FAR 6

NFP Accounting | Governmental Accounting | Fund Structure

What types of entities are considered not-for-profit, and what basis of accounting do they use?

NFP entities include: hospitals, universities, voluntary health & welfare orgs (e.g., United Way), and other nongovernmental NFPs (e.g., museums).

All use the FULL ACCRUAL basis of accounting.

What are the three required financial statements for NFP organizations?

(1) Statement of Financial Position

(2) Statement of Activities

(3) Statement of Cash Flows

NFPs must also report functional vs. natural expense classifications in one location (on the face of statements, in notes, or in a separate statement).

What are the two classifications of net assets on the NFP Statement of Financial Position?

(1) Net assets WITHOUT donor restrictions — no external restrictions; includes board-designated funds.

(2) Net assets WITH donor restrictions — externally restricted either in perpetuity OR satisfiable through time or purpose requirements.

How are board-designated funds classified, and why is this a common exam trap?

Board-designated funds are classified as NET ASSETS WITHOUT DONOR RESTRICTIONS.

Trap: Even though the board set them aside for a specific purpose, the restriction is INTERNAL (not donor-imposed), so they are NOT restricted net assets.

What happens when a donor-imposed restriction is satisfied?

The amount is RECLASSIFIED from 'net assets with donor restrictions' to 'net assets without donor restrictions.'

This reclassification is shown on the Statement of Activities as a release from restriction.

What are the three required elements of the NFP Statement of Activities?

(1) Change in net assets WITHOUT donor restrictions

(2) Change in net assets WITH donor restrictions

(3) Change in TOTAL net assets

 

All revenues, gains, and expenses must be categorized.

What is the difference between program services and support services?

Program services: major activities in furtherance of the NFP's mission (e.g., medical care, instruction).

Support services: administration-type functions (e.g., management & general, fundraising).

Combined costs must be allocated between the two using any reasonable method.

Journal entry: Donor contributes $50,000 with a restriction for use in a specific program

DR  Cash                                          $50,000

    CR  Contribution Revenue — With Restrictions              $50,000

 

Recognized immediately as revenue with donor restrictions.

Journal entry: Release restriction when restricted funds are spent on the specified program

DR  Net Assets Released from Restrictions (With)  $50,000

    CR  Net Assets Released from Restrictions (Without)      $50,000

 

DR  Program Expense                               $50,000

    CR  Cash                                                 $50,000

What’s the difference between ‘functional’ and ‘natural’ expense classifications for NFPs?

Natural classifications describe the type of expense (e.g., salaries, rent, depreciation, supplies)

Function classifications describe the purpose of the expense:

• Program services (mission-related)

• Support services (management & general, fundraising)

NFPs must report BOTH in one location - either on the statement of activities, in the notes, or in a separate statement.

What are ‘combined costs’ and how must they be allocated?

Combined costs arise when a single activity (e.g., a mailing) serves BOTH a program purpose AND fundraising/management purpose.

Must be allocated between program services and support services using any REASONABLE method (e.g., based on time spent, number of pages devoted to each purpose)

Cannot report 100% as program if there is a genuine fundraising component.

What is the difference between a ‘time restriction’ and a ‘purpose restriction’ in net assets with donor restrictions?

Time restriction: Donor specifies WHEN the funds may be used (e.g., ‘use this gift in 2026’).

Purpose restriction: Donor specifies HOW the funds must be used (e.g., ‘use only for scholarships’).

Both are classified as net assets WITH donor restrictions until the restriction is satisfied. Perpetual restrictions (e.g., permanent endowments) are also in this category.

What is a ‘permanently restricted’ endowment, and how is it reported under current GAAP?

Under GAAP (ASU 2016-14), the term ‘permanently restricted’ was replaced.

Endowment principal that must be maintained in perpetuity is reported as NET ASSETS WITH DONOR RESTRICTIONS.

Only the INCOME/EARNINGS from the endowment may be released (if unrestricted by donor), while the principal remains permanently restricted.

How does a NFP report noncontrolling interests or investments in for-profit entities?

NFPs that hold majority interests in FOR PROFIT subsidiaries consolidate those entities and present noncontrolling interests in equity, similar to commercial GAAP.

Investments in for-profit entities where the NFP has significant influence → Equity method.

