BILL ANALYSIS Ó SENATE COMMITTEE ON HUMAN SERVICES Senator McGuire, Chair 2015 - 2016 Regular Bill No: SB 490 ----------------------------------------------------------------- |Author: |Beall | ----------------------------------------------------------------- |----------+-----------------------+-----------+-----------------| |Version: |February 26, 2015 |Hearing |April 21, 2015 | | | |Date: | | |----------+-----------------------+-----------+-----------------| |Urgency: |No |Fiscal: |No | ---------------------------------------------------------------- ----------------------------------------------------------------- |Consultant|Mareva Brown | |: | | ----------------------------------------------------------------- Subject: Regional centers: audits SUMMARY This bill would raise the threshold amount required for a provider of Regional Center services to obtain an independent audit from $500,000 to $2 million and the threshold for a lesser review from $250,000 to $500,000. It also would require a regional center to grant a two-year exemption to the annual audit requirement if there were no issues in the audit or review that impacted regional center services, and makes other changes to existing audit requirements. ABSTRACT Existing law: 1) Defines, in California law, "developmental disability" as a disability that originates before the age of 18, continues, or can be expected to continue, indefinitely, and constitutes a substantial disability. This term also includes autism. (WIC 4512) 2) Establishes the California Department of Developmental Services (DDS) as the agency that oversees the state's developmental centers, and specifies the duties of the department and developmental center employees (WIC 4400 et seq.) SB 490 (Beall) PageB of? 3) Establishes in California law that DDS contracts with private non-profit regional centers to provide fixed points of contact in the community for persons with developmental disabilities and their families, so that these persons may have access to the services and supports best suited to them throughout their lifetime. (WIC 4620) 4) Requires that an entity receiving payments from one or more regional centers shall contract with an independent accounting firm for an audit or review of its financial statements subject to all of the following: (WIC 4652.5. (a) (1)) a. When the amount received from the regional center or regional centers during the entity's fiscal year is more than or equal to two hundred fifty thousand dollars ($250,000) but less than five hundred thousand dollars ($500,000), the entity shall obtain an independent audit or independent review report of its financial statements for the period. This includes work activity program providers receiving less than two hundred fifty thousand dollars ($250,000), as specified. b. When the amount received from the regional center or regional centers during the entity's fiscal year is equal to or more than five hundred thousand dollars ($500,000), the entity shall obtain an independent audit of its financial statements for the period. 5) Exempts state agencies, the UC and CSU university systems and certain providers, as defined, from the audit requirement. (4652.5. (a) (2), et seq.) 6) Requires vendors to provide copies of the audit or review to the vendoring regional center within 30 days of completion, and requires regional centers to review them and require resolution of issues identified in the report that have an impact on regional center services. (WIC 4652.5. (b)) SB 490 (Beall) PageC of? 7) Requires regional centers to take appropriate action, up to terminaton of vendorization, for lack of adequate resolution of issues. (WIC 4652.5. (c)) 8) Requires regional centers to notify DDS of all qualified opinion reports or reports noting significant issues that directly or indirectly impact regional center services within 30 days after receipt, and requires the notification include a plan for resolution of issues. (WIC 4652.5. (d)) 9) Specifies that an indepent review of financial statements must be performed by an independent accounting firm and requires the review to include at a minimum: a. An inquiry as to the entity's accounting principles and practices and methods used in applying them. b. An inquiry as to the entity's procedures for recording, classifying, and summarizing transactions and accumulating information. c. Analytical procedures designed to identify relationships or items that appear to be unusual. d. An inquiry about budgetary actions taken at meetings of the board of directors or other comparable meetings. e. An inquiry about whether the financial statements have been properly prepared in conformity with generally accepted accounting principles and whether any events subsequent to the date of the financial statements would have a material effect on the statements under review. f. Working papers prepared in connection with a review of financial statements describing the items covered as well as any unusual items, including their disposition. (WIC 4652.5. (e)) 10) Specifies that the independent review report shall cover, at a minimum, all of the following: a. Certification that the review was performed in accordance with standards established by the American Institute of Certified Public Accountants. b. Certification that the statements are the SB 490 (Beall) PageD of? representations of management. c. Certification that the review consisted