Sooner or later, many associations hit the same moment. Members want to fund scholarships, research or workforce programs, and the people writing checks want a tax deduction for it. A 501(c)(6) can’t offer one, so the association forms a 501(c)(3) foundation to sit alongside it.
It’s a smart structure, but it changes your audit more than most boards expect. Two entities means two sets of books, two Form 990s, money moving back and forth between them, and a handful of judgment calls your auditor will want to see documented.
Whether you already run an association and a foundation side by side or you’re still weighing the idea, here’s what the two entity setup means at audit time. To keep it concrete, we’ll follow one example throughout: a state professional society with about $1.8 million in revenue and a scholarship foundation that raises about $350,000 a year.
One audit or two? Start with who controls whom
The first question your auditor answers is whether the association’s financial statements have to include the foundation. Nonprofit accounting standards (FASB ASC 958-810) answer it with two tests:
- Control. Does the association hold a majority voting interest in the foundation? In practice, that usually means the association is the foundation’s sole member or appoints most of its board.
- Economic interest. Does the foundation hold or use significant resources for the association’s purposes, or is the association responsible for the foundation’s obligations?
Here’s how the answers generally play out:
|
What the relationship looks like |
What the standards call for |
|---|---|
| Board control plus economic interest | Consolidated statements: one set of financials covering both entities |
| Control through a contract or affiliation agreement, plus economic interest | Consolidation is allowed but not required |
| Only one of the two tests is met | Separate statements, with the relationship explained in the notes |
In our example, the society appoints every foundation director and the scholarships serve the society’s profession, so the auditor will likely conclude the two belong in one consolidated set. If the same people sit on both boards but neither entity controls the other, combined statements can be another option worth discussing.
One catch: consolidating doesn’t always mean one audit. State charity registration rules often require audited financials from organizations that solicit donations, and scholarship partners and grantors frequently ask for the foundation’s own statements. That can mean two reports, a consolidated one for the association and a standalone one for the foundation. Ask your auditor to plan both inside one engagement so you don’t end up paying for two sets of fieldwork.
Money moving between the two entities
In a two entity setup, money frequently moves between the two entities. The association pays a vendor and bills the foundation for its part, while a member will add a scholarship donation to a dues payment. Each time a foundation reimburses the association for staff time, a receivable on one set of books and a payable on the other are created, and at year end your auditor expects the two to match.
When they don’t, it’s usually for one of three reasons:
- One entity recorded the charge and the other didn’t, often because the invoice straddled year end.
- A deposit landed in the wrong bank account and was corrected with a journal entry on only one side.
- A balance has sat unpaid for months, and no one remembers what’s in it anymore.
If you consolidate, these balances and the matching revenue and expense are eliminated, so the combined numbers don’t count the same dollar twice…but of course this requires both sides to agree. The good news is that this is totally preventable by (1) reconciling the due to and due from accounts every month, (2) settling the balance in cash at least quarterly, and (3) keeping a short schedule that ties the two sets of books together.
Shared staff, space and overhead
Most association foundations have no employees of their own. The association’s staff run the scholarship program, the association’s office holds the files, and the association’s software tracks the donors. It’s the most efficient way to operate, and it’s also the reason auditors spend the most time focused on the association in a two entity audit.
Here’s what your auditor will want to see:
- A written agreement that spells out what’s shared and how costs are split, approved by both boards.
- A method that holds up. Staff time based on actual time records or a periodic time study, space based on square footage or usage, and systems based on users or transaction volume.
- Consistency. The same method applied month after month, with the calculation saved.
- Real payment. Charges invoiced and paid, not just agreed to on paper.
The tax side matters just as much. A 501(c)(3) can’t let its charitable dollars subsidize member services or lobbying, and if the foundation pays more than the cost of what it actually uses, that’s a private benefit problem for its exempt status. That being said, the reverse is generally fine: the association can choose to absorb costs on the foundation’s behalf.