Other investments → Fair value

Journal entry: NFP receives a $25,000 unconditional grant restricted for equipment purchases

Recognized immediately as revenue with donor restrictions (purpose restriction)

DR  Cash/Grants Receivable                $25,000 

CR Contribution Revenue - With Restrictions                          $25,000

Journal entry: NFP purchases $25,000 equipment using the $25,000 unconditional grant restricted for equipment purchases (above)

Release the restriction when the purpose is fulfilled; record the asset purchase separately.

DR  Net Assets Released from Restrictions (With)        $25,000 

CR Net Assets Released from Restriction (Without)                  $25,000

DR  Equipment        $25,000 

CR Cash              $25,000

Journal entry: A donor gives $100k to an endowment - principal must be maintained in perpetuity

Recognized as revenue with donor restrictions. The restriction is perpetual - it will never be released to unrestricted.

DR  Cash       $100k 

CR Contribution Revenue - W/ Restrictions (Perpetual)  $100k   

Journal entry: The 100k endowment (above) earns $4,000 in investment income with no donor restriction on earnings

Earnings without donor restriction on use → recognized as revenue WITHOUT donor restrictions

DR  Cash/Investment Income Receivable     $4,000 

CR Investment Income - W/O Donor Restrictions $4,000

Formula: Change in net assets (NFP Statement of Activities)

Applies separately for each net asset class AND in total

• Change in Net Assets = Revenues + Gains - Expenses - Losses

• Ending Net Assets = Beginning Net Assets + Change in Net Assets

Formula: NFP Statement of Financial Position - Basic equation

The NFP balance sheet uses net assets instead of stockholder’s equity

• Assets + Liabilities = Net Assets

• Net Assets = Equity

• Assets = Liabilities + Net Assets

• Net assets = Net assets WITHOUT donor restrictions + Net assets WITH donor restrictions

How are the three categories of the NFP Statement of Cash Flows classified?

Consistent with for-profit accounting:

(1) Operating activities

(2) Investing activities

(3) Financing activities

Both direct and indirect methods are allowed for operating activities.

A donor gives $100,000 with NO restrictions, but the board designates it for future building construction. How is this classified on the SOCF?

OPERATING ACTIVITY.

Key rule: Contributions WITHOUT donor restrictions are classified as operating — even if the board designates them for capital purposes.

 Only DONOR-restricted contributions for long-lived assets → Financing activity.

How are donor-restricted contributions for long-lived assets classified on the NFP SOCFs?

FINANCING ACTIVITY - because the donor explicitly restricted the funds for acquisition of long-lived assets.

Contrast: Unrestricted contributions (even if board-designated for capital) → OPERATING activity.

Key distinction: DONOR restriction on long-lived assets = financing; BOARD designation = operating

How are purchases of long-lived assets classified on the NFP SOCFs?

INVESTING ACTIVITY - same as for-profit accounting.

The inflow (donor-restricted contribution) is financing; the outflow (purchasing the asset is investing. These are reported SEPARATELY, not netted.

How are interest and dividends received classified on the NFP SOCFs?

Generally OPERATING activities - same as for-profit GAAP.

Exception: If investment income is donor-restricted for a long-term purpose, it may be classified as FINANCING or presented separately depending on the restriction.

Under the INDIRECT SOCF method for NFP operating activities, what items are added back or subtracted from the change in net assets?

Start with: Change in net assets (not net income)

Add back: Depreciation, amortization, losses on asset sales, decreases in receivables/increases in payables

Subtract: Gains on asset sales, increases in receivables/decreases in payables

Remove: Contributions restricted for long-term purposes (reclassify to financing)

Remove: Investment returns restricted for long-term purposes

Formula: NFP indirect method SOCF - starting point and key adjustment

Starting point is CHANGE IN NET ASSETS (not net income like commercial entities).

Operating Cash Flow (indirect) =

Change in Net assets

‘+ Depreciation & Amortization

‘+ Losses/ - Gains on asset sales

± Changes in working capital

‘- Contributions restricted for long-term use

‘- Investment returns restricted for long-term use

SOCF classification: A hospital NFP receives $500,000 from a donor restricted for construction of a new wing. How is this shown on the SOCF?

FINANCING ACTIVITY inflow of $500,000

The subsequent construction expenditure → INVESTING ACTIVITY outflow.

Not netted - shown gross in each section

SOCF classification: A university NFP receives a $50,000 unrestricted gift during the year. The board later votes to designate it for future facility renovation. How is this shown on the SOCF?

