Functional Allocation of Expenses Under ASU 2016-14

As a reminder, Accounting Standards Update (ASU) 2016-14 is effective for 12/31/18 year-ends and will affect every nonprofit organization.  In our last article, “Miscellaneous Provisions,” we provided information on some of the less publicized provisions of ASU 2016-14 – reporting of investment return, use of the indirect method of reporting cash flows, and release of restrictions related to donations for fixed asset purchases.  Another provision of ASU 2016-14 addresses the functional allocation of expenses, with the goal of improving presentation and disclosure.  This will affect every nonprofit organization, even those that already prepare a functional allocation.

Many nonprofit organizations are considered “voluntary health and welfare entities” – their purpose is to provide voluntary services for various segments of society that solve health or welfare problems.  These organizations have always been required to functionally allocate their expenses in a full set of financial statements.  In addition, every nonprofit organization having a Form 990 filing requirement completes a Statement of Functional Expenses.  This information can be very useful to donors, and has also been known to be a point of contention in the media when a nonprofit shows a higher than usual percentage of their costs coded to administration.

With the implementation of ASU 2016-14, all nonprofit organizations will now be required to include an analysis of expenses by nature (e.g. salaries, utilities, etc.) and function (e.g. Program A, Program B, management, and fundraising) in one location.  Three options are provided:

  • Present a separate statement of functional expenses – this option will likely be chosen by most organizations
  • Present a table in the notes to the financial statements
  • Incorporate the details into the statement of activities

Whether this is a new requirement for your nonprofit, or you have always presented this information in your financial statements, you should assess which presentation you prefer. It’s also a good time to reevaluate which functions are most meaningful to financial statement readers.  The requirement includes allocating between programs and supporting services, but each nonprofit must define those functions.  You may have more than one program, and your supporting services could include management duties, fundraising functions, and membership development.  What programs do you talk to your donors or granting agencies about?  Would it make sense to show each of these programs as a separate column to provide better financial information about their cost?  Once this determination is made, you may need to update your chart of accounts to help you track some of these costs more appropriately.

In addition, allocation methodologies between program and supporting services should be reviewed.  If not already in place, formal allocation methodologies that follow ASU 2016-14 and make sense based on operations, should be developed. Historically, management may have “guessed” what the allocation should be – e.g., “I spend about 10% of my time doing fundraising.”  With the new reporting requirements, the allocation method will need to be disclosed, and “guesses” may not make the best disclosure in your financial statements!  Instead, you are going to want to specify what methodology is applied. For example, occupancy costs might be allocated based on the square footage used for each program or supporting service, while salaries might be allocated based on time and effort expended.

Finally, ASU 2016-14 provides more guidance on management expenses than previous accounting literature.  This is intended to reduce diversity in practice and improve comparability of financial statements between organizations.  The new definition of management and general expenses is “supporting activities that are not directly identifiable with one or more program, fundraising or membership-development activity.” Each organization is unique and needs to analyze how its expenses support its activities; however some examples of what should be included in management include:

  • General recordkeeping and payroll
  • Budgeting
  • Financing, including interest costs not directly related to a program
  • Audit costs
  • Producing and distributing an annual report
  • Human resource functions, to include employee benefits management and oversight

As a “catch-all”, the standard clarifies that all other management and administration, except for the direct conduct or supervision of program activities, is considered management expense.  Activities that represent direct conduct or supervision should be allocated to the functions they relate to.  Examples might include:

  • IT benefits various functions and generally would be allocated
  • CEO salaries are likely allocated to program, fundraising, and management
  • HR does not provide direct supervision, so these costs are generally assigned to management
  • Grant accounting and reporting could be program (e.g. program related reports) or management (e.g. financial reports and related accounting activities)

Nonprofit organizations will want to perform this analysis prior to year-end to see how it affects the percentage of expenses charged to programs. Donors and watchdog agencies use these percentages to analyze and evaluate your nonprofit in comparison to others, so any significant fluctuations could be a red flag.

