Not-for-Profit Entities

1. Chapter 19 Not-for-Profit Entities

2. Learning Objective 1 Understand financial reporting rules and make basic journal entries for private, not-for-profit entities.

3. Types of Not-for-Profit Organizations • Colleges and Universities • Health Care Organizations • Voluntary Health and Welfare Organizations • Certain (or “all other”) Not-for-profit Organizations

4. Excluded Entities • The following entities are not NPOs because they solely serve the economic interests of their owners, members, participants, or trust beneficiaries: • Credit unions and mutual banks • Employee benefit and pension plans • Mutual insurance companies • Farms and rural cooperatives • Trusts

5. Characteristics of NPOs • No outside ownership interest • A mission to provide services • To their users, patients, society as a whole, or members • But NOT at a profit • A dependence on significant levels of contributions • A significant level of assets that are restricted as to use because of donor stipulations • Tax-exempt status. IRS Form 990, 990A, or 990PF

6. Dependence on Contributions and Federal Funding • Not-for-profit religious, charitable, and educational groups receive roughly $40 billion annually in federal government grants.

7. Tax-Exempt Status • Advantages to Tax-Exempt Status for U.S. Income Tax Reporting Purposes (in most states): • No state income tax • No local property taxes • No sales taxes on purchases

8. Tax-Exempt Status • Private NPOs are exempt from U.S. income taxes if the NPO: • Serves some common good. • Does not make an accounting profit. • Does not primarily benefit its own executives. • Does not function for political purposes.

9. Tax-Exempt Status • IRS Audits of Tax-Exempt Groups: • Annually, the IRS audits approximately 11,000 of the 1.2 million tax-exempt groups. • The IRS assesses taxes & penalties of over $100 million per year. • Such taxes are on business-related income (which is taxable at the highest corporate rate).

10. Differences between NPOs and Businesses • Revenues and support are often compared to expenses. However, remember that • Expenses are incurred to provide services (rather than to generate revenues as in commercial accounting). • The purpose of NPOs is not to maximize return on an ownership interest. ROE = Not Applicable

11. The Reporting Model: Private NPOs • The reporting model • Focuses on the flow of all economic resources • Uses the accrual basis of accounting • Recognizes depreciation expense in the operating statement • The use of this reporting modelreveals • The improvement or deterioration in the NPO’s financial condition for the period and • Is similar to the model used in the commercial sector

12. Who Makes the Rules for Not-for-Profits Entities? The accounting and financial reporting for governmental not-for-profit entities GASB Accounting and financial reporting for nongovernmental not-for-profit entities FASB

13. Financial Reporting for Private,Not-for-Profit Entities • Private, not-for-profit entities must report their net assets in accordance with FAC 6. • FAC 6 specifies three mutually exclusive classes of net assets: • Unrestricted net assets • Temporarily restricted net assets • Permanently restricted net assets

14. Financial Reporting for Private,Not-for-Profit Entities • Important FASB Standards • SFAS 93 guides depreciation • SFAS 116 guides accounting for contributions • SFAS 117 establishes financial display requirements • SFAS 124 establishes the accounting for investments • SFAS 136 guides the accounting for transfers of assets to a not-for-profit organization that raises or holds contributions for others

15. Financial Reporting for Private,Not-for-Profit Entities • Some not-for-profit entities use a fund structure to account for each type of net asset class. • Other not-for-profit entities maintain only an accounting record to show the amounts in each net asset class. • The specific identification of any restricted asset must be made when the asset comes into the entity, generally by donation or bequest.

16. Financial Reporting for Private,Not-for-Profit Entities • Mergers and acquisitions—Exposure drafts • The proposed standards • Require the recognition of identifiable assets acquired and liabilities assumed at their fair values at the date of the acquisition • Require that intangible assets other than goodwill and goodwill be assigned to reporting units that are acquired • Approaches to evaluating goodwill impairment • Qualitative Evaluation Method • Fair-Value-Based Evaluation

17. Contributions: Scope of FAS 116 • FAS 116, “Accounting for Contributions” applies to ALL 4 types of Private NPOs. FASB 116 Health Care Organizations Colleges and Universities Voluntary Health and Welfare Organizations Certain Other NPOs

18. Contributions: Defined • Contribution • An unconditional (no strings attached) transfer of • Cash or • Other Assets • In a voluntary, nonreciprocal transfer. • By a person or entity acting other than as an owner of the NPO Examples of Other Assets: Equipment, vehicles, land, and promises of cash.

