McGraw-Hill/Irwin

©2007, The McGraw-Hill Companies, All Rights Reserved

Essentials of Accounting for Governmental and Not-for-

Profit Organizations

Chapter 10:

Accounting for Not-For-Profit Organizations

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Overview of Chapter 10

• Who has standard setting authority?

• Accounting for Voluntary Health and Welfare and Other Not for Profits

• Nonprofits and performance evaluation

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Standard setting authority• GASB

– Authority over government related nonprofits

– GASB34 Special Purpose Entity requirements may apply

– GASB35 for Public Colleges and Universities

• FASB– Private nonprofits

– AICPA audit guides also applicable

– Major SFASs 93, 116,117, 124, 136

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Private Not-For-Profits• FASBs 116 & 117 were written in order to bring

comparability between the financial reports of Private Colleges, Hospitals, Voluntary Health and Welfare Organizations and Other Not for Profits.

• However, because of unique features of the college and hospital settings, these entities are covered in greater detail in separate chapters.

• This chapter focuses on how Financial Accounting Standards Board and AICPA Audit Guides apply to private not-for-profits, generally.

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VHWOs and other Not-for-Profits

• The remainder of this chapter focuses on Voluntary Health and Welfare Organizations and Other Not-for-Profits.

• What is a VHWO? • Promotes general health and well-being of the

public.

• Tends to operate mainly from grants and gifts.

• Examples: United Way, American Cancer Society, Girl Scouts, YMCA.

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Understanding the basic financial statements

The three required statements are:– Statement of Financial Position – Statement of Activities – Statement of Cash Flows

• VHWOs must also prepare a Statement of Functional Expenses – This statement is recommended but not required for

other not-for-profits but may have to include similar info in notes.

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SFAS 117: Financial Statements of Not-for-profit Organizations:

• Statements must distinguish changes in net assets that are permanently restricted, temporarily restricted, and unrestricted. Restrictions must be outside donor-imposed

Required financial statements:•Financial position, •Cash flow,•Statement of Activity.

In addition, voluntary health and welfare organizations (humanitarian activities) are required to issue a statement of functional expense.

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Basis of Accounting and Use of Funds

• The basis of accounting is Accrual. This includes calculation and recording of depreciation expense. The financial statements report expenses, not expenditures or encumbrances.

• Many Private Not-for-profit organizations use fund designations internally for bookkeeping purposes, but the financial statements are on an overall basis and do not make reference to funds except in footnotes or supplemental schedules

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Statement of Financial Position

• Assets/liabilities not required to be classified as current and noncurrent, but could be.

• Does include long-term assets and debt.• Net Assets classified as:

– Unrestricted– Temporarily restricted - time or purpose restrictions

– Permanently restricted

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Statement of Activities

• Shows activity for all three net asset categories:– Unrestricted, temporarily restricted, and

permanently restricted plus total

– Can use three separate statements or other formats

• Revenues, gains, and other support:– Revenues: exchange transaction, sales of service

– Support: gifts such as contributions

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Statement of Activities

• All expenses are reported in the unrestricted column

• Classify expenses as program or supporting services.

• Temporarily restricted resources must be ‘released’ or moved from the temporary column to the unrestricted column as restrictions are satisfied.

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Program Expense Ratio

• The most commonly used ratio for not-for-profits is:– Program Service Expenses/ Total Expenses

• Supporting Services include management and general; fund raising and membership development

• Program Services include expenses associated with performing the mission of the organization

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Statement of Cash Flows

• FASB uses 3 categories– Operating -- Interest exp/ interest rev/ gains and losses

here– Investing -- Purchases/sales of long-term assets as well

as purchases/sales of long-term investments– Financing -- Issuance of nonoperating debt; repayments

of principal of debt

• Have the option of using either the indirect approach or the direct approach plus reconciliation.

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Program Expense ratio

• A high ratio of program expense will assure donors that the organization spends the bulk of dollars donated for its mission oriented activities rather than for overhead

• The organization may need to keep detailed time records to properly report costs (e.g. salary) associated with both program and supporting activities.

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Stmt of Functional Expenses

• This statement shows more detail than the Activity Statement on how the expenses were allocated to programs and supporting services.

• The purpose of this statement is to show the details of the entity’s spending on direct programs activities versus overhead (supporting services).

– Helps donors assess entity efficiency.

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Accounting for Contributions

• FASB Statement 116 requires contributions, including unconditional promises of support, to be recognized as contribution revenue in the period received at their fair market value.

