CPA FAR F6

Not-for-profit Organizations

• Follow GAAP and accrual basis accounting

• Have some accounting issues and terminology that are different or unique

• Part of the conceptual framework determines

  • Who are the users of their financial information

  • How the information needs are addressed through financial reporting

Characteristics of Not-for-profit organizations

Defined by the FASB as entities that have the following characteristics

• Revenues come from contributions

• Operating purpose doesn’t include profit, although there is nothing to preclude the generation of a profit

• Ownership interests are unlike business enterprises

Industries that use Not-for-profit Accounting

• Health care

• Educational institutions

• Voluntary health and welfare organizations

• Other private (not governmental) not-for-profit organizations

  • Labor unions

Common needs of users of Not-for-profit financial statements

• Services the organization provides

• Organization’s ability to continue to provide those services

• Method the organization’s managers use to discharge their stewardship responsibility

Information that should be in not-for-profit financial statements

1. Amount & nature of an organization’s assets, liabilities, & net assets (Statement of financial position)

2. Effects of events and circumstance that change the amount and nature of net assets (Statement of activities)

3. The amount & kinds of inflows and outflows of economic resources occurring within a period (Statement of activities)

4. Relationship between inflows and outflows (Statement of activities)

5. How and organization obtains and spends cash (Statement of Cash Flows)

6. Service efforts of an organization  (Statement of activities or notes to financial statements)

Full Accrual Basis of Accounting

• GAAP require that not-for-profit organizations report using the full accrual basis of accounting

• The primary reporting emphasis is placed on disclosing the sources of the institution’s resources and how they were expended

• The overall emphasis for not-for-profit financial statements is on basic information for the organization as a whole

The external financial statements of not-for-profit entities do not present funds (unlike governments)

General Principles of Not-for-profit Financial Reporting Include

• All types of private, not-for-profit organizations are required to have consistent external reporting, making it easier to compare the performance of different not-for-profit organizations

• Fund accounting isn’t used for external financial reporting, although separate funds may be maintained for internal purposes

• External financial statements must focus on the basic information for the organization as a whole

• Government not-for-profits are governed by the Governmental Accounting Standards Board (GASB), not the FASB

Required Financial Statements for Not-for-profit Entities

• Statement of financial position (Equivalent = Balance sheet)

• Statement of activities (Equivalent = Income statement & statement of changes in retained earnings)

• Statement of cash flows 

Reporting Expenses by Nature and Function

• All not-for-profit organizations must report information about the relationships between functional classifications and natural classification of expenses in one location

• Three ways to report:

  • On the face of the statement of activities

  • As a schedule in the notes to the financial statement

  • In a separate financial statement (no specific titles provided by the FASB)

Functional Classifications

Categorize costs by major classes of program and support services

• Program services relate to the purpose and mission of the not-for-profit organization

• Support services relate to activities such as management and general, fundraising, and membership development

Natural Classifications

Include descriptions such as salaries, rent, utilities, interest expense, supplies, etc., similar to general ledger titles for expense

Net Assets Without Donor Restrictions

Net assets without donor restrictions are available to finance general operations of a not-for-profit organization and may be expended at the discretion of the governing board

• Net assets without donor restrictions are not otherwise restricted by external donor-imposed restrictions

• Internal board-designated funds are classified as net assets without donor restrictions and may include:

  • Board-designated endowment funds

  • Board-designated net assets (for future expenditure)

Net Assets with Donor Restrictions

• Net assets with donor restrictions are subject to specific, externally imposed limitations made by a donor

• Information regarding the nature and amounts of different types of donor-imposed restrictions should be either reported within financial statement classification of net assets with donor restrictions or in the notes to the financial statement

• Examples include:

  • Support of particular operating activity

  • Use in specified period

  • Investment for a specified term

  • Acquisition of long-lived assets

Classification of Revenue, Gains, and Other Support

• Revenues are classified as net assets without donor restrictions unless the use of the assets reviewed is limited by donor-imposed restrictions