Reminder

The above provisions need to be adopted for your 12/31/18 financial statements.  If preparing comparative financial statements, nonprofits who weren’t previously required to show functional and natural expenses in one statement, can omit that presentation for the previous year.

Watch for future articles on additional provisions of this new standard that will apply to your organization.  The nonprofit experts at Ketel Thorstenson, LLP are here to help you navigate the intricacies of ASU 2016-14.  Call us at 605-342-5630 to set up a meeting now.

 

September 5, 2018

Miscellaneous Provisions of ASU 2016-14

As a reminder, Accounting Standards Update (ASU) 2016-14 is effective for 12/31/18 year-ends and will affect every nonprofit organization.  In our last article, “New Presentation Rules for Donor Restrictions,” we provided information on the main provision of ASU 2016-14 – moving from three classes of net assets (unrestricted, temporary, and permanent) to two classes of net assets (with and without donor restrictions).  Several other miscellaneous provisions may affect your organization, and this article explores those provisions.

Investment Return

Under current accounting rules, nonprofit organizations had the option to net investment fees against investment income (in which case, disclosure of the expense amount was required), or to present the fees as an expense.  Under ASU 2016-14, investment return must be presented on a net basis.  In other words, all external and direct internal investment management and custodial expenses must be netted against the income to show a net investment return.  No separate disclosure of the expense is required, and the individual components of the investment return (e.g. interest, gains, etc.) are not required to be disclosed.  The statement of activities will now show one line item labeled “investment return.”  However, don’t forget these details are still required to be presented separately in Form 990, so you will need to continue tracking each component.

The concept of “direct internal investment expenses” is likely unfamiliar to most nonprofit organizations.  The formal definition of this is “any internal expense that includes the direct conduct or supervision of the strategic and tactical activities involved in generating investment return.”  In laymen’s terms, this:

  • Includes salaries, benefits, travel, and other costs associated with staff responsible for the development and execution of investment strategy, including supervising, selecting, and monitoring external managers.
  • Excludes costs not associated with generating investment return, such as administrative management, contracts, and pooled-fund administration (e.g. soliciting funds to add to an endowment are not directly associated with increasing investment return).

This portion of ASU 2016-14 is not applicable to programmatic investments.  For example, if your organization makes loans to low-income individuals to promote home ownership, the expenses related to granting and monitoring these investments are not allowed to be netted against the interest income earned on the loans.

Organizations will need to ensure their accounting processes identify all external and direct investment management and custodial expenses so such costs can be reported in a separate general ledger account (or at least identified for reclassification at a later date).  Some allocation methods may need to be implemented (e.g. CFO salary may include overseeing the investment portfolio). Management should be aware this change will also impact functional expense allocations – these expenses were likely allocated to management or fundraising costs in the past, and will now be excluded from expense totals.

Statement of Cash Flows

Most nonprofit organizations utilize the indirect method of reporting when presenting a statement of cash flows (i.e. start with change in net assets and adjust for changes in assets and liabilties).  However, organizations have always had the option to utilize the direct method of reporting (i.e. show actual cash paid and received from various activities).  Under legacy accounting rules, the direct method of reporting also required a reconciliation between the two methods.  ASU 2016-14 removes this reconciliation requirement in the hopes of encouraging more organizations to consider utilizing the direct method of presentation.  Management should consider the two methods and determine which presentation they find more useful – many financial statement users have argued that the direct method is intuitively easier for them to understand.

Fixed Assets

When nonprofit organizations receive contributions restricted for the purchase or acquisition of fixed assets, two options exist under current accounting rules as to when such restrictions are considered released:

  1. Placed-in-service approach: the restriction expires at the time the asset is placed in service
  2. Over time approach: the restriction is released over the asset’s useful life (e.g. release 1/5 of the contribution each year to match the 5-year useful life of the asset acquired)

ASU 2016-14 removes the second option above from the accounting guidance (unless a donor explicitly requires this method to be used).  Most organizations have historically used the first option due to its simplicity, so it is not expected this change will affect many nonprofits.

Reminder

As the above provisions are adopted for your 12/31/18 financial statements, remember that if comparative financial statements are being presented, they must be restated to conform to the new accounting rules.

