Q & A with Rick Cole, Supervising Project Manager, FASB
Nonprofits need to be aware of changes to accounting standards issued by the Financial Accounting Standards Board (FASB) because those standards will play a significant role in how the nonprofit prepares its financial statements and how people view the nonprofit’s financial health through its financial statements.
WHY THESE NEW STANDARDS MATTER
The new accounting standards not only impact the look and contents of financial statements, but they also inform how nonprofits should be documenting donations, how boards of directors “read” financial statements, and how board members and others may understand a nonprofit’s cash flow. So, changes to FASB’s standards are not just academic exercises in accounting rules, but instead have very practical implications for how community members and others understand the financial health of charitable nonprofits.
Jennifer Chandler, Vice President at the National Council of Nonprofits, had the opportunity in March 2018 to visit with Rick Cole, Supervising Project Manager for the Financial Accounting Standards Board, about the impact of the new accounting standards on the financial statements of charitable nonprofits. What follows is a Q&A summary:
Nat’l Council of Nonprofits: When do the new standards apply?
Rick Cole: FASB issued an Accounting Standards Update in August 2016 that made these new accounting standards effective for fiscal years beginning after December 15, 2017. This means that nonprofits with a fiscal year that follows the calendar year need to be incorporating these changes into their financial statements now. Those that have a June 30 or other upcoming fiscal year-end need to be preparing to incorporate these changes for their next upcoming fiscal year. Even if your nonprofit’s fiscal year doesn’t begin until July 2018, or sometime later in the year, you can actually start applying some of these changes now. FASB wants to help nonprofits get comfortable with the most significant changes as soon as possible, which is why we hope this Q&A will help spread the word about some of the practical impacts of the changes.
Nat’l Council of Nonprofits: Can you tell us a little about the goals FASB is trying to achieve with some of the new standards?
Rick Cole: Yes. The new requirements are intended to allow nonprofits to more clearly show what funds have donor restrictions and which don’t. The new standards also try to make things transparent and easier to understand.
DONOR RESTRICTIONS: “CLASSIFICATION OF NET ASSETS”
Nat’l Council of Nonprofits: We are all familiar with the use in the past of potentially confusing terms such as “permanently restricted,” “temporarily restricted,” and “unrestricted.” Now there are just two classifications of net assets: those “with” and those “without donor restrictions.” Why the change now?
Rick Cole: The new terms are more intuitive. The net assets either do or do not have donor restrictions. For someone without a nonprofit background, the terms “unrestricted,” “temporarily restricted,” and “permanently restricted” were confusing. And under the old definitions, “unrestricted” could actually have had other legal restrictions on it. So, these two new categories, “with” and “without restriction,” help clear the air.
Nat’l Council of Nonprofits: Another type of restriction could be that a board of directors decides to place a restriction on assets that belong to the nonprofit. For instance, a board of directors may decide that it will set aside some money in mutual funds that it wants to invest and grow but have accessible to provide needed cash for the nonprofit in an emergency. What do the FASB rules tell us about how nonprofits should document such board-designated assets?
Rick Cole: There is a new requirement that all board-designated funds be disclosed both in connection with their amounts and their purposes. This can be on the face of the balance sheet or in the notes. So, if a nonprofit has a liquidity reserve fund like you just described, you would need to disclose something like, “The nonprofit has $X of funds designated by the board for emergencies.” That’s all.
Nat’l Council of Nonprofits: The new rules require nonprofits to explain in the balance sheet quite specifically—with numbers and with a narrative—the liquid assets that are available to meet the nonprofit’s cash needs within the year. What do nonprofits need to do to make sure their financial statements are in compliance with the new FASB rules about disclosing liquidity?
Rick Cole: 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 amount of financial assets available for general expenditures within one year of the balance sheet date. 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 the nonprofit really have the ability to pay its bills, or are the funds earmarked for other things?
PRESENTATION OF EXPENSES
Nat’l Council of Nonprofits: Now let’s look at changes to the way a nonprofit presents expenses, sometimes referred to as “functional expenses.” Most nonprofits have always had to allocate expenses on the IRS Form 990, but not necessarily on the nonprofit’s financial statements. What’s changed, and how will nonprofits comply with the requirement to classify expenses by function in their financial statements?
Rick Cole: Going forward all nonprofits will have to show expenses by function, by nature, and through an analysis of expenses by function (e.g., program activities, management & general, fundraising); and by natural classification (e.g., salaries, rent, consultants, etc.). These explanations must be provided in one location in the financial statements. Many nonprofits already do this. This can be accomplished on the face of the statement of activities, in a statement of functional expenses, or in the notes. We think most nonprofits will show the analysis of expenses in the notes. The practical implication is that bookkeepers may change the way they track expenses to more closely align with the requirements of the new standards.
Nat’l Council of Nonprofits: Thank you, Rick, for your insights.
There are also very practical implications of the new FASB standards, affecting such things as the presentation of investment expenses, and the option to use either the direct or indirect method of presenting cash flow. Resources on these and other details are shared below.
- 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)
- Is your nonprofit ready for FASB? Making the most of the storytelling potential of financials (Nonprofit Quarterly)
- Overview of FASB Changes that affect preparation of a nonprofit’s financial statements (webinar) (West Virginia Nonprofit Association)
- New Liquidity Disclosures for Not-For-Profits: Are You Ready? (American Institute of CPAs)
- Preparing for the One Big Change in Nonprofit Financial Reporting per FASB (Nonprofit Quarterly)
- FASB’s New Financial Reporting Rules for Nonprofits—What you need to know (National Council of Nonprofits)
- Functional Expense allocation for nonprofits after FASB ASU 2016-14 (Yeo & Yeo)
- Gift acceptance policies (National Council of Nonprofits)
- Operating reserves for nonprofits (National Council of Nonprofits)
- How to Read Nonprofit Financial Statements: A Practical Guide, 3rd Ed. (Lang, Eisig, Klumpp, and Ricciardella)
This post is reprinted with permission from the National Council of Nonprofits blog. Jennifer Chandler is vice president at National Council of Nonprofits. Her past service for charitable nonprofits includes being a legal advisor, board member, senior staff member, program volunteer, and grantmaker.