• Revenues are classified as net assets with donor restrictions (donor-restricted support) if the use of the asset is limited by donor-imposed restrictions

• All restricted revenue is included in the same classification regardless of whether the restriction is perpetual or if the restriction can be satisfied by the recipient 

• Classification grouping doesn’t, however, preclude the not-for-profit organization from itemizing the character of restrictions on either the face of the financial statements or the notes

Expense Classification in the Statement of Activities

• All expenses (other than investment expenses) are reported as decreases in net assets without donor restrictions

• Investment expense is netted against investment returns and classified according to the requirements of the investment revenue and would be shown as part of a change in the restricted amount

• Details of the functional classifications and their relationship to natural expense classifications must be presented on the face of the financial statement or the notes

Reported Expenses by Nature and Function

• Expense information should include the relationships between functional classifications and natural classifications

• Functional expenses should be classified as:

  • Major classes of program services; or

  • Supporting activities

Statement of Cash Flows

• Required for all not-for-profit organizations

• FASB ASC 230 is applicable to not-for-profit organizations, to the extent that it doesn’t conflict with industry guidance

• Primary purpose is to provide relevant information about the cash receipts and cash payments of the not-for-profit organization during a period

• Classifies cash receipts and cash payments as operating, investing, and financing activities, and not-for-profits may use either direct or the indirect method

  • The use of the direct method does not require presentation of the reconciliation of net income to cash flows from operations (unlike for-profits)

Operating Activities

Include receipts and payments that don’t stem from transactions defined as investing or financing, such as:

• Receipts or payments for the settlement of lawsuits

• Proceeds from insurance settlements other than those tied to investing or financing

• Refunds from suppliers or refunds to customers

• Charitable contributions (and disbursements) made by the not-for-profit organization

Investing Activities

Includes receipts and payments for such items as:

• Investments in PP&E

• Proceeds from the sale of works of art or disbursements for purchases of works of art

• Proceeds from the sale of assets that were received in the prior period and whose sale proceeds were restricted to investment in equipment

Financing Activities

Includes:

• Proceeds from issuing bonds, mortgages, notes, and other short- or long-term borrowing

• Repayment of amounts borrowed

• Receipts from contributions restricted for the purpose of acquiring, constructing, or improving PP&E or other long-lived assets

• Receipts from contributions restricted for the purpose of establishing or increasing a donor-restricted endowment fund

• Receipts of crypto assets with donor-imposed restrictions for long-term or capital use that are nearly immediately liquidated

Noncash Transactions

Following should be disclosed in statement of cash flows

• Contributed securities

• Construction in progress and other fixed asset purchases included in A/P

• Contributions of beneficial interests (unconditional promises to receive specified cash flows from a charitable trust or other identifiable pool of assets)

• Noncash debt refinancing transactions (e.g. changes in interest rates or other terms, etc.)

Contributions

Attributes include:

• Unconditional

• Must be a transfer of cash and/or other assets (collection is certain)

• Title must pass

• Must be voluntary (the donor is under no obligation to donate)

• Must be non reciprocal (donor gets nothing in exchange)

Recognition of Unconditional Contribution

Reported as either:

• An increase to net assets without donor restrictions; or

• Donor-restricted support in the period received

• Can be recognized as an asset, reduction of a liability, or an expense, depending on the form of the benefits received

Recognition of Conditional Contributions

• Not recognized

• Conditions are indicated by the existence of a barrier; and

• The donor holds the right to demand return of the contribution if the condition is not met

• Distinction between a condition and a restriction

  • The restriction designates how the money can be spent

  • The condition delays revenue recognition until the condition is met

Barriers That Indicate a Conditional Contribution

The existence of measurable performance-related barriers or other barriers that may indicate a condition include

• Specified level of service

• Specific outputs or outcomes

• Matching

• Outside event

Right of Return

• The donor has the right to require of the donation from the recipient not-for-profit organization

Unconditional Promise (Pledge)

• Contribution is recorded at FV when the promise is made

• May be written/verbal

• Verbal pledges should be documented internally by organization and may be more difficult to collect

