Reviewing charities’ financial information

Intro:
Hello, and welcome to the CPA Australia Podcast, your weekly source for accounting, education, career, and leadership discussion.

Ram Subramanian:
Welcome listeners and hello to you all. I'm Ram Subramanian, Senior Manager, Reporting Policy at CPA Australia. Joining us for this podcast is Melville Yates, Director for Reporting, Red Tape Reduction and ACNC Corporate Services at the Australian Charities and Not-for-profits Commission.

In March, 2021, the ACNC published its findings from reviewing the 2019 annual financial reports that were lodged with the charities regulator. As part of this podcast we will be discussing these findings with Mel and the relevance to the ongoing preparation and audit or review of charity financial reports in 2021. Also as part of this podcast, Mel, will highlight some of the other key developments in financial reporting and regulatory developments that may have an impact on charities. Welcome, Mel.

Melville Yates:
Thanks, Ram, great to be here.

Ram Subramanian:
Okay, maybe to start off, could you give us an overview of the ACNC annual financial report surveillance programme and its objectives?

Melville Yates:
Absolutely. Since 2015, the ACNC has done this work. And really the reason that we do the review and analysis of some of the reporting that we receive is because the ACNC charity register is really the pillar that we want people to go to to get access about registered charities and find out financial information and nonfinancial information about the approximate 58,000 organisations across Australia that are currently on our register.

When a charity provides us with their reporting we populate the charity register, obviously we make sure that the organisation is complying with their obligations. We make the data available publicly through data.gov.au, and we also populate the charity passport, which is the way we share information across government about charities. So it's obviously really important for all of these things that we have a sense of how charities are going, how is the sector performing in terms of the quality of financial reporting that is being received by us as the regulator, because that really is able to maintain an enhanced public trust and confidence in the sector if the quality of information being provided is to the requisite standard.

What we've done is we've looked at approximately 300 financial reports and annual information statements for registered charities. And really what we do is we see if there is, as I've said, we see if there's any systemic errors or issues that we want to highlight. We improve the form, so the annual information statement, there might be things that we pick up that we can tweak through the reporting process. We obviously look to identify any trends or areas within financial reporting, and that leads us to then change some of the guidance or the resources that we make available to charitable organisations in the hope that we're looping back to help improve the reporting in future periods.

One of the practical examples is that we've developed an IFR checklist, so an annual financial report checklist that really includes some of the key things that charities must do in terms of their reporting to us. Now, some people might ask, "Well, why are we looking at the 2019 reporting and it's now 2021?" Just for everyone's benefit it's always historical. The 2019 reporting that we collect, that can be collected up to the 30th of November, 2020, that's where charities have a substituted accounting period. So there's a really long tail of time whereby we're still collecting reporting from registered charities, so there's always a bit of a delay. We start these reviews very soon after we start getting the reporting in but we don't finalise the process until we've got that full population of data to work with.

Ram Subramanian:
So in essence what you're saying is as the charities regulator you want high quality information to be available on the charities on your public register and as part of that you want high quality financial information as well. Now, in terms of how you go about conducting this surveillance programme of the annual financial reports, you mentioned already that you select around 300 odd charities to review. Could you give us a little bit more of a sense of what other methodologies or other characteristics that you're looking for when you select entities' financial reports for review?

Melville Yates:
Absolutely. In terms of the methodology, in 2019 we really focused on charities that had made errors in previous reporting periods. We really wanted to get a sense of when we identified an error, we wanted to know whether the charity had taken action to correct the error in the next iteration of reporting, that was one of the core things we were looking at. We also wanted to focus on charities that were incorporated associations in a jurisdiction where the ACNC had a streamlined reporting arrangement in place. That includes the ACT, South Australia, Tasmania, New South Wales, the Northern Territory, and Victoria.

And the reason that we do this is when we enter into a streamline reporting arrangement we make some concessions available to organisations so that they don't have to go back and do anything retrospectively, they can adopt the reporting framework for the ACNC progressively over time and lift up the quality and the compliance with ACNC requirements, normally over a two-year transitional period. That was one of the other things we looked at, we wanted to see the health of the reporting from organisations where we had a streamlined reporting arrangement.