Watch for future articles on additional provisions of this new standard that will apply to your organization.  The nonprofit experts at Ketel Thorstenson, LLP are here to help you navigate the intricacies of ASU 2016-14.  Call us at 605-342-5630 to set up a meeting now.

 

June 7, 2018

Nonprofit Reporting is About to Change

If you are a member of a nonprofit board of directors, you are likely already aware of the unique terminology and rules surrounding nonprofit accounting and reporting. In an effort to update and improve the rules, the Financial Accounting Standards Board (FASB) has issued Accounting Standards Update (ASU) 2016-14.  The new standard is effective for all 12/31/18 financial statements, and includes the most sweeping changes to nonprofit reporting in almost 20 years.  As a board member, it’s your role to monitor that any necessary accounting and policy changes are appropriately considered by management, particularly if your organization receives externally prepared financial statements in accordance with generally accepted accounting principles.  You will also want to have a basic understanding of the changes.  A few of the main provisions are discussed below.

Net Asset Classifications
Current rules require financial statement presentation of three classes of net assets – unrestricted (including designated and undesignated), temporarily restricted, and permanently restricted.  The new rules only require presentation of two classes of net assets – with donor restrictions (i.e. temporarily and permanently restricted) and without donor restrictions (i.e. unrestricted).  However, tracking of permanent and temporary restrictions will need to continue to ensure donor funds are spent as intended.  If your organization has its financial statements externally prepared, you will see changes in terminology and presentation.

In addition, new reporting requirements exist for organizations having endowment funds that have been reduced below the amount originally contributed by the donor.  Those deficiencies will now be reported as part of net assets with donor restrictions, rather than unrestricted net assets as has historically been required.  Board approved policies should be in place to address actions taken when a fund is underwater, to include when appropriations can be made from these funds.

Finally, additional formality and disclosures surround designated net assets under ASU 2016-14.  Designations are a way for the board of directors to set aside unrestricted dollars for certain purposes.  Policies should exist that guide the establishment of board-designated net assets, whether management has been delegated any authority to designate net assets, conditions under which designations may occur, and how such designations will be released in the future.  The board of directors should also formally approve all existing designations before year-end if not previously done.  You may consider making this a standard part of future board meetings.

Investment Return
Your nonprofit organization’s financial statements typically list investment earnings in several different line items – interest income, unrealized gains/losses, realized gains/losses, and investment expenses.  Under ASU 2016-14, all of these items will be combined into one line labeled “investment return.”  In addition, direct internal investment expenses should be included in this line item.  This would include, for example, the portion of the CFO’s salary that relates to obtaining bids for external investment advisors or monitoring investment return.  Because Form 990 still reports investment return in individual line items, your internal accounting will likely not change.

Functional Expense Allocation
All nonprofits will now be required to show a statement of functional expenses as part of a complete set of financial statements.  Management will need to have specific methods of allocating expenses between program, management, and fundraising activities.  In some instances, these methods may be allocation percentages based on relevant data (e.g. utilities can be allocated to functions based on the square footage of the space used for each program).  Additional disclosures of the methodology will be required, so it’s important that reasonable methods are adopted.

Liquidity Disclosures
If your organization prepares financial statements with footnote disclosures, you will see a significant new disclosure that provides readers with information regarding the resources available for general expenditures within one year of the balance sheet date.  As a board member, you may have heard your auditor explain that because of the significant contribution activity, it’s difficult to see the true operational results within the financial statements.  This new disclosure attempts to highlight that issue, and will include both qualitative and quantitative information to assist readers in understanding the true operational resources available for the organization. Internal policies should exist that describe how the organization manages its liquidity needs.

Summary
Although your internal accounting practices will not require significant changes, your external reporting will look much different.  You can expect additional fees from your auditors for implementation of ASU 2016-14, as well as additional internal resources to ensure policies are in place and appropriately disclosed in the financial statements.  The nonprofit experts at Ketel Thorstenson, LLP are here to help you navigate the intricacies of ASU 2016-14.  Call us at 605-342-5630 to set up a meeting now.

