The Financial Accounting Standards Board (FASB) issued Accounting Standards Update 2016-14 (ASU 2016-14) in August 2016. It changed how a nonprofit prepares its financial statements and how people view the nonprofit’s financial health through its financial statements. The changes went into effect for fiscal years beginning after December 2017. Nonprofits with a fiscal year that follows the calendar year should have applied the changes in 2018. Nonprofits with any other fiscal year need to prepare to incorporate these changes now.
It mostly impacts nonprofits that are required to submit audited financials; however, the changes may be useful to all nonprofits. Please note that noncompliance can be costly. Smaller nonprofits that do not have audited financial statements can begin to implement these changes as a best practice.
1. Net Asset Classifications
Donors sometimes restrict the purpose of their funds or when to use the funds. The new standards have two categories of net assets:
- Net assets with donor restrictions – the organization must disclose liquidity and availability of funds, or more simply, when and how to use funds.
- Net assets without donor restrictions.
This new, simple classification replaces the confusion of three net asset classes currently recognized: Restricted, Unrestricted and Temporarily Restricted Net Assets.
Other Net Asset Considerations:
- Quasi-Endowments: There is a new requirement to disclose the amount and purpose of all board-designated funds. Disclosure can be on the face of the balance sheet or in the notes. So, if a nonprofit has a Liquidity Reserve Fund, you would need to disclose something like, “The nonprofit has $X of funds designated by the board for emergencies.” The board can change the designation of funds at any time, and so those assets are shown in financial statements as “without restriction.”
- Underwater Endowments: Donor-funded endowments must be reported as net assets with donor restrictions on the Statement of Financial Positions. When the endowment’s value is less than at the time of original funding, it is said to be “underwater.” Under this new standard, an organization with an underwater endowment must report the current FV (Fair Value) of the endowment fund, the original gift amount, and the amount of any deficiency.
- Donations of Property and Equipment: Previously, releasing any donor restriction on donated property and equipment was done over the estimated useful life of the asset. Under the new accounting standards, donor restrictions should be released when the assets are placed in service (unless otherwise stipulated by the donor).
2. Transparency and Utility of Liquidity
The new rules require nonprofits to explain in the Statement of Financial Position quite specifically – with numbers and with a narrative – their liquid assets available to meet the nonprofit’s cash needs within the year. These changes are intended to make it easier to see, by looking at a nonprofit’s financial statements, if there are liquidity issues. In other words, does a nonprofit have the ability to pay its bills, or are the funds earmarked for other things? There are two requirements:
- The first is to disclose how a nonprofit manages its liquidity risks. That means explaining what the nonprofit does to make sure it has money to cover its ongoing operating expenses. Does it have a cash reserve? How about a line of credit? If there is a cash flow crunch, what does the nonprofit have in place to make sure it can pay the bills?
- Second, the new standards require the nonprofit to show the number of financial assets available for general expenditures within one year of the balance sheet date.
3. Expenses Classified by Function and Nature
The organization must disclose the method used to allocate costs between programs and support functions. Most nonprofits already allocate expenses this way on the IRS Form 990. Now all nonprofits will have to show expenses by function (e.g., program activities, management & general, fundraising); and by natural classification (e.g., salaries, rent, consultants). Disclose allocation method on the face of the statement of activities, in a statement of functional expenses, or the notes. The practical implication is that bookkeepers may need to change the way they track expenses to align with the requirements of the new standards more closely.
4. Statement of Cash Flows
When using the direct method of reporting, the new standard eliminates the requirement to show indirect reconciliation from the change in net assets. Amounts typically classified as ‘restricted cash’ and ‘restricted cash equivalents’ will be included with cash and cash equivalents when reconciling the total cash amounts, i.e., beginning of period cash and end of the period cash.
- The new FASB standards: Update 2016-14 Not For Profit Entities (Topic 958) – Presentation of Financial Statements of Not for profit entities
- Understanding the new FASB accounting standards – An Overview (National Council of Nonprofits)
- Important Changes in FASB
- New FASB Nonprofit Accounting Standards
- ASU Changes Underwater Endowments