Conditional Promise (Pledge)

• Transaction depends on an occurrence of a future and uncertain event

• Recognition doesn’t occur until conditions are substantially met (or it can be determined chances of conditions not be met are remote) and the promise becomes unconditional

• Good faith deposits that accompany a conditional promise are accounted for as a refundable in the liability section of the B/S

Multiyear Pledge

• Recorded at the net present value at the date the pledge is made

• Future collections are considered donor-restricted revenues and net assets (time-restricted)

• Difference between the previously recorded PV and the current amount collected is recognized as contribution revenue, not interest income

Allowance for Unconditional Pledge

• Recorded in accordance with commercial accounting principles for accounts receivable in order to present the pledget at its NRV

• In contrast to commercial accounting principles, there is no bad debt (or credit loss) expense recognized at any point

  • Both the pledge and related contribution revenue are reported net of any allowance

Split-Interest Agreements

• Donor contributions of trusts or other arrangement under which the not-for-profit organization receives benefits that are shared with other beneficiaries 

• Exs: Charitable lead trust, Charitable remainder trust

• During the term of the agreement, changes in the value of split-interest agreements should be recognized for:

  • Amortization of discounts

  • Revaluations

• Assets & liabilities recognized under split-interest agreements should be disclosed separately from other assets & liabilities in the B/S

• Contributions and changes in the value of split-interest agreements should be disclosed as separate line items in the statement of activities (or the related notes)

Split-Interest Contributions

• Measured at their FV at the date of acquisition

• Estimated based on the PV of the estimated future distributions

• Displayed as donor-restricted

• The other beneficiary first gets benefits and then the not-for-profit gets what is left

• The total amount received changes:

  • With time

  • With changes in estimate of the amount

  • Until the restriction is met

Donated Services

Generally, not recorded because of the difficulty in placing a monetary value on donated services (and the absence of control over them)

Donated services should be recorded as contribution and expense at fair value if the services meet one of the following criteria

• Create or enhance a nonfinancial assets (e.g, land, building)

• They require a specialized skill that the provider possesses and would otherwise have been purchased by the organization (e.g., attorney)

Donated Collection Items

Donated collection items are not required to be recorded by the recipient not-for-profit organization if all of the following requirements are met:

1. Item is part of a collection, which is held for:

   1. Public viewing

   2. Exhibition

   3. Education

   4. Research

2. Collection is cared for, preserved, and protected by the organization

3. The organization has a policy that requires any proceeds from the sale of the donated items to be:

   1. Reinvested in other collection items

   2. Used to support the direct care of existing collections

If Requirements for Donated Collection Items aren’t Met

• Donation must be recorded as revenue and capitalized as an asset that is generally depreciation over its estimated useful life

• The policy may not be selectively applied and must be used for all applicable assets

Extraordinary Long-Lived Items

If an individual work of art or historical treasure has an extraordinarily long estimated useful life and its economic benefit or service potential is used up very slowly, it may not need to be depreciated. This exception applies if

• The asset has cultural, aesthetic, or historical value that is worth preserving perpetually

• There is verifiable evidence that the owner has the ability and intent to protect and preserve the asset’s service potential essentially undiminished

Donated Materials Used for Materials

Is it significant in amount?

• No, not material in terms of value

• Yes, significant value

  • Treat the donation like an asset

• If the significant in amount, donated material should be recorded at their fair value on the date of receipt if the fair value can be objectively determined

• Can we objectively measure the FV of the supply of lumber?

  • Yes, the fair value can be measured by checking its price at the home improvement retailers

Donated Materials Passed Through

Is the organization going to keep the lumber?