June 1, 2018

New Presentation Rules for Donor Restrictions

For those of us that have been around awhile, we remember the sweeping changes brought about by Financial Accounting Standards Board (FASB) 116 and 117.  For the first time, nonprofit organizations were required to report net assets as unrestricted, temporarily restricted, or permanently restricted, and the entire financial statement presentation was overhauled.  These sweeping changes occurred in 1995, and although some new accounting standards have affected nonprofits since then, none have been overly burdensome.  That is, until now.  With the issuance of Accounting Standards Update (ASU) 2016-14, nonprofit financial statements will again be altered significantly.  The ASU is effective for all 12/31/18 year-ends, so it’s time to start preparing your organization for the upcoming changes.  This article will be the first of four discussing the upcoming changes to nonprofit accounting and financial presentation rules.

One of FASB’s goals with ASU 2016-14 was to improve the net asset classification scheme.  Current rules require financial statement presentation of unrestricted (including designated and undesignated), temporarily restricted, and permanently restricted net assets.  Some financial statement users felt this terminology was confusing.  As a result, financial statements will now present two classes of net assets instead of three – with donor restrictions and without donor restrictions.  The visual below assists in understanding how this transition will work.

 

 

 

 

 

 

 

So, does this mean you can quit tracking donor restricted net assets based on whether they are permanently or temporarily restricted?  Unfortunately not!  As donors require funds to be spent for specific purposes, within specific time periods, or maintained for perpetuity, nonprofits will still need to honor those requests and track them accordingly.  Because of this, your internal accounting for donated funds will not change, and the implementation of ASU 2016-14 will mostly be presentation changes within the external financial statements.  Here are some additional tips to keep in mind:

  • Organizations may choose to further disaggregate the two classes of net assets on the face of the statement of financial position. For example, when presenting net assets with donor restrictions, management may choose to present purpose restrictions, time restrictions, and funds of perpetual duration (i.e. endowments).
  • If the classes of net assets are not disaggregated on the face of the financial statements, then additional disclosures will need to be made in the notes to explain the composition of donor restricted net assets.  This disclosure will likely be in more detail than what was previously disclosed.
  • Although most entities already made these disclosures, an explicit requirement now exists to disclose the nature and amounts of designations included in net assets without donor restrictions.
  • Underwater endowment funds will now be reported as part of net assets with donor restrictions. Previously, such amounts were considered unrestricted net assets, and operating dollars had to cover the deficiencies.  Several disclosures are required in this situation, to include policies for spending underwater endowment funds, original gift amounts, and the amount of the deficiency.
  • With the requirement to only present two classes of net assets instead of three, a comparative presentation may be easier to accommodate and could provide more useful information to readers of the financial statements.
  • In a comparative presentation, you will be required to restate the prior year financial statements as well.

So, how do you prepare for implementation of this portion of ASU 2016-04?  Consider the following:

  • Visit with your auditors on the various presentation options. Several examples have been published that can provide you with a visual.
  • Determine if you want to implement any of the terminology and presentation changes in your chart of accounts or internal board reporting.
  • Formal policies and procedures should be in place that guide the establishment of board-designated net assets, whether management has been delegated any authority to designate net assets, conditions under which designations may occur, and how such designations will be released in the future. The board of directors should formally approve all existing designations before year-end if not previously done.
  • If your organization maintains endowment funds, policies should be in place that address actions to take when a fund is underwater and when appropriations can be made from these funds. If you do not have information on original gift amounts in your endowment funds, you will want to start gathering this information.
  • Budget additional consulting and auditing fees for your 12/31/18 audit – additional time will be necessary to implement this new standard.

Watch for future articles on additional provisions of this new standard that will apply to your organization.  The nonprofit experts at Ketel Thorstenson, LLP are here to help you navigate the intricacies of ASU 2016-14.  Call us at 605-342-5630 to set up a meeting now.

 

March 7, 2018

Cash vs. Accrual Method of Accounting

Have you ever wondered whether you should simplify your accounting records by switching from the accrual method of accounting to the cash method?  What are the benefits of accrual accounting, and is it really worth the effort?  Do you know the difference between the two methods?