OPERATING ACTIVITY inflow of $50,000

Board designation happens AFTER receipt - it does not change the SOCF classification. Only a DONOR restriction on long-lived assets creates a financing activity.

What are the four requirements for a transfer to qualify as a 'contribution'?

(1) Unconditional — no conditions must be met

(2) Transfer of cash or assets — collection is certain

(3) Voluntary — donor is under no obligation

(4) Nonreciprocal — donor receives nothing in exchange

 

If the donor receives something of value, part may be an exchange transaction.

How are unconditional vs. conditional pledges recognized?

Unconditional pledges: Recognized immediately as revenue, net of allowance for uncollectability.

Conditional pledges: NOT recognized until the condition has been satisfied.

Key: The condition must be a barrier AND a right of return/release from obligation.

When are donated services recognized as revenue by an NFP?

Donated services are recognized ONLY when the service:

(1) Creates or enhances a nonfinancial asset, OR

(2) Requires specialized skills, is provided by someone with those skills, and the NFP would otherwise need to purchase the service.

 

Recognized as BOTH revenue AND an equal expense simultaneously (net effect on net assets = $0).

How are donated materials (supplies, equipment) recognized?

If deemed SIGNIFICANT: recorded as an increase in assets AND an increase in support (revenue) at FAIR VALUE at the time of donation. 

If not significant: may be omitted.

NFP Education: How is tuition revenue recorded, and how are scholarships/waivers treated?

Tuition revenue is recorded at GROSS amounts.

Gross revenue = Assessed tuition and fees − Canceled classes.

 

Scholarships/tuition waivers may be treated as either:

(a) An allowance that REDUCES revenue, or

(b) An EXPENSE

Formula: NFP gross tuition revenue

Gross Tuition Revenue = Assessed Student Tuition & Fees − Canceled Classes

Then scholarships/waivers are either subtracted as an allowance or expensed separately.

 NFP Health Care: How is patient service revenue recorded and displayed?

Recorded at GROSS amounts, but DISPLAYED on the Statement of Activities net of deductions (e.g., contractual adjustments).

 

Charity care: NOT recorded as revenue — no intention to collect.

Credit losses: treated as either an expense or a revenue deduction depending on when collectability was assessed.

NFP Health Care: What is the difference between 'other operating revenue' and 'nonoperating revenue'?

Other operating revenue: donated supplies/equipment, cafeteria revenue, parking fees, gift shop revenue.

Nonoperating revenue: ALL unrestricted gifts and donations + donated services.

When a donor gives $500 and receives a premium (tote bag worth $20), how is this recorded?

Contribution revenue = $500 − $20 FV of premium = $480

Fundraising expense = cost of the premium

 

The FV of any premium given to donors is separated from the contribution and treated as a fundraising expense.

Journal entry: Record an unconditional pledge of $10,000; estimated uncollectible = $500

DR  Pledges Receivable                          $10,000

    CR  Contribution Revenue                                $9,500

    CR  Allowance for Uncollectible Pledges                   $500

 

Recognized immediately as revenue, net of allowance.

Journal entry: Record donated professional services valued at $3,000 (specialized skills the NFP would otherwise purchase)

DR  Professional Services Expense               $3,000

    CR  Contribution Revenue — Donated Services             $3,000

 

Net effect on net assets = $0. Recognized as both revenue and expense simultaneously.

What makes two NFP organizations 'financially interrelated'?

BOTH of the following must be true:

(1) One organization has the ability to INFLUENCE the operating and financial decisions of the other.

(2) One organization has an ongoing ECONOMIC INTEREST in the net assets of the other.

 

Financial interrelation affects how asset transfers are recorded.

What is 'variance power' and why does it matter in NFP asset transfer accounting?

Variance power is the unilateral right of a recipient entity to redirect donated assets to a beneficiary OTHER than the one specified by the donor.

 

If the recipient HAS variance power → transfer recorded as CONTRIBUTION (revenue).

If NOT → recipient records a LIABILITY to pass assets to the specified beneficiary.

What is an 'underwater endowment' and how is it reported?

An underwater endowment is a donor-restricted endowment where:

Fair value of fund < Original gift amount (or legally required minimum)

 

Reporting: Accumulated losses remain in NET ASSETS WITH DONOR RESTRICTIONS.

Specific disclosures are required.

How are NFP investments in debt and equity securities measured, and where are G/L reported?

Measurement: All debt securities and equity securities with readily determinable FV → measured at FAIR VALUE on the Statement of Financial Position.

