Accounting for Nonprofit Organizations

Overview

This chapter provides a comprehensive introduction to the accounting principles, financial reporting requirements, and regulatory environment for nonprofit organizations. It covers the unique characteristics of nonprofits, the structure of their financial statements, the treatment of contributions, and the importance of accountability and stewardship in nonprofit financial management.

LO 1: Characteristics and Varieties of Nonprofit Organizations

Definition and Types

• Nonprofit organizations are entities that operate to provide goods and services without the primary purpose of making a profit.

• They receive significant contributions from providers who do not expect proportionate benefits in return.

• Nonprofits have no owners—no shares to be sold, transferred, or redeemed.

Categories of Nonprofit Organizations

• Voluntary health and welfare organizations (VHWOs)

• Health care organizations

• Colleges and universities

• Other nonprofit organizations (e.g., professional associations, labor unions, homeowner associations, political parties)

Key Characteristics

• Emphasis on financial accountability rather than earnings.

• Must demonstrate accountability to donors, including how donations are used and any restrictions attached.

Similarities with Governmental Entities

• Both may operate without profit motive and have no owners.

• Resource providers (e.g., taxpayers, donors) do not expect direct benefits.

• Some governmental entities are organized under nonprofit corporation laws.

Nonprofit Sources of GAAP

• Financial Accounting Standards Board (FASB) is the single source of GAAP for nonprofits.

• FASB ASC Topic 958 applies specifically to nonprofits.

• Recent standards include guidance on contributed nonfinancial assets, private company alternatives, and goodwill impairment.

LO 2: Objectives of Nonprofit Financial Reporting

Purpose and Users

• Helps users make rational decisions about resource allocation.

• Assesses the services provided and the ability to continue operations.

• Evaluates stewardship of donated resources.

• Provides understanding of assets, liabilities, and net resources.

Nonprofit Accounting Basis

• Uses the economic resources measurement focus and full accrual basis of accounting.

• Records capital assets and related depreciation, as well as long-term debt.

Required Financial Statements

• Statement of financial position (balance sheet)

• Statement of activities

• Statement of cash flows

• Functional expense reporting (may be a separate statement or included in notes)

• Liquidity disclosures

Functional Expense Information

• Expenses reported by natural classification (e.g., salaries, rent, supplies, depreciation, awards, interest).

• Must be provided in a single location (statement of activities, separate statement, or notes).

Classification of Net Assets

Classes of Net Assets

• Net assets with donor restrictions: Subject to donor-imposed restrictions on use or timing.

• Net assets without donor restrictions: Not subject to donor-imposed restrictions.

Donor Restrictions

• Donors may specify the purpose, timing, or permanent restriction (endowments) for donated resources.

Endowment Funds

• Assets intended to provide long-term maintenance of a nonprofit.

• Created by donors who require gifts to be invested in perpetuity or for a specified period.

• Donors may specify how investment earnings are used.

Board Designations

• Boards may designate a portion of net assets without donor restrictions for specific purposes.

• These are reported separately but remain part of net assets without donor restrictions.

Non-Donor Contractual Restrictions

• Restrictions from contracts (e.g., bond or licensing agreements) are reported as net assets without donor restrictions.

• Disclosed in notes unless they affect liquidity presentation.

Financial Statements of Nonprofits

Statement of Financial Position

• Reports assets, liabilities, and net assets, showing their relationships.

• Helps assess liquidity, financial flexibility, and ability to meet obligations.

• Must include: total assets, total liabilities, total net assets, total net assets with donor restrictions, and total net assets without donor restrictions.

• Assets presented in order of liquidity; liabilities in order of anticipated liquidation.

• Net assets presented by nature and amount of donor-imposed restrictions.

Sample Skeletal Outline

Statement of Activities

• Reports changes in net assets, including revenues, gains, and expenses.

• Must show: change in net assets, change in net assets with donor restrictions, and change in net assets without donor restrictions.

• Revenues and gains increase net assets (with or without donor restrictions); expenses decrease net assets without donor restrictions.

• Expenses are classified by function (program, management, fundraising, membership development).

Sample Multicolumn Format

Statement of Cash Flows

• Reports cash receipts and payments for the period, categorized as:

  • Operating activities

  • Investing activities

  • Financing activities

• May use direct or indirect method (direct is encouraged).

Statement of Functional Expenses

• Details expenses by both natural classification (e.g., salaries, rent) and function (e.g., program, management, fundraising).

• Placement can be on the face of the statement of activities, a separate statement, or in the notes.

Accounting for Contributions

Recognition of Contributions

• Contributions are unconditional transfers of cash or other assets for which the donor does not receive equal value in exchange.

• Only unconditional contributions are recognized as revenue or gains.

• Measured at fair value when received.

Types of Contributions

• Unrestricted contributions: No donor-imposed restrictions; increase net assets without donor restrictions.

• Contributions with donor restrictions: May be for a specific purpose, time period, or permanent (endowment); increase net assets with donor restrictions.