The strict cash basis of accounting only reflects one asset on your balance sheet – cash.  Revenues and expenses are only reflected in the financial statements at the time they are received or paid in cash.  In contrast, the full accrual basis of accounting reflects all assets the organization has rights to (e.g. pledge receivables) and all liabilities the organization owes (e.g. accounts payable).  This basis of accounting is considered to be “generally accepted” in the business community and strives to follow the matching principle (i.e. revenues are recorded when earned and expenses are recorded when incurred).  Some organizations utilize a modified basis of accounting in which certain assets and liabilities are recorded on the balance sheet in addition to cash (e.g. equipment and debt).

So what factors should an organization consider when choosing its method of accounting?

  • Who are the users of the financial statements? If your financial statements are distributed externally to granting organizations, national affiliates, or the bank, they may expect or even require full accrual accounting.
  • What volume of activity occurs each month? If the organization typically has very few transactions and does not accept long-term donations, does not sell inventory, and pays it bills regularly and timely, the cash basis method of accounting may be sufficient.
  • What are the qualifications of your management and board members? Does your accountant have the ability to record transactions on the accrual basis of accounting?  Will your board members and management team understand it?  If the answer is no, cash accounting may be a better alternative.  However, don’t let the lack of knowledge stop you from applying accrual accounting – options include outsourcing the accounting work and training internal users of financial statements to better understand them.
  • How significant is the cost? Cash accounting is cheaper to apply as less qualified staff can handle the day-to-day transactions, and there is no need for complex software.
  • What is the future of the organization? Will you grow to a point that accrual accounting will be necessary in the future to satisfy the demands of your resource providers?  If so, it may be prudent to implement it from the beginning.
  • Do you want to avoid the ability to manipulate financial results? If you are looking to show more or less net income, it’s easy to avoid paying or accelerating payment of certain bills  Your cash-basis financial statements can fluctuate significantly from period to period.  However, under the accrual basis, transactions are recorded in the period they occur, regardless of when cash is received or paid, thus providing consistency in your financial statements.

Consider the following set of facts for a nonprofit organization that received tax-exempt status January 1st and had the following transactions in January:

  • Office furniture totaling $5,000 was ordered, received, and paid for.
  • A fundraising event was conducted. $20,000 was received during the event and deposited in your bank account.  Expenses of $10,000 were incurred, but only $7,500 of those expenses were paid in January.
  • You paid the annual insurance premium of $1,200.
  • The following additional bills were received: January office supplies $250; January utilities $250; January rent $1,000; and January newsletter printing and postage $2,000.  The bills for utilities and newsletter printing/postage were not paid until February.
  • A respected community member fell in love with your mission and pledged $100,000 to the organization to be paid in annual installments of $25,000. The first installment was received in January.

The following illustrates the difference between accounting for these transactions on the cash vs. accrual basis of accounting.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

As you can see, there is a striking difference in results, depending on which method is used.  Under the cash method, you are unable to determine what is owed to/by the organization at any one point in time.  In addition, the net proceeds of your fundraising event can’t be determined until all bills are paid.  The change in net assets (i.e. your net income for January) fluctuates by approximately $76,000 between the two methods.

Our nonprofit specialists would be happy to meet with your management team to discuss the pros/cons of either method of accounting.  In addition, we can help you understand how to read and interpret the financial statements, regardless of the method of accounting you’ve chosen to use.  Call us today at 342-5630.

 

December 10, 2017

Audit Selection for Nonprofit Organizations

Prior to 2016, the IRS would subjectively select nonprofit organizations for audit based on specific types of organizations they felt were most risky (e.g. hospitals and colleges).  Beginning in 2016, that all changed.  The new audit selection method means you may be more likely to undergo IRS scrutiny.

The IRS now uses data driven analytics to select nonprofits for audit.  Under this method, each Form 990 is electronically scanned for approximately 200 different analytics.  The more analytics resulting in red flags, the higher the likelihood of an audit.  In addition, the IRS also pays attention to public requests (e.g. complaints by an unhappy donor over the use of their funds or a disgruntled employee).

