7.2 Not-for-Profit Financial Reporting

Not-for-Profit Financial Reporting (ASC 958)

Not-for-profit (NFP) organizations operate under a financial reporting framework governed by FASB Accounting Standards Codification (ASC) Topic 958. Unlike state and local governments, which follow GASB standards, NFPs follow FASB GAAP. The primary focus of NFP financial reporting is to provide information that is useful to donors, creditors, and other resource providers in making decisions about allocating resources, and to assess the organization's service efforts and performance.

Core Reporting Concepts: No Fund Accounting on the Face

While NFPs may use fund accounting internally for tracking specific donor restrictions or program budgets, fund accounting is not permitted on the face of the external financial statements. Instead, NFP financial statements report information for the organization as a whole, focusing on the classification of net assets based on the presence or absence of donor-imposed restrictions.

Classification of Net Assets

Under ASC 958, net assets are reported in two primary classes:

1. Net Assets Without Donor Restrictions: Net assets that are not subject to donor-imposed stipulations. This class includes:
   • Revenues from fees for services, sales of goods, and unrestricted contributions.
   • Board-Designated Net Assets: Net assets set aside by the NFP's governing board for specific future purposes (e.g., building reserves or endowments). Because the board is internal and can rescind these designations, they are classified as without donor restrictions, but must be disclosed separately in the notes or on the statement face.
2. Net Assets With Donor Restrictions: Net assets subject to donor-imposed stipulations that have not yet been met. These restrictions can be:
   • Temporary in Nature: Constrained by a specific purpose (e.g., to fund a research project) or by a specific time period (e.g., to be used in the next fiscal year).
   • Perpetual in Nature (Endowments): Constrained by a donor stipulation that the principal must be maintained in perpetuity, with only the investment earnings available for spending.

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Required Financial Statements

An NFP must present a complete set of financial statements, consisting of:

1. Statement of Financial Position

The Statement of Financial Position is the NFP's balance sheet. It reports assets, liabilities, and the two classes of net assets (With and Without Donor Restrictions), along with the total net assets.

2. Statement of Activities

The Statement of Activities is the NFP's operating statement. It reports revenues, gains, expenses, losses, and the change in net assets for each of the two net asset classes, as well as the total change.

• Reclassifications (Net Assets Released from Restrictions): When a donor-imposed time or purpose restriction is met, the NFP recognizes a reclassification. This is presented as a decrease in Net Assets With Donor Restrictions and a corresponding increase in Net Assets Without Donor Restrictions.
• Expense Presentation: All expenses must be reported as decreases in Net Assets Without Donor Restrictions. Expenses can never be recorded in the restricted class.

3. Statement of Cash Flows

NFPs prepare the Statement of Cash Flows in accordance with ASC 230. It classifies cash flows into three categories:

• Operating Activities: Includes unrestricted contributions, receipts from program services, and payments for operating expenses (including interest paid).
• Investing Activities: Includes purchases and sales of capital assets, along with purchases, sales, and maturities of investment securities.
• Financing Activities: Includes cash receipts from contributions restricted for long-term purposes (e.g., to build a building or establish an endowment) and borrowings.

Note on Direct vs. Indirect Method: If an NFP uses the direct method to report operating cash flows, it is not required to present a reconciliation of the change in net assets to operating cash flows (a key relief compared to commercial entities).

4. Expense Reporting: Functional and Natural Classifications

NFP organizations must report expenses by both functional classification (why the expense was incurred) and natural classification (what was purchased) in a single location:

• Functional Classifications:
  • Program Services: Direct costs associated with executing the NFP's mission (e.g., education, research, patient care).
  • Supporting Services: Costs not directly tied to programs, including Management and General (administrative, board expenses), Fundraising (donor solicitation, direct mail), and Membership Development.
• Natural Classifications: Salaries, rent, utilities, depreciation, professional fees.
• Location: The matrix can be displayed on the face of the Statement of Activities, in the notes to the financial statements, or in a separate Statement of Functional Expenses.

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Worked Example: Restricted Contribution and Release

An NFP receives a cash donation of $100,000 restricted by the donor for a specific research project:

Receipt of Contribution:

Debit: Cash                                      $100,000
   Credit: Contribution Revenue—With Donor Restrictions $100,000

Incurrence of Program Expense: The NFP spends $80,000 on qualifying research expenses. Remember, expenses are always recorded in Net Assets Without Donor Restrictions:

Debit: Research Program Expense                  $80,000
   Credit: Cash (or Accounts Payable)                   $80,000

Release of Net Assets (Reclassification): Because the restriction has been satisfied to the extent of $80,000, the NFP must record the release of resources:

Debit: Net Assets Released from Restriction—With Donor Restrictions  $80,000
   Credit: Net Assets Released from Restriction—Without Donor Restrictions $80,000

This reclassification ensures that the revenues match the corresponding expenses in the unrestricted net asset class on the Statement of Activities.