The essentials: Accounting - Balancing the books

Keeping the accounts might not be the most exciting bit of working for a cause, but it is vital. Stuart Anderson reports.

There are many reasons to become involved in charity management: the desire to make a difference, personal experience of the cause, a yearning for something a bit different from the daily grind, or even a need to retain the moral high ground over better-paid friends. It is highly unlikely, however, to be a career path chosen for the love of bookkeeping.

But financial management is an area of growing importance to a sector whose boundaries with the commercial and public spheres are increasingly fuzzy. Sailesh Mehta, partner in the charities group at accountancy firm HW Fisher, says: "For some reason charities seem to believe they do not need to act commercially. Unfortunately, the same strictures apply to them as to the commercial sector: you cannot spend more than you receive, and you cannot live beyond your means on a long-term basis."

Avoiding spending beyond your income need not be unduly complex. It does, however, require discipline and, like housework, is a lot easier if you keep on top of it regularly rather than waiting for the Charity Commission to knock on your door demanding the annual report.

1Back to basics At its most basic, bookkeeping requires the maintenance of a cash analysis book, recording income in one column, expenditure in another. This should be reconciled regularly against bank statements to ensure that neither you nor the bank has made an error. This also helps you keep a rolling review of the organisation's financial position.

Petty cash is a potential source of bookkeeping headaches, especially for smaller charities without permanent staff. There are some key things to remember. First, use cheques rather than petty cash where possible.

They are much easier to keep track of and will show up on your bank statements.

Second, never put cash received into the petty cash tin - it needs to go straight into the bank or you won't have a clue where you are up to with income and outgoings.

Third, operate an 'imprest' system for petty cash and any other cash floats run separately for specific events. This involves setting a specific level for your petty cash float (£100, say), drawing this out of the bank (recording the withdrawal in your cash analysis book) and always maintaining the original total in cash and receipts or petty cash slips (handwritten chits). When the cash starts to run out, go to the bank and top it up, but only back to the original float level.

Last, keep a petty cash book, which should be written up each time you top up the float from the bank. Receipts and petty cash slips should be kept and filed in date order.

More detailed procedures can be found on the Cash Online website (see box, page 20).

2On report The Charity Commission's expectations regarding the methods and formats of charities' reports and accounts are in the Sorp, the latest version of which was published in March 2005.

The degree of detail charities need to supply depends on their size and structure. Trust-based charities with turnovers below £100,000 must supply simple, cash-based accounts (money in, money out) to the Charity Commission, whereas those with turnovers above this level but below £250,000 must file 'accruals' accounts, which include matters such as outstanding creditors and debtors. Forms are available from the Charity Commission website (see box, page 20).

Mehta says: "One of the more serious problems is that many charities that should be producing accounts on an accruals basis fail to do so."

A full set of Sorp-compliant accounts and an audit are required from charities with turnovers in excess of £250,000. Trusts with income and expenditure below £250,000 do not require an audit but, rather, an 'independent examination', which is less onerous and not necessarily carried out by a qualified accountant. Charities with incomes below £10,000 require no independent scrutiny of their accounts.

Charitable companies must report to Companies House. However, Chris Harris, finance director at Action for Blind People and chair of the charities panel at the Chartered Institute of Public Finance and Accountancy, says the nature of the accounts supplied does not differ much from those required by the Charity Commission.

He says: "Nowadays an incorporated charity can pretty much just supply Sorp-compliant accounts to Companies House. They don't, for instance, have to provide a profit-and-loss account in the way a commercial company would."

The audit rules for incorporated charities, however, are more complex than for trusts. To qualify for total audit exemption, a charitable company must have an income below £90,000 and a balance sheet total of less than £2.8m.

A charity with an income between £90,000 and £250,000 and a balance sheet total of less than £1.4m can apply for a partial audit exemption by attaching a reporting accountant's report to their accounts.

3Devilish details "Our sector is about accounting beyond the bottom line," says Harris. "We have profit and loss, but for the average reader of our accounts our primary statement is a meaningless nonsense."

John Shuffrey, head of not-for-profit at accountancy firm Saffery Champness, agrees. He says: "The net income and resources figure is not the most important one in a set of charity accounts - you need to look at the whole picture."

Common mistakes in the composition of this picture include a failure to differentiate between restricted and unrestricted funds: those that come with strings attached as to how they can be spent, and those that do not.

Shuffrey says: "Even for small and medium-sized charities, the demands can be surprisingly complex. You can get an income of only £1-2m from a variety of funders for a variety of projects and the organisation may simply not have the depth of accounting resource to deal with it."