Although the analytics used have not been publicly released, here are a few examples of items experts believe are triggering red flags:

  • Inconsistent reporting of information – e.g. program expenses reported in Part III do not agree to amounts shown in Part IX
  • Questions marked “yes” in Part IV have no corresponding supporting schedule
  • Schedule L related party transactions exist, but the organization does not have a conflict of interest policy
  • Contribution revenue is reported; however, no fundraising expenses are included in the return

What does this mean for you?  The IRS is focused on compliance and accountability, and the data analytics performed are fail/no fail tests – the significance of the item is not necessarily considered.  As such, completeness and accuracy of your Form 990 is increasingly important.  If your Form 990 is being manually prepared and/or being prepared by someone not intimately familiar with the over 100 pages of IRS instructions, it may be time to consider hiring an expert to reduce your chance of an IRS audit. Call the Ketel Thorstenson Nonprofit Team today with any audit services or accounting questions whether you are in Rapid City or anywhere in the Black Hills region.

September 7, 2017

990’s – Who Else is Watching Your Organization?

Who else is watching your Organization’s 990 besides the IRS? And why?

There are over 1.5 million other 990 nonprofit tax exempt organizations out there like yours.

Transparency: much important information about your organization is available to public scrutiny in your tax Form 990.

How do people get a copy of your 990? By law, you are required to provide a copy upon written request from a third party.  The IRS also has to provide a copy upon written request.  Some organization’s put a copy of their 990 on their website.  And then there are national nonprofit watchdog organizations like “Guidestar” (“Guidestar.com”) that have compiled 990 tax forms for thousands of organizations, and made them available on the web.  They even go so far as to compare and contrast organizations with quantitative and qualitative analysis and tell everyone about it.

Who else besides the IRS and Congress would want to read your 990?

  1. Potential major contributors
  2. Grantor Agencies
  3. Job applicants
  4. Former employees
  5. Regulators
  6. State Agencies/officials
  7. Law Enforcement agencies
  8. “Watchdog” organizations
  9. News Media

All of these are potential “users” of information of your 990, all having the same general intention to understand your entity’s financial information, but many with more specific intentions of checking up on your organization.

What are some (but certainly not all) of the things these “users” are looking for?

  1. Is your organization carrying out activities to accomplish your exempt purposes and for your own tax exemption maintenance? How do these activates compare with other competing organizations? Have there been any major changes in purpose?
  2. Comparison to similar organizations, using financial data for program expenses vs. administrative and fund raising expenses (are you spending enough on programs?)
  3. Good governance compliance with IRS “best practice” management procedures/policies.
  4. Conflict of interest situations.
  5. Did your organization get an audit or other financial statement service by a CPA firm?
  6. Governing board and related efforts and compensation?
  7. Executive and key management personnel compensation?
  8. Any lobbying conducted?
  9. Any foreign activities conducted?
  10. Any “unrelated business income tax” from revenue other than tax exempt activities?

How can your organization be best prepared for any such scrutiny?

When preparing your annual 990, approach it like a “public relations opportunity” – – tell your story in your own words as to how you accomplish your tax exempt purposes. Be pro-active with best practice tax compliance management-this sends a positive message to the public about your organization’s intent for compliance and controls.  Incomplete or inaccurate information may cause significant compliance problems or misinterpretation of the facts surrounding your organization.  If you don’t take a pro-active approach, you may be more vulnerable to a breakdown in organization controls, as well as risk potential damaging negative publicity from one or more of the users mentioned above, if they come knocking!

March 7, 2017

Compliance for Showing Appreciation to Volunteers

Jean-Smith-headshotVolunteers are a crucial part of most nonprofit organizations, and many program and fundraising activities would not get accomplished without them.  However, the Department of Labor does regularly raise a couple of issues that you should be well-versed in to ensure compliance:  employees who also volunteer, and payments/gifts to volunteers.

