Lessons learned from reviewing charity accounts

We have produced this report to inform charities and sector advisors of our findings and to highlight the key issues that have emerged. In sharing these key issues, it is our expectation that charities will be able to learn from them and improve their own annual report and accounts.

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1. Introduction

We undertook a review of 60 sets of trustees’ annual reports and accounts. The charities were selected on a random basis.

All charities in Scotland are required to prepare a trustees’ annual report and accounts, and file these with OSCR each year. The preparation of the accounts is a key way in which the charity trustees are accountable for their stewardship of the charity’s funds and can be transparent about how the charity has operated during the year.  More detail about the requirements for charity accounting in Scotland and OSCR’s monitoring of charities can be found in Appendix 1.

We have set out our findings and key messaging in section 2 of the report. Our random sampling process and the areas we looked at are set out in section 3, with the detailed checklist being included in Appendix 2. Our more detailed findings can be found from section 4 onwards.

2. Findings and key messaging

We undertook a review of 60 sets of Trustees’ Annual Reports and accounts. The charities were selected on a random basis.

In the sample we looked at the quality of the accounts submission, the governing document, activities of the charity and any stated reserves policy.  Our key findings were that several charities failed to meet the requirements for:

• the Trustees’ Annual Report, which is the key mechanism for trustees to inform readers about what the charity has been doing
• comparative information within the accounts, allowing readers to meaningfully compare from one year to the other

In addition, we identified that there is room for improvement in trustees’ understanding about reserves and reserves policies and how this can aid good financial management of their charity.   Many charities also failed to understand the requirements of their governing documents.   

Further detail on these four key issues is provided here:

3. Random Accounts Sampling

When we undertake random sampling, we ensure the sample is representative of the full population of Scottish charities in terms of the proportion of charities which fall within each income grouping. This means that we look at more charities with income under £25,000 as they represent around 60% of the standard charities on our Register. We exclude cross-border charities, registered social landlords, higher and further education charities and designated religious charities as these bodies have other regulators or oversight is exercised over these bodies in another way.

We have now completed our fourth set of random sampling of accounts work. In this sample we decided to look in more detail at how charities were reporting on their reserves policies and how the level of reserves held aligned with these policies. We also continued to look at the compliance of the accounts and how charities were meeting the requirements set out in their governing documents.

We are sharing our findings to help the sector understand more about the work we do, and to highlight common areas where improvement is required.

More information about the legislative requirements in relation to charity accounts and our monitoring role can be found in Appendix 1.

3.1 Random Sample

This report provides an overview of the results of this sample which covers 60 charities.

The sample we looked at was as follows:

3.2 Background information about the charities and their accounts

The following chart gives some information about the relationship between the legal form and size of the charities included in the random selection.

4. What did we look at?

When looking at our random samples we look at the complete position of the charity, not just accounting compliance. We review the trustees’ annual report and accounts together with other information we hold, such as the charity’s governing document.

We follow a checklist, shown at Appendix 2, to ensure that we consider all areas and that the reviews are carried out in a consistent manner. 

In this sample we introduced an additional area to look at which was the reserves policies of the charities. This is because one of our Regulatory Priorities is to improve charities understanding and management of their reserves.

In brief, within each main area of work carried out as part of the reviews, we considered:

5. Detailed findings from random sampling

Of the 60 charities we reviewed, there were 26 who had a ‘clean’ review and did not require any further contact. 

There were four charities where we were unable to accept the accounts and as such, we declined them and requested resubmission. We decline accounts where the submission does not provide sufficient information to allow us to determine an income and/or expenditure figure as this is key information we provide for all charities on the Scottish Charity Register. All four charities have now successfully resubmitted accounts which have been accepted.

We contacted 20 charities about various accounts compliance issues, we will review their next submissions to ensure that our points have been addressed.  Four of these charities also had issues relating to their governing documents.

We contacted seven charities specifically in relation to their governing documents. This included where we did not have a copy of the governing document, or where the charity was not adhering to their governing document.