One point that catches people off guard is that free help still shows up. If association staff work on foundation business at no charge, the foundation generally has to record those services as contribution revenue and a matching expense, typically measured at what they cost the association. Nonprofit standards require a recipient to recognize services from an affiliate’s personnel that directly benefit it, so “the association just covers it” doesn’t keep it off the foundation’s statements.
Gifts, events and which entity the money belongs to
Donors don’t think in entities. They write one check to “the society” and assume it ends up in the right place. Your auditor will test whether it did, and at Mullins, P.C., there are three situations we see most often:
- Gifts that land in the wrong entity. A scholarship donation deposited into the association’s account, or thanked on association letterhead, is a problem for the donor, because gifts to a 501(c)(6) aren’t deductible as charitable contributions. Separate giving pages, separate bank accounts and acknowledgment letters issued by the foundation keep this clean.
- Events that raise money for the foundation. The annual golf outing sits on the association’s calendar and is run by association staff, but the proceeds fund scholarships. Decide in writing, before the event, which entity hosts it. If the association simply collects the money and passes it along, it may be acting as an agent, holding those dollars as a liability rather than reporting them as its own revenue.
- Restricted gifts. A gift for scholarships stays restricted until it’s spent on scholarships. It can’t plug a gap in the foundation’s operating budget, and it can never cross over to the association. Expect your auditor to trace every release of those restrictions back to an actual award.
Two Form 990s that tell one story
Each entity files its own Form 990, and anyone reading both (the IRS, a state regulator, a major donor) expects them to agree. Schedule R is where each return names the other as a related organization and reports what moved between them: reimbursements, shared expenses, grants and loans.
When we review a Form 990, we check that:
- What the association reports paying to or receiving from the foundation mirrors what the foundation reports.
- Anyone serving on both boards is reported consistently, including compensation paid by either entity.
- The foundation’s return reflects how its board is actually chosen. If the association appoints the foundation’s directors, the foundation’s Schedule R should name the association as its controlling entity.
There’s a lobbying angle here too. Association staff time spent on advocacy has to stay on the association’s books. Shifting any of it to the foundation moves lobbying onto a charity with strict lobbying limits, and it understates the lobbying costs that drive the nondeductible percentage on your member dues notice.
Thinking about forming a foundation? Plan for the audit first
If you’re still deciding, several audit decisions are far easier to make before the foundation exists than after:
- Choose the control structure on purpose. How the foundation’s board is appointed largely decides whether you’ll consolidate. Know which outcome you want, then write the bylaws to match.
- Match the fiscal years. Consolidation and intercompany reconciliations are much simpler when both entities close their books on the same date.
- Open separate books and bank accounts on day one. Untangling a year of mixed activity costs far more than starting clean.
- Sign the cost sharing agreement before the first shared paycheck. An agreement written after the fact is harder to defend.
- Budget for a bigger audit. Even with one consolidated report, there’s more to test, and a second report if the foundation needs its own.
The bottom line
A foundation can expand what your association does for its profession, and the two entity setup doesn’t have to make your audit painful. Document the relationship between the entities, keep the money moving between them reconciled, and make sure both Form 990s tell the same story. Get those three right, and your audit becomes a confirmation that the structure works rather than a cleanup project.
Audited financial statements are reviewed by an independent CPA who provides an opinion on their accuracy and compliance with accounting standards. Unaudited statements are prepared by management alone and do not include this independent verification.
No, not all nonprofits are required to undergo an audit. Requirements vary based on factors such as state regulations, grant funding, federal awards, and internal board policies. Organizations should review their specific obligations to determine if an audit is necessary.
The timeline can vary depending on the organization’s size and complexity, but most audits take several weeks to a few months from initial planning through final report issuance. Proper preparation can help streamline the process.
Audit preparation includes organizing financial records, reconciling accounts, gathering supporting documentation, and ensuring internal processes are clearly documented. Early communication with the audit firm can also help to set your expectations and timelines.
Beyond compliance, an audit can strengthen internal controls, improve financial processes, and enhance credibility with donors, funders, and board members. It provides valuable insights that support stronger financial management and governance.