The major changes really revolve around the net asset classification, At present, there are three net asset classes, which are unrestricted, temporarily restricted and permanently restricted. The new FASB standard will just have two classifications: unrestricted and donor-restricted. That will hopefully make things more evident and remove some of the confusion that exists today.
The accounting standards update also changes how underwater donor-restricted endowment funds are treated. To the extent that an organization has underwater endowment funds, now those are reflected in the unrestricted category, The board decided to maintain those underwater amounts within the donor-restricted fund class. That’s a change that people need to be aware of.
The new accounting standards update will also increase the information available about liquidity and the availability of resources. The ASU requires a not-for-profit to provide certain qualitative information as to how it manages its liquidity, and then also requires some quantitative information, and that talks about the availability of a not-for-profit’s financial assets, as to the balance sheet dates to meet cash needs for the next year, it requires a reconciliation that shows any limits that were imposed by the donors or by law, as well as any internal limits, such as those that have been designated by the governing board.
The new standard also now requires financial statements for not-for-profits to provide expenses both by nature and function, as well as an analysis of those expenses by both nature and function, along with disclosure of the methods used to allocate those costs among the various functions.
FASB also standardizing how organizations present investment returns and what expenses should be netted against those returns, which eliminates some of the flexibility that currently exists and the differences that currently exist. Finally, it allows a not-for-profit to elect the direct cash flow method without imposing on it the need to have a reconciliation that is currently required for those people that use the direct cash flow method. We hope the removal of that reconciliation will incent people to use the direct method of cash flows.
The update requires not-for-profits and their accountants to improve their presentation and disclosures to provide more relevant information about their resources (and the changes in those resources) to their donors, grantors, creditors and other users. There are qualitative and quantitative requirements in a number of areas, including net asset classes, investment return, expenses, liquidity and availability of resources, and presentation of operating cash flows.
The new guidance simplifies and improves the face of the financial statements and enhances the disclosures in the notes—which will enable not-for-profits to better communicate their financial performance and condition to their stakeholders while also reducing certain costs and complexities in preparing their financial statements.
This is the “biggest change to nonprofit financial reporting in more than 20 years. Not for Profit organizations should get ready for the changes. This is an opportunity for nonprofits to be catalysts for progress, taking their financial statements to a higher level and making them a better resource for communicating accomplishments and outcomes to stakeholders instead of using financial statements as just a vehicle to report history.
The standard released will affect a wide range of not-for-profit organizations, including charities, foundations, colleges and universities, health care providers, religious organizations, trade associations, cultural institutions and others.It will affect any not-for-profit that currently has temporarily restricted, permanently restricted and unrestricted funds, It will also impact all of them from the standpoint of the liquidity disclosures. While many companies currently present the analysis of expenses by function and nature in their Form 990, this brings forth that requirement into the GAAP financial statements, so this will impact basically the body of not-for-profits.”
Get Ready Early
The changes in the standard are effective for annual financial statements issued for fiscal years beginning after Dec. 15, 2017, and for interim periods within fiscal years beginning after Dec. 15, 2018. FASB is allowing application of the amendments to interim financial statements but they are not required in the first year of applying the new standard. Early application of the amendments in the accounting standards update is also allowed.
It's a good idea to adopt the changes early. Organizations should strongly consider acting early on the new guidance. The upcoming revenue recognition, lease accounting, and financial reporting standard update deadlines could make for a challenging trifecta of accounting changes for nonprofits.
Accountants should work closely with their clients to prepare them for the upcoming changes. “I think they are going to need to work with their clients to make sure they have good methodologies for the allocation of expenses by function, I also think they will need to work with their clients in terms of evaluating how an entity needs to structure its liquidity disclosures and what type of information it needs to have available for assessing the availability of cash flows and the types of limits that might be imposed by either donors, laws or their own governing body. In terms of going from the three classes to the two classes, I don’t think that’s anything that should be particularly difficult to accomplish.”
The new standards promise to provide better transparency for donors and members of nonprofit boards of trustees to help them understand the financial statements better.
I truly believe this is a marked improvement in terms of how the net assets are presented. It’s more understandable, more intuitive, and the liquidity disclosures and the availability of resources over the next 12 months are a major improvement in the disclosures over what is currently required, which is not a heck of a lot of information. It’s a dramatic improvement in what’s being displayed, and quite frankly I believe improvement will not cost a lot. I think while there are some costs, particularly perhaps in the first year, I don’t think the costs are all that insurmountable. Therefore, it’s a good improvement in financial reporting for not-for-profits.
Communicating the Changes
Nonprofits will need to make sure they tell their main constituents about the changes to their financial statements. Organizations’ ability to effectively communicate these changes to their key stakeholders will be key during adoption, While the ASU provides nonprofits with more options for presenting their results, it may prove to be a test of how well they can educate readers of their financial statements on what has changed and why.
These changes offer nonprofits more options for presenting and reporting important financial information, however, each organization will need to determine which options best fit their specific needs and the needs of their stakeholders.
Source: Accounting Today