19. Contributions: “Promises, Promises” • “Unconditional transfers” include “unconditional promises” to give cash or other assets in the future. • Promises may be • Oral or • Written • Unconditional promises result in reporting “Contributions Receivable” in the balance sheet (subject to an allowance for uncollectibles).

20. Contributions: Recognizing Unconditional Promises • Recognizing unconditional promises in the financial statements requires • having sufficient evidence • in the form of verifiable documentation • that a promise was made

21. Contributions: “Conditional” Promises to Give • Conditional promises • The conceptual opposite of unconditional promises to give • Not contributions (as defined by FAS 116) • Depend on the occurrence of a specified future and uncertain event that • Must occur to bind the promissor and • Thus transform the promise from conditional to unconditional status.

22. Contributions: “Conditional” Promises That May Be Deemed “Unconditional” • A conditional promise may be deemed unconditional if: • “The possibility that the future event will not be met [occur] is remote.” Event not likely to occur = Conditional Event likely to occur = Unconditional

23. Contributions: “Conditional” Use of Assets Received • If assets have been received and the retention and use of such assets is conditional upon a future event that is not likely to occur, • The offsetting credit is to a Refundable Advance account (a liability) • Until the conditional event occurs.

24. Contributions: Manner of Reporting By Category • Contributions are reported in the Statement of Activities (the operating statement)by category • Unrestricted • Temporarily restricted • Permanently restricted

25. Contributions: Manner of Reporting By Category • Donor-restricted contributions whose conditions are fulfilled in the same period in which the contribution is recognized • May be reported in the unrestricted category of the operating statement (O/S) if the entity: • Consistently follows this policy and • Discloses this policy. Note: This option negates the need to show transfers between categories in the Operating Statement.

26. Contributions: Endowments • Endowments • A contribution that cannot be spent. • The unspendable amount is called the principal—it is invested in perpetuity. • Income on Endowments • Donor stipulations dictate the reporting classification (unrestricted, temporarily restricted or permanently restricted).

27. Contributions: Temporary Restrictions Contributed Assets that are restricted as to either or Purpose Time Period Temporarily Restricted Assets are classified as

28. Contributions: Expirations of Restrictions • Manner of Reporting Expirationsof Restrictions: • Where: In the statement of activities. • How: As a separate line item reclassification as shown below. • Temporarily • Unrestricted Restricted • Expirations of restrictions $77,000 $(77,000)

29. Contributions: Delayed Discussion of Additional Issues • The following issues • Are covered after we discuss FAS 117 “Financial Statements of Not-for-Profit Organizations” • So that you may more readily see the close interrelation-ship that exists between FAS 116 and FAS 117. • Valuation • Contributed services • Collection items

30. Financial Statements: Scope of FAS 117 • FAS 117, “Financial Statements of Not-for-profit Organizations” applies to ALL 4 types of Private NPOs. FASB 117 Health Care Organizations Colleges and Universities Voluntary Health and Welfare Organizations Certain Other NPOs

31. Financial Statements: FAS 117—The Basic Requirements • FAS 117 specifies: • What financial statements are to be presented. • What specific information, as a minimum, is to be shown.

32. Financial Statements: Which Financial Statements • FAS 117 requires for the NPO as a whole: • A Statement of Financial Position • A Statement of Activities • A Statement of Cash Flows. • VH&WOs must also report • In a separate statement • Expenses by Natural Classification in a matrix format.

33. Financial Statements: The Three Classifications of Net Assets • The three mandated classifications of net assets are: • Unrestricted. • Temporarily restricted. • Permanently restricted. • Note that these are the same three classifications used for reporting contributions.

34. Contributions: Additional Issues • Contributions of monetary and nonmonetary assets are valued at the fair value of the assets received. • Determining the fair value may require • Obtaining quoted market prices. • Using independent appraisals. • Using other appropriate methods.