• No they're just passing the materials along to build a house for a beneficiary

• Donated materials that merely pass through the organization to an ultimate beneficiary, such as used clothing, should not be recorded, unless the amounts involved are substantial

• If donated materials are substantial, they should be recorded as a contribution with an offsetting entry to expenses and appropriately disclosed in the financial statements

Donated Materials Sold at Greater than FV

When donated items are sold at greater than FV, the amount received in excess of fair value is considered an additional contribution

Gifts-in-Kind

• Are nonfinancial contributions, such as land, building, materials, supplies, intangible assets, services, or use of facilities or utilities

• Are recognized as a contribution at FV at the date of donation

  • Valued at FV when received

  • Revalued when sold as part of a fundraising appeal

• The difference between the FV at the time of the donation and the value at the time of sale is accounted for as an additional contribution

Presentation and Disclosure of Nonfinancial Assets

• Contributed nonfinancial assets are displayed as a separate line item on the statement of activities, apart from contributions of cash or other financial assets

• The amount of contributed nonfinancial assets recognized by category should also be disclosed

• For each category of nonfinancial assets recognized, the notes should state additional details, such as:

  • Whether contributed assets will be sold (monetized)

  • What donor-imposed restrictions may be associated with the donation; and

  • In what manner the donation is valued

Contributions Without Donor Restrictions

• Unconditional promises to contribute in the future are reported:

  • As a donor-restricted support (implied time restriction)

  • At the PV of the estimated future cash flows using a discount rate commensurate with the risks involved

• If expected to be collected or paid in less than one year, they may be measured at NRV since the amount is a reasonable estimate of FV

Donor-Restricted Support

• Limit the use of contributed assets

• Recognized as revenues, gains, and other support in the period received as assets, decrease of liabilities, or expenses, depending on the form of the benefits received

Revenue from Exchange Transactions

An exchange transaction is one in which the not-for-profit organization earns resources in exchange for a service performed

• Revenues from exchange transactions are

  • Recognized when realized or realizable when earned

  • Classified as increases to net assets without donor restrictions

Educational Institutions

Revenues for an educational institution or any not-for-profit organization consists of the following

• All increases in net assets without donor restrictions

• Donor-restricted resources expended in that period, which include

  • Student tuition and fees

  • Government grants, aid, and contracts

  • Gifts and private grants

• Gains and losses on investments and other assets

• Classified as with or without donor restrictions

• Reported in the statement of activities → similar to a not-for-profit organization

Issues in Not-for-profit Accounting

• Asset transfers to other not-for-profit organizations such as foundations

• Circumstance under which such transfers should be accounted for as a:

  • Contribution revenue

  • Liability

  • Change in net assets or interest in net assets

Characteristics of Financially Interrelated Organizations

• An organization has the ability to influence the operating and financial decisions of the other

• An organization has an ongoing economic interest in the net assets of the other

Recipient Accounting

• Conditions for a not-for-profit organization to be a recipient entity:

  • Accepts assets from a resource provider and:

    • Agrees to use the asset on behalf of a specified beneficiary; or

    • Transfer the assets to a specified beneficiary

• Factors affecting the accounting by the recipient depend on:

  • Whether the recipient and beneficiary are financially interrelated

  • Whether the recipient has variance power

Variance Power

• Variance power is the ability of the recipient entity to redirect the use of the resource received to another beneficiary

• A recipient entity with variance power would be able to make decisions overriding the donor’s instructions without approval from the donor or any other interested party

• A recipient entity without variance power would be bound to any and all instruction by the resource provider

Not Financially Interrelated: Without Variance Power

• The organization accepts assets from a resource provider

• The organization uses or manages the assets on behalf of a specified beneficiary

• The organization has no variance power and no financial interrelationship accounts for the received assets

Not Financially Interrelated: With Variance Power

• The organization accepts assets from a resource provider and agrees to use or manage them on behalf of a beneficiary following donor-donee accounting

• Assets are valued at FV

• Assets are recognized as a contribution when received and expensed when distributed to the beneficiary

Financially Interrelated: With or Without Variance Power

• The organization accepts assets from a resource provider and agrees to use or manage them on behalf of a beneficiary following donor-donee accounting

• Assets are valued at FV

• Assets are recognized as a contribution when received and expensed when distributed to the beneficiary

Endowment Funds

• Used to account for assets established to provide income for the maintenance of a not-for-profit entity

