Strong governance and internal controls are essential for nonprofit organizations—not only for effective operations, but also for maintaining compliance with IRS requirements.
While the Internal Revenue Code does not prescribe specific governance structures, the IRS evaluates governance practices through Form 990 disclosures. These disclosures provide insight into how an organization is managed, how decisions are made, and whether appropriate oversight exists.
Weak governance or inadequate internal controls can raise concerns, even when financial reporting appears accurate.
Why Governance Matters to the IRS
The IRS views governance as a key indicator of whether an organization is operating in accordance with its tax-exempt purpose.
Form 990 includes a series of governance-related questions, particularly in Part VI, that address:
- Board structure and independence
- Policies and procedures
- Oversight of financial and operational activities
- Compensation approval processes
These disclosures help the IRS assess whether the organization has appropriate checks and balances in place.
Common Governance-Related Audit Triggers
Lack of Board Independence
Form 990 asks whether a majority of the governing body is independent.
Independence is evaluated based on:
- Compensation relationships
- Family relationships
- Business relationships
When a board lacks independence, it may raise concerns about whether decisions are made in the organization’s best interest.
Missing or Weak Policies
The IRS inquires about several key governance policies, including:
- Conflict of interest policy
- Whistleblower policy
- Document retention and destruction policy
While these policies are not legally required, the absence of them—or failure to follow them—can signal weak governance practices.
Inconsistent or Inaccurate Disclosures
Organizations must ensure that their Form 990 responses accurately reflect actual practices.
Common issues include:
- Indicating that the board reviews Form 990 when it does not
- Reporting that policies exist but are not implemented
- Providing inconsistent answers across different parts of the return
Inconsistencies can lead to increased scrutiny.
Lack of Documentation
Proper governance requires contemporaneous documentation of decisions.
This includes:
- Board and committee meeting minutes
- Approval of significant transactions
- Compensation decisions
Without documentation, it is difficult to demonstrate that appropriate oversight exists.
Weak Oversight of Key Decisions
The IRS reviews how organizations handle significant decisions, such as:
- Approval of executive compensation
- Review of related party transactions
- Oversight of financial activities
When these decisions are not subject to independent review or are not well documented, it may raise concerns about private benefit or mismanagement.
The Most Common Issue: Form Over Substance
Many organizations have formal policies in place but do not consistently follow them.
Examples include:
- Conflict of interest disclosures that are not updated annually
- Board approvals that are not documented in meeting minutes
- Policies that exist but are not actively enforced
The IRS evaluates not only whether policies exist, but whether they are actively implemented and documented.
Strengthening Governance and Internal Controls
Organizations can reduce audit risk by implementing structured and consistent governance practices:
- Conduct annual conflict of interest disclosures for board members and key employees
- Ensure that policies are reviewed and updated regularly
- Maintain detailed and timely documentation of board and committee actions
- Involve independent board members in key decisions
- Align governance practices with Form 990 disclosures
Effective governance requires coordination between leadership, finance, and legal functions.
Why This Matters
Governance disclosures on Form 990 are publicly available and often reviewed by:
- Donors and grantors
- Regulators
- Charity watchdog organizations
Weak governance can create both compliance risk and reputational risk, even in the absence of financial issues.
Final Thought
Governance and internal controls are not simply administrative requirements—they reflect how an organization operates and fulfills its mission.
Clear, consistent, and well-documented governance practices can strengthen compliance, reduce audit risk, and build trust with stakeholders.
