Nonprofit (“NFP”) Organizations, are you ready? NFP organizations are about to be hit with some big changes to financial statement reporting and it may require some additional work for many organizations.

Over the past year, we have been notifying organizations of these changes, and the time for implementation is now. Effective for periods beginning after December 15, 2017, FASB Accounting Standards Update (ASU) 2016-14 was created to simplify net assets and improve disclosures on liquidity, financial performance and cash flows. The purpose is to make NFP financials more comparable to others in the same industries and to present the financial information in a way that is more useful to its readers. There are six key areas affected by these changes:

1. Net Asset Classification

The presentation on the face of the financial statements will now go from three net asset classes down to two classes. Essentially, this means that temporarily and permanently restricted net assets are combined into one category, net assets with donor restrictions.

a. Old Standard:

                                i. Unrestricted net assets

                               ii. Temporarily restricted net assets

                              iii. Permanently restricted net assets

b. New Standard:

                              iv. Net assets without donor restrictions

                               v. Net assets with donor restrictions

Although this simplifies the face of the financial statements, further footnote disclosures are required to show what makes up each net asset class. This means organizations will still need to keep track of all net assets with donor restrictions, and make sure the purpose or time restrictions were met before funds are released for spending.

If the organization has board designated funds, a description of why the funds are designated and how the funding is being spent is also required. Organizations should start preparing these descriptions for the footnote disclosures, and have them ready when your auditors arrive.

2. Functional Expenses

Most organizations already include a Statement of Functional Expenses in their financial statements even though it was previously only required for voluntary health and welfare organizations. However, with the new standard, all NFP organizations are required to include this statement in addition to an analysis of expenses disclosing the methods used in allocating expenses among the functional areas.

If the methods of allocation are not already analyzed, organizations should start looking at each expense category and determine what methods are appropriate to allocate costs. For example, an organization may use the square footage of their building to allocate rent to each functional area. There should be supporting documentation on the methods used, as this area will be tested in more detail during the audit.

3. Liquidity

Before the new standard, it was very difficult for readers of NFP financial statements to easily determine the liquidity of a NFP organization. Therefore the FASB included in the new standard, a disclosure requirement to show how much of the organization’s resources are available to meet general expenditures for the next year. Organizations must then disclose both qualitative and quantitative information on how excess cash is used, and disclose any additional resources the organization has to cover expenses.

Prior to your audit, organizations should start thinking about this liquidity plan and have a description of the plan ready when the auditors arrive. 

4. Endowments

The FASB has also changed the way underwater endowments are accounted for and disclosed in the financial statements. What are underwater endowments? An endowment is considered underwater when the fair value of the endowment is less than either the original gift or the amount required to be maintained by the donor or by law. According to the new standard, underwater endowments are shown in net assets with donor restrictions on the face of the financial statements, and further disclosures are required to show how the underwater endowments were calculated, including the fair value of the endowment, and the original gift or restricted amount to be maintained.

5.  Investment Return

Previously, investment expenses that were netted against investment return needed a separate disclosure stating the expenses have been netted. This disclosure is no longer a requirement under the new standard. In addition, NFP organizations are no longer required to disclose investment income (interest and dividends) separately from net appreciation or depreciation of investments. Also, the composition of investment return is no longer required, and a reconciliation of investment return to amounts reported in the statement of activities are no longer required.

6.  Cash Flows

NFP organizations continue to have the choice of using the direct or indirect method of cash flows, however if the direct method is used, the indirect reconciliation is no longer required to be disclosed.