• Endowment funds are classified as either net assets without donor restrictions or net assets with donor restrictions

• Restrictions on endowment funds include

  • Duration

  • The source of any restriction on them (internal or external); and

  • The accounting issues related to the treatment of changes in value

• Endowment funds can be established in perpetuity or for a specified period of time (sometimes referred to as a term endowment)

Source of Restriction

• Endowment funds are generally established by a donor-restricted gift

• Board-designated endowment funds

  • Created by a not-for-profit entity’s governing board by designating a portion of its net assets without donor restrictions to provide income for a long (but not necessarily specified) period of time

  • Alternative names include funds functioning as endowment or quasi-endowment funds

• Donor-restricted endowment funds (most common)

  • Created by a donor stipulation requiring investment of the donor’s gift in perpetuity or for a specified term

Accounting and Reporting for Endowment Funds

• Reported in the B/S in one of the two following classes of net assets based on the existence or absence of donor-imposed restrictions

  • Net assets with donor restrictions

  • Net assets without donor restrictions

• These are board-designated endowment funds/quasi-endowments resulting from an internal designation of net assets without donor restrictions

Return on the Endowment Asset Subject to Donor Restriction

• Reported within net assets with donor restriction until appropriated for expenditure

• Investment returns are commonly restricted by either:

  • Time (until appropriate for use); or

  • Purpose (until appropriated and expended on the specific purpose described by the donor)

• Upon approval for expenditure (meeting the requirements of the donor restriction), the funds are deemed to have been appropriated for expenditure

Underwater Endowment

• Donor-restricted endowment fund for which the FV of the fund at the reporting date is less than either:

  • The original gift amount; or

  • The amount req

Underwater Endowment Disclosures

• The FV of the underwater endowment

• The original endowment gift amount or level required to be maintained by donor stipulations or law; and

• The amount of the deficiencies of the underwater endowment fund

Endowment Fund Required Disclosures

• The governing board’s interpretation of the requirements that underlie the net asset classification of the endowment and the ability to spend from underwater endowment funds

• Policies for the appropriation of endowment funds

• Investment policies

• Composition of the not-for-profit endowment by net asset class

• A reconciliation of the beginning and ending balance of the not-for-profit’s endowments by net asset class

Governmental Accounting Objectives

• Designed to demonstrate the accountability of each organization for the stewardship of the resources in its care

• Focused on providing efficient and effective delivery of services with public resources in compliance with applicable laws

• Identifying and displaying the accountability objectives of governmental organizations is integral to related accounting

Fund Accounting and Reporting

• The concept of fund accounting is foundational to governmental accounting 

• Enables service and mission-driven organizations to easily monitor and report compliance with:

  • Spending purposes (fund restrictions

  • Spending limits (budget)

  • Other fiscal accountability objectives

• Governments use fund accounting to demonstrate fiscal accountability in their external reporting and use funds for internal accounting

3 Themes that Differentiate Governmental Accounting

1. Fund structure

2. Fund accounting

3. External reporting

Fund Structure

• GASB 34 defines a fund structure for governments

• Eleven fund types are classified in the following three generic categories

  • Governmental funds

  • Proprietary funds

  • Fiduciary funds

• Fund financial statements should be separately presented for governmental, proprietary, and fiduciary funds to report additional and detailed information about the primary government

• A government is not required to have a specific number of funds

• A government will establish the minimum number of funds consistent with legal requirements and sound financial administration

Fund Accounting

• Fund classification within structure defined by the GASB affect:

  • The basis of accounting; and

  • The measurement focus principles associated with each fund category

• The application of different accounting principles to the funds in each generic fund grouping financial date consistent with the reporting accountability objectives of each fund

External Reporting

• GASB 34 (as amended) establishes minimum reporting requirements to be in compliance with GAAP

• Reporting requirements include both fund-based and government-wide financial statement presentations supported by:

  • Notes to the financial statements; and

  • A variety of required supplementary information

• Presentation of a reconciliation of fund financial statements to government-wide financial statements is also required