Two charities were contacted about trustee remuneration and one charity was contacted about its activities.

Basis of accounts preparation

Of the 60 charities that had submitted a set of accounts, 34 prepared on a receipts and payments basis and 26 prepared on a fully accrued basis.

Receipts and payments accounts by income

Out of these 13 used the OSCR workpack – 10 up to £24,999 and 3 up to £99,999.

OSCR work pack and accounts compliance

Of the 13 charities utilising the OSCR Receipts and Payments work pack we only had to contact four about accounts compliance.  These were as follows:

• one with an error in the previous year balance
• one where they had not used the workpack for the Statement of Balances and this was incorrect
• two where they had failed to include a trustee remuneration note

This suggests that the use of the Receipts and Payments work pack does support charities with ensuring their accounts meet a basic level of compliance. Where we had to contact those charities using the Receipts and Payments work pack, this was where they had not used it fully.

There were 14 charities who prepared accounts on a fully accrued basis, who would, as a result of their income and legal form be able to prepare Receipts and Payments accounts. Their income was split as follows:

Charities can opt to prepare fully accrued accounts where they are entitled to prepare receipts and payments accounts. Where charities have more complex transactions, such as transactions relating to investments, or significant amounts paid or received in advance, fully accrued accounts may be more appropriate. If a charity’s income regularly fluctuates above and below £250,000, they may also decide to prepare fully accrued accounts for consistency. It is important however that charities understand the options available to them. Receipts and payments accounts can be a sensible option for many smaller charities as they are less complex and can be cheaper to prepare and examine.

6. Accounts compliance issues

6.1 Trustees' Annual Report

The Trustee’s Annual Report was again an area where we found that there was poor compliance.

Out of the 60 charities sampled we contacted eight about their Trustees’ Annual Report. In two instances there was no Trustees' Annual Report at all. These were both in charities preparing receipts and payments accounts with income under £25,000. In the other six charities there was a Trustees’ Annual Report, but it was insufficient in terms of requirements, two contained no information about who the trustees were and the remaining four did not contain sufficient detail to allow readers to understand the purposes of the charity and activities undertaken to further those purposes.

6.2 External scrutiny report

In this sample, all the charities had an external scrutiny report of some type. We had to contact three charities about their external scrutiny:

• One where the independent examiner was not independent of the charity
• One where there were English references to charity law rather than Scottish and;
• One where the firm undertaking the independent examination had signed the report rather than the individual examiner.

It is encouraging to see that all charities sampled are having external scrutiny of their annual report and accounts undertaken.

There were four charities where the charity had a requirement in their governing document for an audit, but an independent examination was being undertaken. All four of the charities were preparing receipts and payments accounts with three using a voluntary independent examiner. We contacted these charities to advise them that they should update their governing document to allow for an independent examination.

6.3 Comparatives

There were six charities in the sample where comparative information for the prior year had either not been included or was not included in all areas.

Five prepared receipts and payments accounts. Of these, four had no comparative information at all and one had no comparative information on the Statement of Balances.

There was one set of fully accrued accounts with comparatives missing on the Statement of Financial Activities (SoFA).

Comparative information is important as it allows users of the accounts to understand how the position has changed from year to year and make appropriate comparisons. Comparative information also helps to ensure that opening balance information from the prior year is correctly brought forward into the current year.

6.4 Trustee numbers

We found that five of the charities had insufficient trustees compared to the requirements of their governing documents.

Three were unincorporated associations and two were trusts. All had income of less than £25,000 and, as such, we would not have previously asked these charities about trustee numbers on the annual return form. The new annual return form asks this question of all charities. It is hoped this will prompt charities to check their governing document and ensure they understand the trustee numbers required.

6.5 Trustee remuneration

In two instances we found that the rules on trustee remuneration had been breached. One charity had a statement in their governing document that no trustees could be remunerated, and another had trustees who were all related and as such the payment was in breach of the 2005 Act. In both instances we wrote to the charities to seek assurances that they would review their remuneration arrangements.

