financial statements for every year that the loan is outstanding.

When a Review Is Worth It

If you want a CPA stamp of approval on your financials, but aren’t required to get a full-blown audit, a review can be a good option. Because there’s less assurance provided in a review, the CPA spends less time reviewing your books and passes that savings along to you. Reviews can be a helpful tool if you’re trying to woo new investors or are looking for a buyer for your business.

For nonprofit organizations, it’s always advisable to have a CPA perform some level of service on your financial statements to maintain the public trust. If you’re small enough (< $1M in annual revenue) and/or can’t afford an audit, a review may be sufficient.

Compilation

During an audit or a review, you prepare your financial statements and your CPA reviews and expresses an opinion about them. During a compilation, your CPA assists you in preparing the financial statements but doesn’t opine on their quality or accuracy.

When a Compilation Is Necessary

The American Institute of CPAs believes that compilations are best suited for very simple accounting situations. For example, a compilation may be appropriate if your business uses the cash method of accounting and needs to translate that to the accrual method. If your organization is small and your transactions are straightforward, a lender or grantor may accept this in lieu of a financial review for a loan application.

When a Compilation Is Worth It

Compilations aren’t very time intensive and are generally much cheaper than audits and reviews. Unfortunately, sometimes you get what you pay for. Although you’d hope that compiled financial statements comply with GAAP, your accountant has no obligation to ensure that they do. You’re essentially paying for the right to say that a CPA has helped you put together financial statements. But for a report to existing investors, grantors or lenders or to obtain a new business insurance policy, that may be all you need.