of inquiries and analytical procedures that are lesser in scope than those of an audit. d. Certification that the accountant is not aware of any material modifications that need to be made to the statements for them to be in conformity with generally accepted accounting principles. (WIC 4652.5. (f)) 11) Prohibits DDS from considering requests for adjustments to rates by an entity receiving regional center payments solely to fund either anticipated or unanticipated changes required to comply with this section, as defined. (WIC 4652.5. (g)) 12) Requires every charitable corporation, commercial fundraiser for charitable purposes, unincorporated association, and trustee required to file reports with the Attorney General, as defined, that receives or accrues in any fiscal year gross revenue of two million dollars ($2,000,000) or more, exclusive of grants from, and contracts for services with, governmental entities for which the governmental entity requires an accounting of the funds received, to obtain an annual financial audit, as defined, and requires the audited financial statements to be available for public inspection no later than nine months after the close of the fiscal year to which the statements relate, as defined. (GOV 12586(e) (1)) This bill: 1) Adds to the existing requirement that an entity receiving regional center payments must obtain an audit new language requiring that the audit or review must relate to payments made by regional centers. 2) Increases the window for an independent audit or indepent review from $250,000 to $500,000 to a new window of $500,000 to $2 million, thereby also deleting the requirement that vendors receiving less than $500,000 obtain any independent audit or review, as specified. 3) Increases the threshold for a vendor to be required to SB 490 (Beall) PageE of? obtain an independent audit of its financial statements from $500,000 to $2 million. 4) Adds to the list of vendor exemptions any income from payments for social security benefits. 5) Permits an entity that obtains an independent audit or independent review based on regional center payments of between $500,000 and $2 million to request a two-year exemption if the regional center does not find issues in the prior year's audit or review that has an impact on regional center services. 6) Requires the regional center to grant a vendor request under that circumstance. 7) Permits an entity that is required to obtain an independent audit of its financial statements based on regional center payments in excess of $2 million to apply to the regional center for an exemption subject to all of the following conditions: a. If the independent audit for the prior year resulted in an unqualified opinion or an unqualified opinion with explanatory language, the regional center shall grant the entity a two-year exemption. b. If the independent audit for the prior year resulted in a qualified opinion and the issues are not material and pervasive, the regional center shall grant the entity a two-year exemption. However, the entity and the regional center shall continue to address issues raised in this independent audit, regardless of whether the exemption is granted. 8) Requires a regional center to notify DDS of any exemption it grants to an entity that receives a qualified opinion report. FISCAL IMPACT This bill has not been analyzed by a fiscal committee. SB 490 (Beall) PageF of? BACKGROUND AND DISCUSSION Purpose of the bill According to the author, the vendor audit requirement was intended to save the state more than $20 million annually through increased accountability, but as of March of 2014, DDS has received fewer than 100 audits of concern and none of them resulted in any savings. The cost to perform the financial reviews and audits are borne solely by the vendors at an average cost of $10,000 per audit. Additionally, the author states SB 490 clarifies ambiguities in the original bill, including what monies are subject to an audit. As a result, some accounting firms are auditing the vendors' entire budget including revenue that is not from the regional center while others are auditing only the portion from regional centers. This bill clarifies that only monies paid by the regional centers are subject to the audit review. Finally, the author states, this bill aligns the vendor audit threshold with that of nonprofit auditing practices elsewhere in the state. Existing law (GOV 12586(e) (1)), states non-profits with revenue greater than $2 million dollars shall be subject to annual fiscal audits. The current threshold creates a lower trigger (of $500,000) for much more expensive independent audit rather than a simpler financial review, the author states. The Lanterman Act The Lanterman Developmental Disabilities Services Act, passed in 1974, established an entitlement to services and supports for Californians with developmental disabilities and set up an extensive system to care for individuals who are living in their communities. A developmental disability is defined in statute as one that originates before the age of 18, continues, or can be expected to continue, indefinitely, and constitutes a substantial disability. Today, more than 275,000 children and adults with developmental disabilities are served in community-based programs and supported by state- and federally funded services that are coordinated by local, nonprofit regional centers. The state's 21 regional