Characteristics of Information in Governmental Financial Reports

• Understandability

• Reliability

• Relevance

• Timeliness

• Consistency
  Comparability

Mnemonic: U R MICE

Limitations on Governmental Financial Reporting

• Financial reports can use approximate measures that are often based on judgements or estimates

• Financial reporting is only one source of information for users and might be more useful when used in combination with other pertinent date

• Financial reports may not meet the diverse needs of all users

• Cost-benefit relationships must be considered

Governmental Funds Overview

Accounted for using the

• Modified accrual basis of accounting

• Current financial resources measurement focus

• Governmental funds often have a budgetary focus and seek to measure financial position and the changes therein

• The focus on financial reporting is on the statement of revenues, expenditures, and changes in fund balance, which is used to demonstrate the use of resources in compliance with laws, rules, and regulations

• Accounts are of a “current” nature

  • The B/S of government funds contain no fixed asset or long-term debt accounts

Governmental Funds

• General Fund

• Special Revenue Funds

• Debt Service Funds

• Capital Projects Funds

• Permanent Funds

General Fund

• This fund is set up to account for the ordinary operations of a governmental unit that is financed from:

  • Taxes

  • Other general revenues

• All transactions not accounted for in other funds are accounted for here

Special Revenue Fund

• These funds are set up to account for revenues from:

  • Specific taxes

  • Other earmarked sources

• These are restricted or committed to financial particular activities of government

Debt Service Funds

• These funds are set up to account for:

  • The accumulation of resources

  • The payment of interest and principal on all “general obligation debt”, other than that service by enterprise funds or by special assessments in another fund

• Resources of the fund are restricted, committed, or assigned to debt service expenditures

Capital Project Funds

• These funds are set up to account for resources

  • Restricted

  • Committed

  • Assigned

• These funds are specifically used for acquisition or construction of major capital assets by a governmental unit, except those projects financed by an enterprise fund

Permanent Funds

These funds are used to report resources that are legally restricted to the extent that income, and not principal, may be used for purposes supporting the reporting government’s programs (i.e., for the benefit of the public)

Similar to an endowment with not-for-profits where you can’t touch the principal. Invest it wisely to generate investment income

Proprietary Funds Accounting

• Account for business-type activities

• Similar to commercial accounting

• Should be accounted for using the:

  • Full accrual basis of accounting

  • Economic resources measurement focus

Proprietary Funds

• Internal Service Funds

• Enterprise Funds

Internal Service Funds

• These funds are set up to account for goods and services provided by designated departments

• Customers of the internal service fund are primarily internal

• Other departments and agencies within a single governmental unit or to other governmental units are provided funds on a cost-reimbursement fee basis

Enterprise Funds

• Customers of the enterprise fund are primarily external

• These funds are set up to account for the acquisition and operation of governmental facilities and services that are intended to be primarily (more than 50%) self-supported by user charges

• Enterprise funds are required when any of the three criteria is met

  • Activity of fund is financed by debt secured by a pledge of fee revenue

  • Laws require collection fees adequate to recover costs

  • Pricing policies are established to produce fees to recover costs

Current Financial Resources (GRaSPP)

• General Fund

• Special Revenue Fund

• and

• Debt Servicing Fund

• Capital Project Fund

• Permanent Fund

Economic Resources (SE-CIPPOE and Government Wide) List

• Internal Service Fund

• Enterprise Fund

• Custodial Fund

• Investment Trust Fund

• Private Purpose Trust Fund

• Pension

• Other Employee Trust Fund

Economic Resources (SE-CIPPOE) and Government-wide

• Financial reporting centers on the costs of services and the effectiveness and efficiency with which invested capital has been used

• All assets and all liabilities are included on the B/S, including certain transactions classified as deferred outflows/inflows of resources

• Net position is analyzed and reported in 3 components

  • Net investment in capital assets

  • Restricted (distinguishing between major categories of external restrictions)

  • Unrestricted

• Fixed assets are reported

• Non-current liabilities are reported