35. Contributions: Additional Issues • Use of Present Value Procedures: • Can use for estimated future cash flows on unconditional promises to contribute that are expected to be collected over a period of longer than one year. • If used, subsequent recognition of the interest element is reported as contribution income—not as interest income.

36. Contributions: Additional Issues • Contributed Services • Recognize as revenues only if: • Nonfinancial assets are created or enhanced. • Specialized skills are provided by individuals possessing these skills (e.g., carpenters, electricians, plumbers, lawyers, CPAs). • Required Disclosures for Contributed Services: • A description of the nature and extent • The amounts recognized as revenues • The programs or activities in which the services were used

37. Contributions: Additional Issues • Contributed Services: • Recognizable contributed services are usually recorded as revenues at the fair value of the services contributed. • Allowed alternative valuation method for the creation or enhancement of nonfinancial assets: • May value at the fair value of • the asset created or • asset enhancement

38. Contributions: Additional Issues • “Collection items” (the exception): • Consist of contributed works of art, historical treasures, and similar assets. • Need not be recognized in the financial statements if three conditions are satisfied [how used, how cared for, and use of proceeds upon sale]. • Cannot be capitalized on a selective or arbitrary basis.

39. Practice Quiz Question #1 How do not-for-profit entities differ from for-profit businesses: a. Not for profit entities are prohibited from charging more than cost for goods or services provided while for-profit businesses may include a mark up. b. Both for-profit businesses and not-for-profit organizations are tax exempt. c. Not-for-profit entities rely heavily on contributions and grants while for-profit businesses rely on profitable operations for survival.

40. Learning Objective 2 Understand financial reporting rules and make basic journal entries for not-for-profit colleges and universities.

41. Colleges and Universities • Special conventions of revenue and expenditure recognition • Tuition and fee remissions/waivers and uncollectible accounts • The full amount of the standard rate for tuition and fees is recognized as revenue • Accounting for university-sponsored scholarships, fellowships, tuition and fee remissions or waivers depends on whether the recipient provides any services to the university

42. Colleges and Universities • Special conventions of revenue and expenditure recognition • Tuition and fee reimbursements for withdrawals from coursework • Accounted for as a reduction of revenue • Academic terms that span two fiscal periods • Accounted for as revenue in the fiscal year in which the term is predominantly conducted, along with all expenses incurred • NACUBO recommended the use of the accrual basis of accounting

43. Colleges and Universities • Board-designated funds • The board may designate unrestricted current fund resources for specific purposes. • FASB 117 specifies that these funds may not be reported as restricted net assets because only external, donor-imposed restrictions can result in restricted net assets.

44. Colleges and Universities • Public colleges and universities • Accounting and reporting is specified by the GASB. • GASB 35 requires that they follow the standards for governmental entities as specified in GASB 34. • Most public institutions will be special-purpose government entities engaged in only business-type activities. • These entities present only the financial statements required for enterprise funds and then are included as component units of the state government.

45. Colleges and Universities • Private colleges and universities • The FASB specifies the accounting and financial reporting standards. • The three financial statements required are: • The Statement of Financial Position • The Statement of Activities • The Statement of Cash Flows • They are free to select any account structure that best serves their management and financial reporting needs.

46. Colleges and Universities Overview of the Accounting and Reporting of Colleges and Universities

47. Colleges and Universities Overview of the Accounting and Reporting of Colleges and Universities

48. Practice Quiz Question #2 Which of the following statements accurately describes differences between the accounting public and private universities? Both public and private universities follow FASB rules. Both public and private universities follow GASB rules. Public universities follow GASB rules while private universities follow FASB rules. Public universities follow FASB rules while private universities follow GASB rules.

49. Learning Objective 3 Understand financial reporting rules and make basic journal entries for not-for-profit health care providers.

50. Health Care Providers • Hospital accounting • Investor-owned hospitals provide the same types of financial reports as commercial entities. • Not-for-profit hospitals present their financial results using a specific format required by the FASB. • Governmental hospitals follow the GASB’s accounting and reporting requirements and are considered special-purpose entities engaged in business-type activities.