We also, in addition to that, randomly selected some charities to ensure that we did have a bit of a fuller understanding without just focusing on incorporated associations where we had a streamlined arrangement, as well as those organisations which had made previous errors, so quite a different and unique compilation of the sample. And I guess in terms of some of the characteristics of the review we only focus on medium and large charities. So under the ACNC framework they're the only organisations that have to prepare financial reporting. And the geographical reflection really is similar to the geographical spread of the population around Australia, predominantly Victorian and New South Wales entities then followed by Queensland and so on as we go down into the smaller sized states.

Over 40% of the sample were incorporated associations, and I've outlined the reasons why a little bit earlier, and then over 30% were companies limited by guarantee. So the lion's share, over 70% of organisations that we reviewed were either incorporated in some form through the state or through ACIC, and then the remaining sample where other types of entities, for example, trusts and so on.

Ram Subramanian:
In a sense, the review that you undertake year is a comparative exercise. I see you've been doing this since 2015 and you look at, when you conducted your most recent review in 2020 you made some comparative analysis to the previous year's reviews that you undertook. Could you tell us a little bit about where you see charities having been doing better in terms of the financial reporting quality that you're seeing?

Melville Yates:
Yeah, absolutely. One of the interesting things that we've seen improve is the correct identification of an individual charity's financial report as a consolidated financial report. What I'm really saying there is that less charities incorrectly identified that they had an individual charity AFR as a consolidated AFR. And just for clarity, AFR stands for the annual financial report. So if I slip into using acronyms I'm talking about the financial statements for that particular period. That was an improvement in 2019.

And also one of the other things that we found is that the information which was provided in the annual information statement reflected the financial report, and specifically here on talking about consolidated financial statements. That is, we only want information from registered charities in the AIS, so we do accept consolidated financial statements. We did find that there was less errors in that transposition of information between the AFR and the annual information statement. So that's a really good thing.

Ram Subramanian:
And where do you see things plotting along as normal, things that haven't really changed from previous years?

Melville Yates:
Yeah. I guess there's a couple of things here. In the 2019 AIS we did find that similar number of organisations put incorrect information in the annual information statement when we've looked at the financial report so things weren't consistent and there's no rationale or reasoning for that. The transposition errors are quite common. We did find that there were similar issues being carried across into the AIS, across donations and bequests, as well as employee expenses, so there we haven't really seen any marked improvement. Some of the most common disclosure issues in the AFR, and this really is key and fundamental, we're finding that there's still a number of AFRs that we receive from charities that don't indicate the charity is a not-for-profit entity for financial reporting purposes. Now, obviously to be a charity you have to be a not-for-profit entity and that's a mandatory requirement under the accounting standards.

Also many organisations are giving us AFRs that do not talk or reference the ACNC Act as the statutory basis under which the financial report was prepared. They're quite fundamental and quite important to the integrity of the financial reporting as well as the assurance that's undertaken. And one of the other things which we do find is reasonably common is where charities prepare general purpose financial statements, because they do have the option of preparing general purpose or special purpose depending on that decision as to whether the entity considers that it is a reporting entity or not. We do see that for many general purpose preparers we don't get any disclosures on related party transactions, particularly compensation of key management personnel. That's a mandatory requirement when preparing general purpose financial statements, under AASB 124, those things are required.

Ram Subramanian:
Mel, probably this question is of some significance to prepare us for 30th of June ENAs. Where do you see the need for improvement in financial reports based on your surveillance findings?

Melville Yates:
Thanks, Ram. I guess, again, one of the significant things that we do find from many AFRs that we review is that we don't get the full set of financial statements. That is really quite critical. The ACNC framework is very clear that we do need the full set of financial statements as well as the notes that accompany those. We do require for any medium and large charity there has to be that minimum level of assurance, that is the review report or the auditor's report. We still get many reports which are not signed which may not comply with the new auditing standards. All of these things quite fundamental.

