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.
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.
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.
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.