According to the Department of Labor, a volunteer is defined as someone who “donates their services, usually on a part-time basis, for public service, religious, or humanitarian objectives, not as employees and without contemplation of pay.”  In order to be considered “ordinary volunteerism” that is exempt from Fair Labor Standards Act and minimum wage requirements, the volunteer cannot be pressured to offer services freely or displace a regular employee.

So, what happens if you have an employee who wants to work “off the clock” to volunteer for a fundraising event or to help in program activities normally staffed by volunteers?  Although some organizations don’t allow this in order to clearly separate the two activities, it’s perfectly acceptable to allow employees to volunteer.  Just remember, that a good employee today could become a disgruntled employee tomorrow.  That individual may claim they were forced to volunteer and weren’t paid for the hours worked.  To avoid this potential issue, it’s always smart to follow a few best practices:

  • Have written job descriptions for employee positions and separate written volunteer agreements – Job descriptions should not include any duties that are normally done by volunteers, while volunteer agreements should specifically state that volunteer service is separate from employment status and includes no compensation.
  • Maintain separate manuals for personnel policies and volunteer policies – Consolidating the policies into one handbook blurs the lines between employees and volunteers. Employee volunteers should follow the appropriate policy based on the role they are performing at the time.
  • Ensure volunteer service is truly voluntary – Employees should not feel forced to volunteer at events and should be fully aware of the difference between employee and volunteer status.
  • Don’t ignore “off the clock” hours – If a nonexempt employee stays a couple extra hours to finish a project, but does not include that time on their timecard, you could be in violation of wage and hour laws. This time is part of their employee duties, and they should be paid for all hours worked.

The other situation to address is payments to volunteers.  Organizations like to show their appreciation by providing monetary or noncash “gifts” to their volunteer base. This helps build camaraderie and encourages them to return.  The risk to consider when “paying a volunteer” is that the payment is considered compensation and turns the volunteer into an employee or an independent contractor.  The organization will then be subject to all related employment laws – minimum wage requirements, payroll taxes, unemployment, retirement benefits, etc. that would apply to your regular employees (or 1099 reporting for an independent contractor).  So, what can you pay a volunteer?

  • Reimbursement of costs incurred – Volunteers who travel between sites or incur expenses for supplies can be reimbursed for these costs just as employees are. Receipts should be turned in and follow the normal control process in place at your organization.
  • De minimis fringe benefits – Although there is no specific dollar threshold, this includes items that are small enough to be administratively impractical to track. For example, meals provided while volunteering, a ticket to a community event, a small holiday gift, or a token shirt with the organization’s logo are great appreciation gifts that don’t violate any employment laws.  Note that cash and gift cards (regardless of how small) are never considered de minimis fringe benefits and are always taxable to the individual.
  • Nominal compensation – Although this will not affect volunteer status, the amounts are taxable to the individual. For example, schools often pay a small stipend to volunteer board members for board meeting attendance, and this amount is reported as wages on Form W-2.  As with de minimis fringe benefits, no bright-line test exists to determine what is nominal, so judgment must be used.  If you exceed amounts that are reasonably considered to be nominal, you may have just turned your volunteer into an employee.

Your volunteer base is incredibly important to the ongoing success of your organization.  Be sure to brush up on the rules so you are not in danger of crossing the line between employee and volunteer status.  Contact any of our tax-exempt specialists if you have additional questions.

 

December 12, 2016

Raffles

Jean-Smith-headshotRaffles are generally an easy way for a nonprofit organization to quickly and painlessly earn funds to support operations or a specific program activity.  Many organizations are unaware that IRS, state, and local regulations may apply to their raffle activities – this makes what is seemingly a simple activity a bit more complicated!

