Chapter 5Direct Service Contract Audit Requirements

Section § 38040

Explanation

This section defines key terms related to financial and compliance audits. A 'financial and compliance audit' is an evaluation to check if financial statements are accurate and comply with relevant laws. 'Public accountants' refer to certified or state-licensed accountants, and 'independent auditors' are those accountants who are not connected with the audit's subject. 'Generally accepted auditing standards' are guidelines from the Comptroller General and based on standards by the American Institute of Certified Public Accountants.

A 'direct service contract' is a contract provided by a state agency. 'Nonprofit organization' includes those exempt from taxes under specific sections of the Internal Revenue Code or Revenue and Taxation Code.

As used in this chapter:
(a)CA Health and Safety Code § 38040(a)  “Financial and compliance audit” means a systematic review or appraisal to determine each of the following:
(1)CA Health and Safety Code § 38040(a)(1)  Whether the financial statements of an audited organization fairly present the financial position and the results of financial operations in accordance with generally accepted accounting principles.
(2)CA Health and Safety Code § 38040(a)(2)  Whether the organization has complied with laws and regulations that may have a material effect upon the financial statements.
(b)CA Health and Safety Code § 38040(b)  “Public accountants” means certified public accountants, or state licensed public accountants.
(c)CA Health and Safety Code § 38040(c)  “Independent auditors” means public accountants who have no direct or indirect relationship with the functions or activities being audited or with the business conducted by any of the officials or contractors being audited.
(d)CA Health and Safety Code § 38040(d)  “Generally accepted auditing standards” means the auditing standards set forth in the financial and compliance element of the “Standards for Audit of Governmental Organizations, Programs, Activities, and Functions” issued by the Comptroller General of the United States and incorporating the audit standards of the American Institute of Certified Public Accountants.
(e)CA Health and Safety Code § 38040(e)  “Direct service contract” means any contract provided by a state agency pursuant to Chapter 4 (commencing with Section 38030).
(f)CA Health and Safety Code § 38040(f)  “Nonprofit organization” means an organization described in Section 501(c)(3) of the Internal Revenue Code of 1986 that is exempt from taxation under Section 501(a) of that code or any nonprofit, scientific or educational organization qualified under Section 23701d of the Revenue and Taxation Code.
financial compliance audit financial statements accuracy legal compliance public accountants definition certified public accountants state licensed public accountants independent auditors definition audit standards Comptroller General standards American Institute of Certified Public Accountants direct service contract state agency contracts nonprofit organization definition tax exemption Internal Revenue Code 501(c)(3)
(Amended by Stats. 2003, Ch. 185, Sec. 4. Effective January 1, 2004.)

Section § 38041

Explanation

Nonprofit organizations that have contracts with the state must undergo an independent audit every year to ensure financial compliance. This includes checking their accounting systems and how they manage state contract money. If a nonprofit receives less than $25,000 annually from state agencies, they only need to be audited every two years unless there's suspicion of fraud or legal violations.

The nonprofits are responsible for conducting these audits using independent auditors and must follow set auditing standards. The audit must be completed within a few months after the fiscal year ends. While state agencies can still conduct their own audits, they should use the independent audits as a foundation if they meet standard criteria.

Additionally, the state handles performance audits specifically for the contracts, and state power to enforce laws and regulations remains unaffected.

(a)CA Health and Safety Code § 38041(a)  Annually, there shall be a single independent financial and compliance audit of nonprofit organizations that contract with the state under a direct service contract. Any such audit shall include an evaluation of the accounting and control systems of the direct service contractor and of the activities by the contractor to comply with the financial requirements of direct service contracts received by the contractor from the state agency. Audits carried out pursuant to this section shall be audits of the contractor, rather than audits of individual contracts or programs. In the case of any contractor that receives less than twenty-five thousand dollars ($25,000) per year from any state agency, the audit required by this section shall be conducted biennially, unless there is evidence of fraud or other violation of state law in connection with the direct service contract. The cost of such audit may be included in direct service contracts up to the proportionate amount that the contract represents of the contractor’s total revenue.
(b)CA Health and Safety Code § 38041(b)  A nonprofit organization shall have responsibility for financial and compliance audits of the nonprofit organization and any subcontractors. The audits shall be made by independent auditors in accordance with generally accepted auditing standards. The audit shall be completed by the 15th day of the fifth month following the end of the contractor’s fiscal year.
(c)Copy CA Health and Safety Code § 38041(c)
(1)Copy CA Health and Safety Code § 38041(c)(1)  Nothing in this chapter limits the authority of state agencies to make audits of direct service contracts; provided, however, that if independent audits arranged for by direct service contractors meet generally accepted auditing standards state agencies shall rely on those audits and any additional audit work shall build upon the work already done.
(2)CA Health and Safety Code § 38041(c)(2)  The state is responsible for conducting, or contracting for the conduct of, contract performance audits which are not financial and compliance audits.
(3)CA Health and Safety Code § 38041(c)(3)  Nothing in this chapter limits the state’s responsibility or authority to enforce state law or regulations, procedures, or reporting requirements arising pursuant thereto.
nonprofit contracts independent financial audit compliance audit state contract evaluation accounting systems review financial requirements contractor audit subcontractor audit audit standards state agency audits performance audits audit frequency financial compliance fraud investigation state enforcement authority
(Added by Stats. 1982, Ch. 1462, Sec. 3.)