6.6 Incorrect references and terminology

We identified incorrect references and terminology in accounts and governing documents. For example, four charities who are SCIO’s made references to being companies in their accounts. We contacted these charities to ensure that they addressed this in their next submission. 

7. Reserves policies

In this sample we looked at the reserves policies of charities. Reserves are the funds that a charity has which can be spent freely on any of its charitable purposes. All charities need to have a policy which sets out the level of reserves the charity should hold. A good reserves policy can help show donors, funders, and beneficiaries how charity trustees are managing the charity’s money.

There are requirements for both receipts and payments accounts and fully accrued accounts to include details about the charities reserves policy in the Trustees' Annual Report.

We considered if the charity had a reference to a reserves policy in its accounts and then looked to see if the actual reserves held were stated and if there was a comparison made of the actual reserves held to the reserves policy itself.

40 of the charities sampled had some reference to a reserves policy in their accounts, with a further two stating they were in the process of developing a reserves policy.

Although the one of the charities in the income grouping ‘£500,000 or more’ did not have a reserves policy it noted the requirement to develop one and stated that this was in progress. It is a relatively new charity.

8. Quality of reserves policies

8.1 Receipts and payments

There were 23 charities who prepared receipts and payments accounts and had information in the accounts which was headed ‘reserves policy’ (this includes those using the receipts and payments work pack). Roughly two thirds of charities preparing receipts and payments accounts had some reference to reserves.

Of the charities who prepared receipts and payments accounts there were five which stated a clear policy and had some comparison of reserves against their policy. Four of these had a requirement of three months of reserves and one had a requirement of no more than 10% of income. 

Eleven charities did not detail a reserves policy but rather made a statement about what funds they held or the type of funds they held.

8.2 Reserves policies and the OSCR work pack

Out of the 13 charities using the OSCR work pack for receipts and payments accounts, there were 11 which had information in the reserves policy section.

Only two of these charities had a clear policy stating a level of reserves to be held and only one of these made any assessment of the reserves held in comparison to the policy.

There were a further two charities who stated they were developing a policy, and the remaining seven charities made a statement about funds held, or funds being applied for the purposes of the charity.

Although the use of the OSCR work pack may encourage charities to provide some information in this section, they are not sufficiently explaining the charity’s reserves policy and how the charity is performing in comparison to the policy. It appears that there are issues with charities understanding the requirements in this area.

8.3 Fully accrued

Of the 26 charities that prepared fully accrued accounts, there were 16 who included some information in the accounts about reserves. 

Of these 16, only nine stated the level of reserves that they should hold.  The remaining seven charities stated they had a reserves policy, but they simply referred to maintaining reserves to fund work or to promote their objects.

Of the nine who stated the level of the reserves that they should hold, there were six who stated the level that they currently hold.  Only three of the six were meeting their reserves policy.

8.4 Reserves policy details

Where charities had reserves policies that referred to an amount that the charity aimed to hold in reserve, these were often described as equivalent to a number of ‘months of expenditure’, with the most common being three months expenditure and costs for wind up. There was little explanation within the policies as to why these amounts were considered appropriate for the charity.

We understand that many charity trustees mistakenly believe that OSCR has a required level of reserves, commonly quoted as equivalent to three months of expenditure. OSCR has no set level of reserves which a charity should hold. All charities are different and have different requirements. It is very important that trustees consider the appropriate level of reserves for the charity, taking into account a number of factors including the activities and beneficiaries of the charity. 

It does not appear, on the basis of this sampling work, that reserves policies are used effectively as a financial management or business planning tool. There does not seem to be the level of detail and understanding that we would expect to see in these policies. More importantly there is only a small minority of charities who are actively considering whether the current level of reserves they hold meets the policy which they have set out as appropriate for their charity. Charities should be using their reserves policy as a governance tool, it should be an active policy, regularly under review, to ensure that it is appropriate. Comparison of actual reserves held against the policy should be undertaken regularly to ensure that the charity trustees are aware of relevant risks to the charity’s sustainability and financial health.

9. Additional information