Is our foundation likely to experience an audit?

Less than one-quarter of 1% of all tax returns filed by private foundations are examined by the Internal Revenue Service. Yet certain states have seen an increase in attorney general inquiries (i.e., audits) into the operations of private foundations and components of the Form 990-PF, which usually accompanies a state filing.

Attorney general audits can arise from questions raised during a routine desk review of a state filing or from a complaint or allegation made by an employee or former employee, grantee, or even a potential grantee turned down for a grant. The attorneys general in certain jurisdictions (e.g., Illinois, New York, Pennsylvania) seem to be more active than in other jurisdictions.

Areas typically scrutinized by an attorney general’s office are:

  • Trustee and employee compensation
  • Expense accounts
  • Investments in businesses or partnerships owned or managed by foundation trustees
  • Investment vehicles, such as limited partnerships
  • Self-dealing issues
  • Related-party transactions
  • Contributions to nonpublic charities
  • Certain administrative expenditures
  • Loans

Don’t panic!

Inquiries made by a representative from an attorney general’s office can be quite thorough. For example, during one audit, the representative asked how trustee compensation was determined and by whom, the amount of time a trustee spends on the foundation’s behalf, and the nature of duties performed by each trustee. In addition, the representative requested minutes from board meetings that indicated approval of trustee compensation and asked if the foundation had an independent compensation committee.

If a representative from an attorney general’s office contacts your foundation either in writing or over the phone, don’t panic. Contact the foundation’s attorney and/or CPA. All communications with the attorney general’s office should occur through these representatives. These audits generally do not center on the calculation of the amount of tax a foundation pays; rather, they concentrate on the legal and compliance issues a foundation faces.

Attorney general representatives from different states may focus on different compliance or regulatory issues, making it imperative that a foundation maintain appropriate documentation and annually review its compliance with all applicable laws. Self-dealing regulations are an area that trustees can unknowingly violate. Therefore, in connection with the foundation’s annual audit, have your CPA review all compliance and self-dealing issues. For foundations that do not undergo an annual audit, have your CPA review the appropriate documentation for compliance when preparing the Form 990-PF.

By Thomas F. Blaney, CPA, CFE

Still have questions?

Members can access staff experts through our Q&A service by calling 202-580-6560, or post a question to the member community to hear form peers in the field.

Explore our Q&A archive