We don't necessarily see the statement of other comprehensive income where it should be included, the statement of changes in equity and the statement of cash flows. They're the three highest issues that we identify when we don't have a full set of financial statements. It's really important that preparers and assurance providers are clear on what the requirements are from the ACNC in terms of the four statements that are required, plus the notes, plus the declaration from the responsible persons, otherwise known as the committee or the board of directors, whatever the charity may use as their appropriate term. And as well as the assurance providers certification that the assurance has met the minimum standards that need to be considered when a review or an audit is undertaken.

Ram Subramanian:
Now, you've focused on the preparers of financial reports so far and what they need to be looking out for in improving the quality of financial reports. Do you feel that there's any matters that auditors or reviewers or these financial reports should take note off when trying to improve the quality of financial reporting?

Melville Yates:
Yeah. Good question. And one of the most fundamental things is to actually look at the reporting that is on the register for the entity that you are working with or working for. So actually go on to the charity register, search that particular charity, have a look at the annual information statement and the AFR that has been submitted and actually see if there is anything that you can identify that needs to be fixed or is not up to standard, because quite often, sometimes what we find is the information that we get from charities might have been perhaps an incorrect version, for example, an unsigned audit report. And what we find is when we go back to the charity and say, "You've actually submitted an audit report that isn't signed," the charity is not necessarily aware of that nuance or the importance of having the signed version.

As preparers, as assurance providers, I actually think it's really beneficial to go back and look at the reporting and make sure that it is up to standard, it meets the requirements that need to be met, and if you identify anything then obviously you've got the opportunity to make good in a future reporting period. Some of the things I've already talked about, not having a signed auditor report, some of the auditor reports not complying with the new auditing standards. We do get AFRs submitted where the responsible persons declaration, and that's really important because that's talking about the solvency of the organisation, being able to pay its debts when they're due and payable. Sometimes we don't get that, so that is really a very significant gap in meeting the compliance requirements for financial reporting to the ACNC.

Ram Subramanian:
Mel, thank you for that synopsis of the areas where you see the need for improvements in financial reporting by charities based on your surveillance programme. Are there any final observations you'd like to make based on your surveillance programme?

Melville Yates:
Going forward, our focus areas will continue to be making sure that charities are providing a complete set of financial reports so we do expect to get all of the financial statements, we expect to get a signed audit or review report. We need the signed responsible persons declarations as well as obviously the notes to the financial statements. We'll continue to look at where errors have been made between the AFR and the AIS but we're specifically going to focus on revenue from government and making sure that that is correct in both arms of the reporting. Revenue from providing goods or services as well as donations and bequests, employee expenses, total expenses, and net assets.

One of the other areas that we do find we get a lot of incorrect responses is in relation to the type of AFR that the charity has submitted. Obviously there's GPFR, there's special purpose, there's RDR, and obviously now there's SDR. We do want to make sure that the correct type of AFR has been selected in the annual information statement and we will be monitoring the disclosures of government revenue to see the adoption of the best practise guidance that we have released, which is available on the website and that specifically around disclosures of government revenue.

Ram Subramanian:
Mel, you've highlighted a few areas for improvement in financial reporting by charities. As part of that there have been a few new accounting standards that have come on stream recently, particularly the one on revenue recognition/income recognition, AASB 15 and AASB 1058 respectively, and also the new standard on lease accounting, AASB 16. Have you found any issues in the accounting for these new requirements in the financial reports that have been lodged with the ACNC?

Melville Yates:
It's a very good question, Ram. I guess the way I'd answer that is the 2019 period was really the start of these new standards so we haven't really had an opportunity to very comprehensively at the rate of adoption. But what I would say is what we've seen from the reporting that we have looked at is that the interplay between the new revenue standards, that is 15 and 1058, it's not always straightforward. We are seeing some charities that are sort of grappling with the implementation of these. I would note and commend the AASB who have issued a number of frequently asked questions in relation to research grants. There's been some guidance or questions specifically for the education sector, concessionary loans, COVID government support payments, they're examples.