Another tricky area is the difference between expenditure on day-to-day management and on the actual charitable purpose. The new Sorp has tried to clarify this by labelling the former as 'governance' costs.

The Charity Commission also expects charities to account for 'intangible income', such as time given free by a professional adviser, which should appear both as an incoming resource and as a notional expense - the effect on the balance sheet is zero but the resource has been acknowledged.

According to Harris, organisations such as the National Trust account for their highly organised army of volunteers in this way. He acknowledges, though, that this would be unrealistic-ally onerous for small charities that rely solely on volunteering.

Another topic addressed by Sorp 2005, and to which reports should refer, is reserves policy. Charities such as Guide Dogs for the Blind have been criticised for having huge cash reserves, but it is also important for a charity to ensure that it is liquid and has enough money to pay the bills should the grants dry up or the donating public become less generous in the next financial year.

This is known as the 'liquidity ratio'. The total of unrestricted funds in the bank should ideally be enough to pay all of the charity's creditors.

Total assets (including debtors and investments, but not restricted funds) should be at least this figure, but preferably 1.5 times or more bigger.

If you do have sizeable cash reserves, it is also important to look at how they have been set to work for you - donors are unlikely to be impressed by large balances being eaten away by inflation in a current account.

4Tax relief For small charities with no trading arms, tax is straightforward.

VAT becomes an issue if you are providing a service that is seen to be subject to it. It's fiendishly complicated, especially in the light of last year's High Court judgement that enabled the Children's Society to claim back VAT on fundraising costs.

Similarly, charities involved in any form of trading suddenly go from straightforward to byzantine in terms of their dealings with HM Revenue & Customs. No commercial trading organisation whose directors value their liberty would attempt to deal with its tax issues without reference to a qualified practitioner, and the only sensible advice for charities is to adopt the same attitude.

5What's it all for? The biggest change in Sorp 2005 is its emphasis on the trustees' report. Whereas previous Charity Commission guidance focused on cold, hard figures, the new version is all about presenting contextual information within which to judge the meaning of the raw data.

It is important to think about who will be reading the report, and the Charity Commission or Companies House might be the least of your worries.

Interested members of the general public could take it upon themselves to write strongly worded letters to The Times about every penny you spend on fundraising, so that needs to be clearly justified.

Harris says: "Some donors insist you do it their way, as do government funders. They may want things that aren't in the Sorp rules, especially in terms of layout, and you can actually end up producing two sets of accounts."

The most important audience for any set of accounts is the people who run the charity and are responsible for managing its risks.

You can never be sure whether anyone else will really bother reading your carefully constructed report, but making sure your numbers all add up is the simplest way to combat fraud, to make sure you aren't in danger of going belly up and to point to ways the charity could be run, or its assets managed, more effectively.

A couple of nights fighting to keep your eyes open as you pore over the figures could save a lot more sleepless ones in the long run.

SOURCES OF ADVICE

Cash Online, www.cash-online.org.uk, offers free, clear and concise details of the essentials for financial management and accounting in a small charity.

National Council for Voluntary Organisations - Among the many free items in the 'Ask NCVO' section of www.ncvo-vol.org is a Financial Healthcheck.

The Finance Hub - The Charities Aid Foundation-operated www.financehub.org.uk is still a work in progress. It currently includes a Guide to Financial Management - this may read like a government consultation document, but there's enough meat buried within its 56 pages to make going through it a worthwhile slog.

Sorp 2005 - The full financial reporting and accounting guidelines are available from www.charity-commission.gov.uk, together with a variety of less daunting information and forms CC16 and CC17 - which, it says, provide all that is needed for smaller charities to submit compliant returns.

Charity Finance Directors Group - Contact membership and information manager Michael Dykes (michael.dykes@cfdg.org.uk, 0845 345 3192).

The Community Accountancy National Network, with practitioners listed at www.ncvo-vol.org.uk/askncvo/finance/CANN/. Community accountancy is usually provided through local CVSs, and they offer training and advice to voluntary organisations, often free of charge or at a discounted rate.

Charity Commission Direct - This new helpline offers a range of advice, including advanced accountancy matters. Tel: 0845 3000 218/0845 3000 219 (minicom).

Chartered Institute of Public Finance & Accountancy - Cipfa is piloting a one-year part-time qualification in charity finance in association with London South Bank University. For those who can't make it to south London for one afternoon and one evening each week, Cipfa is considering rolling the course out to other universities or by e-learning in future, depending on the outcome of this year's pilot. For details, email cipfachar.enq@lsbu.ac.uk.

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