Example Journal Entry: Unrestricted Contributions

• Cash ............................................. 20,000

• Investments ..................................... 12,000

• Utility expense ................................. 300

  • Contribution Revenue—Support without donor restrictions .......... 32,300

Example Journal Entry: Contributions with Donor Restrictions

• Cash ............................................. 100,000

  • Contribution Revenue—Donor support with purpose restrictions ....... 5,000

  • Contribution Revenue—Donor support with time restrictions ........ 10,000

  • Contribution Revenue—Donor support with permanent restrictions ... 85,000

Journal entries for a nonprofit Fruits & Veggies, a nonprofit, conducts two types of programs: education and research. It does not use fund accounting. During the fiscal year, the following transactions and events took place. Prepare journal entries for these transactions, identifying increases and decreases by net asset classification as appropriate. 1. Pledges amounting to amount pledged. $200,000 were received, to be used for any purpose designated by the trustees. Fruits & Veggies normally collects 90 percent of the amount pledged. 2. Fruits & Veggies collected $190,000 in cash on the amount pledged in the previous transaction. It wrote off the balance as uncollectible. 3. Ed Victor donated $5,000 cash in the current fiscal year, stipulating that it could be used for any purpose, but only during the next fiscal year. 4. Howard Gore donated $675,000, stipulating that the donation must be used solely to purchase a building that Fruits & Veggies could use for research. 5. Fruits & Veggies invested $20,000 of unrestricted resources in equity securities. Earnings on these resources amounted to $1,000. 6. Late in the year, Fruits & Veggies used Howard Gore’s donation (see Transaction 4) and unrestricted resources of $140,000 to purchase a building for research purposes. 7. The following services were donated to Fruits & Veggies: a. Consulting services by an accounting firm— $5,000 b. Professional services by an advertising agency in connection with a fundraising campaign— $3,000 c. Ushering services at educational meetings, provided by high school students. If paid for, these services would cost $1,000 8. At year-end, the investments referred to in Transaction 5 had a fair value of $22,000. 9. Fruits & Veggies conducted a fundraising campaign, the donations to be used solely for research into the health benefits of asparagus. Donations totaled $45,000 in cash. 10. The Board of Directors of Fruits & Veggies designated $35,000 for the acquisition of research equipment. Note: Expenses and revenues are not recognized for item 7c because ushering services does not require specialized knowledge or expertise.

1. Pledges of $200,000 (donor gave no restriction; organization expects to collect 90%)

(To record the unconditional pledge and estimate an allowance for uncollectible pledges.)

• Dr. contribution receivable ........................................ $200,000

• Cr. Contributions — without donor restrictions ............ $180,000

• Cr. Allowance for doubtful pledges ........................... $20,000 (Net effect: recognize $180,000 contribution revenue without donor restriction; receivable recorded $200,000 with $20,000 allowance.)

2. Collections on the pledge: collected $190,000; wrote off the balance as uncollectible

• Dr Cash .............................................. $190,000

• Dr Allowance for doubtful pledges .......... $20,000

• Cr Pledges receivable .......................... $200,000

• Cr Contributions — without donor restrictions $10,000

3. Ed Victor donated $5,000 cash now, usable only next fiscal year (time restriction)

• Dr. Cash .................................................... $5,000

• Cr. Contributions — with donor restrictions (time) ..... $5,000 (Net assets with donor restrictions increase $5,000 until restriction (time) is satisfied next fiscal year.)

4. Howard Gore donated $675,000 to be used solely to purchase a building for research (purpose restriction)

• Dr. Cash .................................................... $675,000

• Cr. Contributions — with donor restrictions (purpose: building for research) $675,000

5a. Invested $20,000 of unrestricted resources in equity securities

• Dr. Investments (equity securities) ........................ $20,000

• Cr. Cash .................................................... $20,000 (Investment purchased with unrestricted resources — investment is reported as an asset; no donor restriction.)

5b. Earnings on these invested resources amounted to $1,000 (realized)

• Dr. Cash (or dividends/interest receivable) ............. $1,000

• Cr. Investment income — without donor restrictions .... $1,000 (Investment income increases net assets without donor restrictions.)

(Net assets with donor restrictions increase $675,000.)

6a. — To record the reclassification (release) of donor-restricted net assets when the building is purchased

Dr. Net Assets With Donor Restrictions - reclassifications out - satisfaction of purpose restrictions.............. $675,000

Cr. Net Assets Without Donor Restrictions - reclassifications in - satisfaction of purpose restrictions .......... $675,000

Explanation: The purpose restriction (purchase of a research building) is satisfied, so the $675,000 moves out of with donor restrictions and into without donor restrictions. No revenues or gains are recorded — it is purely a reclassification.

6b — To record the purchase of the research building

Dr. Building ............................................................ $815,000

Cr. Cash ................................................................. $815,000

7. Donated services

• administration expenses 5,000

• fundraising expenses 3,000

  • contributed services revenue without donor restrictions 8,000

8. Year-end fair value adjustment: investments from #5 had FV $22,000 (carrying amt 20,000)

• Dr. Investments ............................................ $2,000

• Cr. net realized and unrealized investment gains and losses without donor restrictions $2,000 (Recognize unrealized gain to adjust carrying amount to fair value; these investments were purchased from unrestricted resources so the unrealized gain increases net assets without donor restrictions.)

9. Fundraising campaign donations (cash) restricted solely for research into asparagus — $45,000

• Dr. Cash .................................................... $45,000

• Cr. Contributions — with donor restrictions (purpose: asparagus research) $45,000

(Net assets with donor restrictions increase $45,000.)

10. Board designated $35,000 for acquisition of research equipment (board designation = internal restriction)

• Dr. Net assets — without donor restrictions (undesignated) $35,000

• Cr. Net assets — without donor restrictions (board designated for equipment) $35,000

Expiration of Donor Restrictions

• When restrictions are satisfied or expire, reclassify net assets with donor restrictions to net assets without donor restrictions.

• Net Assets with donor restrictions, Reclassification out—satisfaction of purpose restrictions .......... 5,000

  • Net Assets without donor restrictions, Reclassification in—satisfaction of purpose restrictions ........ 5,000

Additional info:

• Nonprofits must also disclose liquidity measures, fundraising expenses, and details of contributed nonfinancial assets as required by recent FASB updates.

• Fund accounting may be used for internal purposes but is not permitted for GAAP financial reporting.

• form 990-pf submitted to IRS by private foundations

• differentiate between public charity and private foundation: public support test