Looking at the percentage of charities that adopted the new standards, surprisingly only 11% of the sample adopted 1058, only 15% adopted 15, revenue, and I guess in terms of that, the other one in terms of leases only 14% adopted that standard. I think there is still quite a long way for the charity sector to go in terms of full implementation of these standards and I think I'll be in a better position to talk about this potentially in a future podcast, looking at some future reporting findings from the reviews that we do.

Ram Subramanian:
Mel, so far you've quite thoroughly explored the findings from your surveillance programme, from the ACNC surveillance programme, but conscious that there are other moving parts to this financial reporting puzzle and there are some moving parts that are yet to occur. I just want to pick on a couple of those and get a sense from you as to what impact it might have on the quality of financial reporting by charities registered with the ACNC.

There's a couple of areas that I wanted to particularly focus on. One of them is the proposals from treasury to raise the financial reporting thresholds for charities. And the second thing I wanted to ask you about is the Australian Accounting Standards Board's financial reporting framework project which is now focusing on a new framework of financial reporting for not-for-profits, which will include charities, of course. I'll turn it over to you to respond to those two broad areas of important developments in financial reporting by charities.

Melville Yates:
I guess I might actually answer the AASB financial reporting framework first. Now, obviously we are a significant stakeholder in this, so we're very interested in how this framework project develops. And the AASB have been providing updates after each of their board meeting so I would really encourage anyone listening to this to really get engaged and stay in touch with the updates from the AASB about this. We're not leading this project but we're a significant and interested stakeholder, but I guess our desire as part of this framework project is to make sure that the charities that need to use the framework are able to use it. It's appropriate, it meets user needs, it's fit for purpose.

We don't want a really complex and overly-engineered framework, and I think one of the benefits that potentially could flow from this may be, and this is based on what has come out of the AASB so far, is that there might be an ability to have a proportionate framework. Therefore simpler, smaller organisations will be able to adopt simpler financial reporting. Larger, more complex organisations will have the more complex framework and financial reporting to be able to support the needs of users of those organisations.

I think there's scope to really see some advantages for the not-for-profit sector and obviously that benefits charities. In terms of the treasury threshold review which there was consultation which closed in March of this year, now, that proposal really talked about increasing the harmonised financial reporting thresholds for charities that are registered with the ACNC to be agreed and announced before the 30th of June, 2021. This is an opportunity for the ACNC threshold to be increased from where they sit at the moment. And the hope is that that will apply to all jurisdictions around Australia as well as the ACNC. So predominantly it will impact incorporated associations at a state and territory level, but obviously will also apply to ACNC-registered charities.

At the moment we've got three sizes of charity, small entities are anything with revenue up to $250,000. That threshold would increase, would double to $500,000, so charities could be considered small if they have revenue of up to $500,000. The medium-size would obviously then kick in at the $500,000 limit and then that would go up to less than $3 million. Large charities at the moment, 1 million or more in annual revenue, that would triple so that threshold would be set at $3 million or more per annum.

The benefit, I guess, is a balancing of the regulatory burden in order to prepare financial statements and get the assurance undertaken for those financial statements so increasing those thresholds will really see benefits flow to the broader charitable sector, but it's also balancing the need of transparency, accountability, managing the risk that's involved with increasing those thresholds so that the proportionality is maintained. And I should note that the assurance requirements which were included as part of this proposal, they stay the same so small ACNC charities would only need to prepare an annual information statement.

Medium charities would still be required to have a review and then large charities, they would still need to have an audit of their AFR undertaken as well. I think there's real opportunity here to see a reduction in red tape and regulatory burden for charities, but also bearing in mind that balancing of the need for users to have information about registered charities available to meet their interests and their needs as well.

Ram Subramanian:
We're certainly looking forward to that finalisation of that proposal from treasury because we do believe at CPA Australia that that will improve the need for red tape production across the charity sector, which could potentially have an impact on other not-for-profits like incorporated associations as you said, Mel. And the expectation is the AASB project will give rise to a consultation of some sort later in 2021, so watch this space, I suppose. Are there any other final matters in relation to financial reporting that you believe listeners will find useful?

