Form 990: Key Focus Areas for Compliance and for the Public

Many nonprofit organizations view Form 990 as a relatively straightforward compliance exercise: a simple informational return that must be filed with the IRS each year. But in taking this view, nonprofit leaders overlook the many other ways that Form 990 shapes the public narrative around their organization.

From a compliance perspective, Form 990 is undeniably important, serving as the basis for the nonprofit’s status as a tax-exempt entity. However, there are many complexities that nonprofits must navigate to ensure they’re satisfying all regulatory requirements. This is particularly true for nonprofit organizations in the arts and culture sector that frequently trigger requirements for additional disclosures. 

Beyond compliance, however, Form 990 plays an extremely important role in shaping public perception and donor sentiment toward nonprofits. For organizations seeking to grow and further their mission, it’s crucial to understand exactly how Form 990 shapes the narrative around the nonprofit’s success. 

This briefing outlines exactly which areas nonprofit leaders should focus on as they prepare their annual Form 990. We will introduce several key considerations for leaders to bear in mind and explore why the support of an experienced nonprofit accounting firm is indispensable in maximizing the opportunities Form 990 affords.  

What is Form 990?

IRS Form 990, Return of Organization Exempt from Income Tax, is an informational return that all tax-exempt organizations must file with the IRS each year (due by May 15th for calendar year filers). 

The filing contains information on a nonprofit’s financial performance and activities through the year, including revenue, expenses, assets, liabilities, and more. In addition to this financial information, Form 990 also requires nonprofits to disclose information surrounding program activities, fundraising, internal controls, board compensation, and other key areas.

Unlike many IRS filings, Form 990 is a public document. Many nonprofit organizations publish their Form 990 on their website, and watchdog organizations including GuideStar and Charity Navigator use an organization’s Form 990 to assess how well the nonprofit uses donations and public funds to advance its mission. 

In this sense, Form 990 is an incredible marketing tool. Form 990’s are viewed by donors, grantmakers, journalists, patrons, and other members of the public. 

Demonstrating a robust compliance infrastructure and leveraging Form 990 to craft a narrative around the nonprofit represents a fantastic opportunity, but it’s one that many nonprofits in the arts and culture space fail to fully leverage. 

Compliance: Key Focus Areas

In filing a Form 990, the main focus should be on ensuring that the nonprofit entity is portrayed in the correct manner. It almost goes without saying that financial accuracy is paramount, but nonprofit accounting can be extremely complex, and without the right guidance, it’s common for nonprofits to make errors on their Form 990. 

These compliance errors typically occur across several key focus areas. Below is a brief overview of each. 

Compensation

Perhaps the most common issue is incorrect reporting of compensation. While this is sensitive information, nonprofits are required to disclose executive compensation information.  At a minimum, this includes the top management and top financial officials and then would extend to other officers, highest compensated employees, and key employees (subject to compensation thresholds) depending on the nonprofits size.

Reporting requirements include disclosing actual salary figures, including bonuses, deferred compensation and other benefits to the employee.  The nonprofit is also required to disclose the process for determining executive compensation and benefits: whether that’s through an executive compensation committee or data-driven comparisons with the salaries of executives at comparable nonprofit organizations or other processes determined internally.

Unrelated Business Income Tax (UBIT)

Many large nonprofits, particularly arts and cultural organizations, have some level of unrelated business income which, by definition from the IRS, is “income from a trade or business, regularly carried on, that is not substantially related to the charitable, educational, or other purpose that is the basis of the organization’s exemption.”

UBIT is especially common in the arts and culture sector of nonprofits.  Common triggers include event rentals, gift shops, and restaurants and require a nonprofit to file a Form 990T and potentially pay tax at the federal and state level.  There are many unique reporting requirements and approaches nonprofits can take when reporting UBIT so it is important to have an advisor that understands the rules and complexities. 

International Reporting Requirements

When a tax-exempt organization participates in certain activities outside of the U.S. above certain thresholds, it must file Schedule F of Form 990: Statement of Activities Outside the United States.  

The thresholds that trigger these international reporting requirements are relatively low. For many arts and culture organizations, it’s easy to trigger these reporting requirements without realizing it. If an organization has funds in a foreign bank account, travels abroad to scout exhibits or performers, or makes any foreign investments, it may need to file Schedule F and potentially other forms to remain in compliance.  Although just informational disclosures, these forms come with steep penalties: often $10,000 per form, so compliance is paramount to avoiding unnecessary fees.

Public Narrative: Key Focus Areas

As discussed earlier, a nonprofit organization’s Form 990 filing serves as an important opportunity to attract donors and shape the public narrative around the nonprofit. The opportunity to create this narrative is one of the most salient differences between Form 990 and a for-profit tax return. 

Despite this, many nonprofit organizations neglect the opportunity to include disclosures and additional information that drives a positive narrative around their organization. This can be a costly mistake. 

Major sources of nonprofit funding, including grantmakers and donors, closely scrutinize an organization’s Form 990 before making any funding decisions. As these stakeholders review the Form 990, their aim is to understand how effectively the nonprofit is using its revenue and assets to further its mission. 

To ensure you paint a favorable picture of your nonprofit’s effectiveness, there are several key focus areas to bear in mind. 

Explain Top Programs

Form 990 has an entire section dedicated to the nonprofit’s program activities and lists the top three programs, as measured by program expenses, in the main body of the 990. 

Organizations should be comprehensive in their descriptions and should ideally include numerical data and other factors that clearly demonstrates how the nonprofit effectively stewards donor funds toward its mission. Statistics that detail how many individuals the nonprofit served and how many exhibits the nonprofit held are helpful indicators of a nonprofit’s effectiveness. 

Governance Protocols

Many nonprofit organizations manage significant endowments and revenue streams. Form 990 serves as an opportunity for nonprofits to display that they have sophisticated internal controls and governance policies. 

If a nonprofit fails to include information on protocols including fraud prevention policies, conflict of interest policies, document retention policies, and so on, it can be a red flag to potential donors and the IRS that funds are not being stewarded correctly. 

Functional Expense Allocation

Nonprofit expenses are reported in three categories: program expenses, management expenses, and fundraising expenses. Allocating funds correctly between these categories is important. 

Donors prefer to see the majority of funding directed towards program expenses: expenses that further the nonprofit’s mission. However, management and fundraising expenses should not be ignored. These are vital expenses that speak to the long-term sustainability of the nonprofit and are both needed and expected by the IRS and donors to the nonprofit. 

How Smith +Howard Support Arts and Culture Nonprofits with Form 990

The underlying complexities––and opportunities––inherent in Form 990 underline the importance of the guidance of an experienced nonprofit accounting firm. At Smith + Howard, our specialized nonprofit accounting practice works closely with leading nonprofits across the nation to file precise, meaningful Form 990’s that advance the organization’s mission.

Throughout our time advising nonprofits in the arts and culture space, we have found that a proactive approach to filing Form 990 serves the best interests of nonprofit organizations. Maintaining an ongoing relationship with a trusted accounting and advisory partner allows nonprofits to optimize their decision-making throughout the year and ensure a smooth Form 990 filing process. 

With over 50 years of experience serving the nonprofit community, our nonprofit accounting leaders bring an intelligent, nuanced approach to every engagement and focus on building meaningful client relationships that enable nonprofits to thrive. 

To learn more about Smith + Howard’s nonprofit accounting services, contact an advisor today.