IRS Regulations

Raffles are generally considered to be gaming activities.  If donors pay a minimum amount to enter the drawing and the potential prize is worth more than a nominal value, the resulting income is gaming.  Gaming activities must be reported separately on the Form 990, and will require additional information on Schedule G if the proceeds exceed $15,000.  In addition, the income may be subject to unrelated business income tax.  This can be avoided if any of the following apply:

  • The gaming activity is conducted by unpaid volunteers
  • The activity qualifies as bingo (special rules apply – contact your tax advisor)
  • Gaming is substantially related to your exempt social and recreational purpose (e.g. the Loyal Order of Water Buffalos offers raffles to its members at its regular weekly meetings as a recreational activity)
  • The activity is not regularly carried on (e.g. an annual fundraising event that does not involve significant planning or promotion during a large portion of the year)

In addition, if the raffle prize is $600 or more (as reduced by the ticket price) and the payout is at least 300 times the amount of the ticket, nonprofits must file Form W-2G to report the gambling winnings.  Form W-2G must be issued to the prize winner by January 31st and filed with the IRS via Form 1096 by February 28th (March 31st if filing electronically). Regular gambling withholding of 25% also applies to winnings of more than $5,000.  These funds must be reported and sent to the IRS via Form 945 by January 31st.

State Regulations

South Dakota state law prohibits games of chance unless a specific exemption is granted (e.g. Deadwood gaming and state lottery tickets) or the event is held for charitable purposes.  Any organization conducting a raffle with the expectation of selling tickets statewide, must send written notice to the Secretary of State before selling any tickets. No specific format is required, but we recommend including all relevant details of the raffle and its charitable purpose.  The written notice can be mailed or faxed to the Secretary of State, ATTN: Raffles.  Failing to follow this procedure is considered a Class 2 misdemeanor.  Live and silent auctions do not fall under these rules.

Local Regulations

South Dakota state law also requires that all organizations provide 30 days written notice to the county or municipality in which the raffle will be conducted.  As such, your organization will need to check the local regulations pertaining to raffles.  The City of Rapid City governs raffles via Ordinance No. 5950, which designates the City Attorney as the administrative official reviewing all raffle requests.  The written notice must include the following items:

  • Full legal name of the organization, along with place and date of incorporation
  • Authority of person applying on behalf of the organization (e.g. Board President)
  • Class of exemption describing the organization (e.g. charitable)
  • Description of the educational, charitable, patriotic, religious, or other public spirited uses for which the proceeds will be used
  • Place, date and time raffle will be held
  • Amount of compensation being paid in connection with raffle
  • Itemization of intended prizes, value, and manner and time of award
  • Signed affidavit certifying the proceeds will not be used for the private benefit of any individual and that no separate organization or professional person is employed to conduct the raffle

The City Attorney is required to object to the request within 15 days of the written notice.  If no objection is received, the request is deemed granted.

Summary

Don’t let these rules scare you!  Despite the regulations, raffles are still a great way to raise money for your organization.  Call any of our tax-exempt specialists at 342-5630 for more information.

September 14, 2016

Nonprofit Financial Statement Changes Coming

Jean-Smith-headshotThe Financial Accounting Standards Board (FASB) has been working on a project to provide nonprofit financial statement users with more useful information.  Phase one of the project was recently completed, and the FASB issued a new accounting standard that details the changes.  The standard will be effective for fiscal years beginning after December 15, 2017.  Watch for future newsletter articles with all the details.  In the meantime, read on for a summary of the changes.

  • Net asset classifications are reduced from three (unrestricted, temporarily restricted, and permanently restricted) to two (with donor restrictions and without donor restrictions).
  • Investment expenses should be net against investment income (i.e. the option to show investment expense as part of functional expenses is eliminated). The dollar amount of the investment expenses no longer needs to be disclosed.
  • Use of the direct method in the statement of cash flows no longer requires reconciliation with the indirect method of calculating cash flows from operating activities.
  • Unless donors explicitly instruct otherwise, contributions restricted for the purchase of fixed assets will be released from restriction when the asset is placed in service. The option to release those contributions over the estimated useful life of the asset has been eliminated.
  • Amounts by which endowment funds are “underwater” will now be reported in “net assets with restrictions” rather than as unrestricted net assets under the current accounting rules.
  • Expenses must be reported by both natural and functional classification in one location (even if the nonprofit is not a voluntary health and welfare organization).
  • Qualitative and quantitative disclosures regarding the nonprofit’s liquidity and how liquidity is managed will be required.
  • Several enhanced disclosure requirements are also included in the new standard.
September 14, 2016