centers vary considerably in size and organization. Statewide, slightly more than half of the regional SB 490 (Beall) PageG of? center population is between age 18 and 61 years old; about two-thirds of all consumers have an intellectual disability, three in 10 are diagnosed with autism or a related disorder, and 18 percent are identified as having severe behaviors, according to data reported by the Department of Developmental Services (DDS). About 74 percent of consumers live in the home of a parent or guardian, according to DDS statewide data from June 2014. Vendorization To be eligible to provide services to a regional center client, a provider must become a vendor of those services in a specific regional center's catchment area. According to the DDS website, "vendorization is the process for identification, selection, and utilization of service providers based on the qualifications and other requirements necessary in order to provide the services. The vendorization process allows regional centers to verify, prior to the provision of services to consumers, that an applicant meets all of the requirements and standards specified in regulations." In truth, regional centers must vendorize any applicant who meets all the requirements for the service to be provided. The DDS website notes that vendorization in no way obligates that regional center to purchase service from that vendor. Applicants who pass vendorization requirements are assigned a service code and unique vendor identification number by the regional center, which determines the appropriate vendor category for the service to be provided. Bureau of State Audits report In August 2010, the Bureau of State Audits released a report entitled "Department of Developmental Services: A More Uniform and Transparent Procurement and RateSetting Process Would Improve the CostEffectiveness of Regional Centers. Among its conclusions was that regional centers were not appropriately monitoring expenditures of vendors and that the centers themselves did not always document how rates are set, why certain vendors are selected, or how contracts are procured; "thus, in some cases, the ways in which regional centers established payment rates and selected vendors had the SB 490 (Beall) PageH of? appearance of favoritism or fiscal irresponsibility."<1> The audit prompted a Senate Human Services Committee hearing as well as discussions in the Senate budget subcommittee about the need for additional oversight of vendor expenditures. While DDS is tasked with auditing service providers (WIC 4648.1), the department does not have sufficient resources to conduct audits on many vendors and typically focuses on those that have been brought to its attention. Audit requirements Faced with dramatic fiscal shortfalls in 2011, and on the heels of the BSA findings, the Administration and Legislature added a requirement for vendors receiving more than $250,000 to obtain either an independent audit or a lesser audit review to ensure good bookkeeping practices (SB 74 Committee on Budget and Fiscal Review, Chapter 9, Statutes of 2011). Thresholds Vendors receiving more than $500,000 in regional center funding are required to obtain an independent audit. The thresholds were derived, in part, by a budget savings estimate that projected improved accounting procedures and internal controls by vendors at this level would save about 1 percent in annual purchase of service costs. The audits were not expected to find significant amounts of fraud, rather the savings assumed that the audits would identify poor billing practices, errors in billings and inappropriate transactions that would otherwise be billed to regional centers. DDS would be able to focus its audits on those vendors with qualified reports or significant issues raised, according to a Department description of the proposal. Previously, this $500,000 threshold was similar to a federal requirement that mandated entities receiving federal grants conduct an annual audit once their funding reached $500,000. However, as of January 1, 2015, this threshold was increased to $750,000 (OMB A133 Circular). These "Single Audits" require comprehensive testing of compliance and internal controls over --------------------------- <1> "Department of Developmental Services: A More Uniform and Transparent Procurement and RateSetting Process Would Improve the CostEffectiveness of Regional Centers, Bureau of State Audits, Report No. 2009-118, August 2010, pg. 155 SB 490 (Beall) PageI of? compliance of federal programs. California statute governing charitable corporations and fundraising (GOV 12586(e) (1)) requires any entity that accrues in any fiscal year gross revenue of $2 million or more exclusive of grants from, and contracts for services with, governmental entities for which the governmental entity requires an accounting of the funds received, to obtain an independent audit for conformity with generally acceptable accounting principles. The audit results are required to be made available to the state and the public no later than nine months after the close of the fiscal year to which the statements relate, as specified. Audit and Review findings An audit report is completed by an independent accounting professional to appraise the financial status of a business or company. It considers a company's assets and liabilities, and reviews whether financial records have been maintained in accordance