 

G/L reporting:

• Unrestricted use → net assets WITHOUT restrictions

• Donor-restricted → net assets WITH restrictions

• Investment returns reported NET of related investment expenses.

Can a gain on a donor-restricted investment ever be reported as unrestricted?

YES — if the donor stipulations are met IN THE SAME REPORTING PERIOD in which the gains are recognized, the gains may be reported as increases in net assets WITHOUT donor restrictions.

What is the purpose of fund accounting in governmental entities?

Fund accounting enables governments to monitor and report compliance with:

(1) Spending purposes (fund restrictions)

(2) Spending limits (budget)

(3) Other fiscal accountability objectives

Each fund is a separate, self-balancing set of accounts (like a 'checkbook').

Who sets GAAP for governmental entities, and what key standard established minimum reporting requirements?

GASB (Governmental Accounting Standards Board) sets GAAP for state and local governments.

 

GASB 34 (as amended) establishes minimum reporting requirements:

• Fund-based financial statements

• Government-wide financial statements

• Notes to financial statements

• Required supplementary information (RSI)

Which entities use governmental accounting (GASB) vs. NFP/FASB accounting?

Governmental accounting (GASB): State and local governments; government-run hospitals and universities.

 

NFP/FASB accounting: Nongovernmental NFPs — private hospitals, private universities, voluntary health & welfare orgs, research organizations.

 

Key: Government-RUN = GASB. Privately-run NFP = FASB.

What are the three major categories of governmental funds and their mnemonics?

(1) Governmental funds — GRaSPP

    General, Special Revenue, Debt Service, Capital Projects, Permanent

 

(2) Proprietary funds — SE

    Internal Service, Enterprise

 

(3) Fiduciary funds — CIPPOE

    Custodial, Investment Trust, Private Purpose, Pension & Other Employee Benefit

What basis of accounting and measurement focus does each fund category use?

Governmental (GRaSPP):

  Modified Accrual + Current Financial Resources focus

 

Proprietary (SE):

  Full Accrual + Economic Resources focus

 

Fiduciary (CIPPOE):

  Full Accrual + Economic Resources focus

What is modified accrual accounting, and how does it differ from full accrual?

Modified accrual = blend of accrual and cash basis:

• Revenues recognized when MEASURABLE and AVAILABLE (collectible within current period or ~60 days after year-end)

• Expenditures recognized when the liability is incurred

 

Full accrual: revenues when earned, expenses when incurred — identical to commercial accounting.

Formula: Modified accrual revenue recognition — what does 'available' mean?

Revenue is recognized when MEASURABLE and AVAILABLE. 

Available = collectible within the current period OR within ~60 days after year-end.

Revenue recognized if: Measurable AND Available (collected within current period or ~60 days of year-end)

What is the General Fund, and what does it account for?

The General Fund is the PRIMARY operating fund of a government. It accounts for ALL financial resources not required to be accounted for in another fund.

 

There is only ONE General Fund per government entity.

What are Special Revenue, Debt Service, Capital Projects, and Permanent funds used for?

• Special Revenue: Resources restricted/committed for specific purposes (other than debt service or capital)

• Debt Service: Accumulation of resources for principal & interest payments on long-term debt

• Capital Projects: Resources for acquisition/construction of major capital facilities

• Permanent: Resources legally restricted so only EARNINGS (not principal) may be expended

What are Internal Service and Enterprise funds (Proprietary funds)?

• Internal Service: Provides goods/services to OTHER DEPARTMENTS within the government on a cost-reimbursement basis (e.g., central motor pool, print shop)

• Enterprise: Provides goods/services to the GENERAL PUBLIC for a fee (e.g., water utility, airport, transit system)

 

Both use full accrual — similar to commercial accounting.

Journal entry: Government records a property tax levy of $500,000; 2% estimated uncollectible

DR  Property Tax Receivable                    $500,000

    CR  Allowance for Uncollectible Taxes                   $10,000

    CR  Property Tax Revenue                               $490,000

 

Under modified accrual, record the levy when measurable and available.

Journal entry: Government records budgeted revenues and appropriations at start of fiscal year (revenues $1,000,000; appropriations $950,000)

DR  Estimated Revenues                       $1,000,000

    CR  Appropriations                                     $950,000

    CR  Budgetary Fund Balance                             $50,000

 

Governmental funds record the budget as a formal journal entry at the start of each year.