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SFAS 116: Accounting for contributions received and made:

• SFAS 116 does not change the accounting for exchange transactions (earned revenues). Care should be taken to identify whether membership dues are contributions or exchanges.

• Not-for-profit organizations must distinguish between contributions that are permanently restricted, temporarily restricted, and unrestricted. Such restrictions are donor-imposed.

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Accounting for Pledges

Under accrual basis, unconditional pledges can be recorded even before the cash is received. If an extended time period before the gift is received:

• Record the Receivables at present value net of an allowance for estimated uncollectibles

• Present value will increase as the expected date of receipt approaches. The change in present value is recorded as additional contribution revenue rather than interest.

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Contributed Services

• Should contributed services be recorded?– Only if they

• Create or enhance a nonfinancial asset OR

• Require specialized skills, were provided by someone possessing those skills, and would have been purchased if not donated.

• If recorded, how should they be recorded?– If a nonfinancial asset is enhanced Dr. Asset and Cr. Contributions;

Otherwise, Dr. Expense and Cr. Contributions for the value of the services.

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Exchanges vs. Contributions

• If money is received in advance of providing the service on an exchange like transaction, the amount received is considered Deferred Revenue.

• Contributions are considered as revenues as soon as received (or pledged) even if the use is restricted. But depending on the terms of the contribution, may reclassify from temporarily restricted to unrestricted as the money is spent.

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Intentions to give

• Pledges are recorded if legally enforceable and the nonprofit would be willing to use legal means to enforce.

• Intentions to give (oral promises, wills) are often not legally enforceable as the donors retain legal right to change their mind.

• Intentions to give are not recorded until the actual gift materializes.

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Fixed Assets• Fixed assets, whether purchased or donated, can be

recorded either as – Unrestricted assets, or– As temporarily restricted.

• If initially recorded as temporarily restricted an amount equal to depreciation must be released each year to unrestricted assets.

• NOTE: Some nonprofits may prefer the later approach because readers of the financial statements may think ‘unrestricted net assets’ means expendable funds -- listing the long-term assets as temporarily restricted decreases requests to spend reserves that are not really available in a liquid form.

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Performance Evaluation

• FASB 117 presents nonprofit statements in a format similar to business statements.

• However, due to the environment the bottom line is some what more useful than in the government setting, but still not directly comparable to that of a business.

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Is it proper for not-for-profits to have a profit?

• Legitimate reasons for a not-for-profit to have a profit are: – To replace and expand equipment and facilities.

– To provide working capital.

– To retire debt.

– To continue programs beyond the time frame when

seed money grants are available.

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Program vs. Supporting Expense Allocations

• Because of the importance of the program expense ratio, care must be taken in the allocation of joint costs between program and supporting services.

• Salaries and depreciation must be allocated to the two functions on an equitable basis.

• Fund raising appeals sometimes also include program elements

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Program vs. Supporting Expense Allocations cont’d

• The criteria to determine whether part of the cost of a fund raising campaign applies to program expense are– Purpose: Does the communication help meet

program goals and functions?– Audience: General audience, not just sent to

last year’s donors.– Content: Calls for specific action directed at

program goals.

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SFAS 124: Accounting for Certain Investments Held by Not-for-profit

Organizations:

Requires investments with readily determinable market values to be recorded at fair market values and gains and losses be recognized

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SFAS 136: Transfer of Assets to a Not-for-profit Organization or Charitable Trust that Raises for Holds Contributions for Others

• Assume a not-for-profit receives assets from a donor for distribution to a beneficiary:– •If the not-for-profit agrees to transfer the assets to a

specified beneficiary, the not-for-profit is deemed to merely be acting as an agent and a liability, rather than a contribution is recorded.

– •If the not-for-profit has the ability to redirect the assets to another beneficiary, or if the not-for-profit and beneficiary are related, the assets are recorded as a contribution.

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Transfers of contributions to not-for-profit

• ISSUE: If cash or other assets are held by a nonprofit with instructions to release this money for specified parties, is this a revenue or is it an agency relationship (liability)?

• CENTRAL CONCEPT: It is a revenue if the nonprofit can ‘control’ who gets the money, otherwise it is credited to a liability account because the nonprofit is only acting as an agent on behalf of the donor. – EXCEPTION: If the party receiving the money and the

nonprofit are financially interrelated, may be a revenue to the nonprofit.