Melville Yates:
Again, I will underline the best practise guidance that we did release and is on our website which is specifically around the disclosures that we think are best practise in relation to government revenue and they really apply where a charity receives 10% or more of its total revenue from government. And what we're really asking for is to include more information about the top 10 government departments or agency that provide revenue to the charity, including the amount of revenue that's received from that particular department or agency, as well as revenue from providing goods or services to beneficiaries who receive government financial assistance.

And the example that everyone knows really in this space is the National Disability Insurance Agency. So NDIA fund, a service user, or a beneficiary, who then may engage a charity to provide services that meet their needs. Where a charity is in that situation, generally it's known that the NDIA is funding that programme so we think it's best practise to include disclosures around revenue from those sources.

And then we've also got some information about economic dependency where a charity is dependent on government revenue and the risks involved in that including adequate disclosures so that the users of financial statements have enough information to be aware of some of those risks. And then finally, where a charity does prepare special purpose financial statements but obviously doesn't make the disclosures required by AASB 15 and 1058. What we recommend in this best practise disclosure is to include funding from government that has been received but not yet recognised as revenue, so as a liability.

Ram Subramanian:
Moving away from financial reporting matters, are there any other regulatory matters that listeners might find useful? In particular I note that in May, 2021, the ACNC has published its Australian Charities Report, which is based on the annual information statement data that you collect. Are you able to share any insights from that report?

Melville Yates:
Absolutely. Again, this is the largest set of information about registered charities, it really is a census if you like of the sector. What we've found is that the breakdown of the size of charity is largely consistent. Around two thirds of registered charities with the ACNC are small, that is that they have revenue of less than $250,000. And a very large portion of that number, around a third have revenue of 50,000 or less in any year, so there really is a massive number of organisations that are quite micro and small in terms of their size.

The breakdown of where charities operate is largely with the geographical population spread across Australia. New South Wales is the highest followed by Victoria, then followed by Queensland ,and then followed by Western Australia with those smaller states and territories following behind there. I guess if we look at our most common overseas locations, India is the most common location that charities operate overseas followed by the Philippines. New Zealand is number three, Indonesia number four, Papua New Guinea number five.

I guess in volunteer numbers we did see a decrease in volunteers to 3.6 million so a slight decrease there. We have seen that again, when this is quite consistent year on year, this always surprises me. Around half of all charities operate based on volunteers only, that is they have no paid staff charity. Charities employ 1.3, 8 million people, a massive, massive number of employees across Australia, and that's really significant in terms of the number of people who are employed in Australia, the charity sector is really, really important in that respect. We've seen employee expenses go up 6%, just short of $86 billion.

And I guess on the other side of things in terms of revenue growth, we have seen that revenue for the sector is looking quite healthy. We've seen a growth in total revenue of nearly 7%, so quite significant there in terms of that growth year on year. And I guess some of the other things that I'd point to, government revenue was almost half of charity revenue in total, that's 47% of all revenue comes from government, which amounted to $78 billion and that was up by around four and a half billion. So government really is a very significant source of revenue for the sector as a whole. Around a third of revenue comes from the sale of goods and services by charities, that's around $57 billion.

Another thing to note is that assets have increased by $30 billion, that's up to 354 billion. And on a positive, donations rose. So the generosity of Australians is very clear here. Donations rose to nearly $12 billion which was an increase of 1.3 billion on the year before, so some really, really positive signs there. And this shows the strength of the charity sector before some of the crises emerged of 2020. So that is before the COVID crisis hit things were looking quite good for the sector as a whole.

Ram Subramanian:
I guess your charities report for next year might tell a different story, but that's obviously looking into the crystal ball to some extent.

Melville Yates:
Absolutely.

Ram Subramanian:
Mel, thank you very much for that insightful discussion into financial reporting by charities particularly in the context of your surveillance programme and the findings from your most recent surveillance exercise. And thank you also for highlighting some of these additional regulatory matters that could have an impact on charities in 2021. I'll sign off there and thank you very much once again, Mel.

Outro:
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