Comprehensive Overview of Not-for-Profit Entities

Introduction to Not-for-Profit Entities

• Presenter: Mike Brown

• Transition from for-profit business entities to not-for-profit entities.

  • Not-for-profits still adhere to GAAP (Generally Accepted Accounting Principles).

  • Utilize accrual basis accounting.

• Unique vocabulary and accounting issues for not-for-profits necessitate a special section.

  • Contributions play a key role for not-for-profits, which contrasts with for-profits.

Definition and Characteristics of Not-for-Profit Entities

Defining Attributes

• Three specific attributes to define not-for-profit entities:

  1. Revenue Sources: Revenues are primarily obtained through contributions (funds given by individuals or entities).

  2. Operating Purpose: The primary objective is not to generate profit. Not-for-profits can earn a profit, but it is not their primary purpose.

  3. Ownership Interest: Not-for-profits have a different ownership structure compared to for-profit businesses.

Categories of Not-for-Profit Organizations

Core Categories

• Four main categories of not-for-profits:

  1. Health Care Organizations

  • Examples: Hospitals, nursing homes, hospice care.

  1. Educational Institutions

  • Examples: Colleges, universities, private schools.

  1. Voluntary Health and Welfare Organizations

  • Examples: United Way, American Red Cross, March of Dimes.

  1. Other Private Non-Profit Organizations

  • Examples: Cemetery organizations, fraternal organizations, labor unions, performing arts organizations, cultural institutions like museums and libraries.

Users of Not-for-Profit Financial Statements

Key Stakeholders

• Main users of not-for-profit financial statements:

  • Donors: Have a vested interest in how their contributions are utilized.

  • Members of the Organization: Shareholder interests in the non-profit's operations.

  • Creditors: Potential lending entities who require insight into the organization's financial health.

  • Anyone providing resources to the not-for-profit may seek access to these financial statements.

Information Needs of Users

• What users need to know:

  1. Services Provided: Understand what services the organization offers.

  2. Sustainability of Services: Assess the organization's ability to continue offering its services in the future.

  3. Stewardship Responsibility: Insight into how management is safeguarding and utilizing contributions received.

Financial Reporting for Not-for-Profit Entities

Specific Information Required

• Key elements to be included in financial statements:

  1. Amount and nature of assets, liabilities, and net assets (not referred to as equity).

  2. Impacts of various events or circumstances during the reporting period that affected net assets.

  3. Inflows and outflows of economic resources during the period.

  4. Examination of cash flows and their relationships to inflows and outflows.

  5. Information about the organization's service efforts.

• Financial statements addressing these elements:

  1. Statement of Financial Position: Equivalent to the balance sheet in for-profits.

  2. Statement of Activities: Equivalent to the income statement and aim to capture net asset changes.

  3. Statement of Cash Flows: Displays cash flow activities similar to for-profit entities.

Accounting Principles for Not-for-Profit Entities

Accounting Standard Adherence

• Not-for-profits follow full accrual basis of accounting, similar to for-profits.

• Financial reporting standards can be found in the Accounting Standards Codification (ASC), ensuring consistent reporting across private not-for-profits to ease comparisons.

• Fund Accounting: Not required for external reporting but may be used internally.

• Governmental Not-for-Profits: Governed by the Governmental Accounting Standards Board (GASB) and differ from private not-for-profits.

Reporting Emphasis

• Focus of financial statements is on the organization as a whole, emphasizing financial activities rather than fund segregation (unlike governmental accounting).

Financial Statements Overview

Statement of Financial Position

Components

• Divisions of a statement of financial position:

  1. Assets (current and non-current)

  2. Liabilities (current and non-current)

  3. Net Assets (instead of equity): Classified as:

  • Without donor restrictions

  • With donor restrictions

Presentation Order

• Assets Presentation: Based on closeness to cash (e.g., cash listed first).

• Liabilities Presentation: Based on proximity to maturity (short-term liabilities presented first).

• Net Assets Details:

  • Net assets without donor restrictions can be used freely by governance.

  • Net assets with donor restrictions are held based on restrictions imposed by donors (specific uses or timing restrictions).

Disclosures Related to Financial Position

Qualitative and Quantitative Disclosures

• Qualitative Disclosures: Information on liquidity, use of assets, & limitations on cash resources.

• Quantitative Disclosures: Describe liquid resources available and restrictions affecting availability.

Example of a Statement of Financial Position

Illustrative Statements

• Presents categories: Assets, Liabilities, and Net Assets (With/Without Donor Restrictions).

• Breakdown within net assets detailing restrictions and designations by the board (e.g., liquidity reserves).

Statement of Activities

Structure and Elements

• Equivalent to the income statement for for-profit entities.

• Includes:

  • Revenues and Expenses: Reported gross.

  • Gains and Losses: Typically shown net.

  • Reclassification of Net Assets: From donor restricted to unrestricted.

Organization and Flexibility

• Sequence of revenues, expenses, gains/losses, and reclassifications is flexible in presentation.

• Intermediate totals (e.g., operating income) can be disclosed in the notes.

Revenue Classification

Differentiation of Revenue Streams

• Without Donor Restrictions: Classified based on source without restrictions.

• With Donor Restrictions: Classified as restricted, regardless of whether temporary or perpetual.

Recognition of Restricted Revenue

• When a restriction is satisfied:

  • Reclassify funds from restricted to unrestricted.

  • Show on Statement of Activities.

Expense Recognition

Classification and Reporting

• All expenses generally reported as a reduction of net assets without donor restrictions.

• Investment expenses may be reported net against related investment returns.

Functional vs. Natural Expense Classification

Definitions

• Functional Classification: Organizes expenses by program services (core mission work) vs. support services (administration, fundraising).

• Natural Classification: Organizes expenses by categories (salaries, rent, utilities) within functional classifications.