A New Look for Nonprofits
It has been more than two decades since the Financial Accounting Standards Board (FASB) has significantly overhauled the financial statement presentation of nonprofit organizations.
First and foremost, it is important to understand that most of the changes included in Accounting Standards Update (ASU) 2016-14, Not-for-Profit Entities, Topic 958: Presentation of Financial Statements of Not-for-Profit Entities, do not significantly impact the fundamental accounting utilized by nonprofits to prepare their financial statements; rather, most of the changes impact how nonprofit financial statements are being presented to the financial statement user. The proposed presentation changes included in ASU 2016-14 are extensive, so this article is only designed to highlight the most significant changes, organized by financial statement component.
The most significant presentation changes impact the reporting of net assets. Currently, net assets are required to be categorized into three classes: unrestricted (meaning without donor restrictions); temporarily restricted (meaning with donor restrictions that expire once a purpose is accomplished, or with the passage of time), and permanently restricted (meaning with donor restrictions that do not expire, i.e., an endowment fund). For the purpose of presenting net assets and the change in net assets in the financial statements, the new guidance retitles unrestricted net assets as net assets without donor restriction, and collapses and retitles temporary and permanently restricted net assets as net assets with donor restriction. An extensive endowment footnote disclosure remains, but the underwater portion of endowment funds that is currently classified as unrestricted (or without donor restriction) will have to be classified as with donor restriction. Further, donor restrictions on donated long-lived assets will be required to be released when the asset is placed in service (in the past, you could also release the donor restriction over the life of the asset to match depreciation expense). Finally, net asset footnote disclosures are being enhanced to include additional information about board-designated net assets; net assets with donor restrictions; and underwater endowment funds, including a board spending policy and the aggregate gift, fair value and spending amounts for the reporting period.
In the past, investment income and expenses could be reported either separately or net of one another in the financial statements. Under the new guidance, investment income must be reported net of any external and direct internal investment expense. Further, netted investment expenses no longer need to be disclosed in the financial statements.
All nonprofit entities will be required to present expenses by nature and function in one location in the financial statements, either as a separate statement (already presented as a supplemental schedule by many nonprofits) or as a disclosure. Further, the new guidance also requires enhanced disclosures for cost allocation methods and clarification on management and general activities.
Statement of Cash Flows
There were preliminary deliberations by FASB’s nonprofit task force about requiring the direct method of presenting operating cash flows on the statement of cash flows, but in the end, both the direct and the indirect methods are sill permitted; the new guidance only eliminates the indirect reconciliation requirement if the direct method is elected.
Under the existing nonprofit financial reporting model, there is a lack of information about the liquidity of nonprofit’s financial assets, as well as a disconnect regarding how donor and board restrictions on financial assets impact a nonprofit’s operational liquidity. Under the new guidance, FASB tries to address this issue by requiring nonprofits to disclose their policy for managing liquid financial assets to satisfy short-term cash requirements. In addition, nonprofits will be required to disclose quantitative information about the availability of financial assets to meet short-term (within one year) operating cash needs (an assessment of the availability of financial assets must consider both their nature and any donor and board-designated restrictions).
Operating Measure Disclosures
Many nonprofits choose to make a distinction between operating and nonoperating activities on the statement of activities. In the past year, FASB has commented on inconsistencies noted across nonprofits in defining a measure of operations. As such, the new guidance includes enhanced disclosures about operating measures.
Effective Date and Transition
So when must we all be prepared to make the transition to this new guidance? For most nonprofit organizations, the new guidance will be effective for financial statements for the fiscal year ending December 31, 2018, with early adoption permitted. The transition will be retrospective if comparative financial statements are presented, but in the year of adoption, the analysis of expenses by both functional and natural classification and disclosures about liquidity and availability of resources can be for a single year.