with Generally Acceptable Accounting Standards (GAAS). There are four types of auditor opinions a business can receive: a. Unmodified opinion - Often called a clean opinion, and formerly called an unqualified opinion, this is issued when an auditor determines that the financial records are presented fairly and free of any misrepresentations. In addition, an unmodified opinion indicates that the financial records have been maintained in accordance with the GAAS. This is the best possible report. b. Qualified opinion - In situations when a company's financial records have not been maintained in accordance with GAAS but no misrepresentations are identified, an auditor will issue a qualified opinion, which highlights the reason that the audit report is not unqualified. c. Adverse opinion - When an auditor concludes that the audited financial statements do not fairly represent the organization's financial position and there are significant departures from GAAS, an adverse opinion will be issued. Often, an auditor will advise the organization that there is a problem and work with them to resolve or correct issues so the published audit can be either qualified or SB 490 (Beall) PageJ of? unqualified. d. Disclaimer of opinion - An auditor also may choose not to issue an opinion, either due to significant uncertainties in the appropriateness of the materials, significant limitations in the scope of the audit or the auditor feels he or she cannot be impartial or independent about the business. An audit review is substantially smaller in scope than a full audit. Its purpose is to analyze the financial data of a business and make inquiries of the company's management in order to express limited assurances that the company is in conformity with GAAS. No opinions are issued with an audit review. A Certified Public Accountant will issue either a clean review report, or will issue no report based on a material modification that needs to be made. Related legislation: SB 1259 (Emmerson, 2012) was substantially similar to this bill. It was held in the Senate Appropriations Committee. SB 74 (Committee on Budget and Fiscal Review, Chapter 9, Statutes of 2011) established the audit requirements. COMMENTS This bill is similar to SB 1259 (Emmerson, 2012) which sought to modify the audit requirements just months after they were enacted in trailer bill as a cost-savings measure. The Governor's assumption in proposing the audits in trailer bills was that the audits would save $39.5 million (total funding) of which $21.3 million was general fund as part of the mid-year 2011-12 savings. The assumption of cost savings was based on a belief that poor billing practices, errors in billings and inappropriate transactions billed to regional centers resulted in about 1 percent annual losses. DDS reports that it has no way to track cost savings from efficiencies in business practices resulting from the audits and therefore no way to measure actual savings from enactment of the audits. Since that time, the Association of Regional Center Agencies SB 490 (Beall) PageK of? (ARCA) reports that audit completion varies statewide. On average, according to an ARCA survey of 18 of 21 regional centers, 52 percent of vendors have completed audits with 99 percent of audits resulting in unqualified vendor opinions. DDS reports that approximately 90 audits have been reported to the Department with problems. The original legislation did not require regional centers to report to DDS the number of audits or reviews completed successfully and the Department does not have any data on overall compliance with the audit requirement, nor does it know which vendors have passed with clean audits or reviews. DDS estimates that increasing the threshold for audit reviews from $250,000 to $500,000 would eliminate the requirement for 38 percent of providers to conduct an audit review or audit. In 2013-14, 2,214 entities were required to obtain an in-depth review or audit at the $250,000 threshold; doubling that threshold would reduce the number to 1,381. Additionally, if the threshold for audits were raised from $500,000 to $2 million, as proposed in this bill, it would result in nearly 70 percent of providers being eliminated from the audit requirement: Only 410 vendors would be required to obtain an independent audit from a total of 1,381 currently eligible vendors. As the group of vendors receiving from $250,000 to more than $500,000 in regional center funding was specifically targeted as needing better bookkeeping practices in the original legislative proposal, the author may want to re-consider how to ensure cost-savings among these vendors as the bill moves forward. Staff recommends the following amendment: 1. In keeping with changes to generally accepted accounting standard language, change "unqualified" to "unmodified" and other standard language changes as follows: (A) If the independent audit for the prior year resulted in anunqualifiedunmodified opinion or anunqualifiedunmodified opinion withexplanatory language, additional communication the regional center shall grant the entity a two-year exemption. SB 490 (Beall) PageL of? POSITIONS Support: ResCoalition (Sponsor) Association of Regional Center Agencies The Alliance Arc and United Cerebral Palsy California Collaboration California Disability Services Association Cerebral Palsy Center for the Bay Area Trinity Change, Inc. Oppose: None. -- END --