The Financial Accounting Standards Board (FASB) revised the not-for-profit reporting model in its Accounting Standards Update (ASU) 2016-14, released in August 2016. ASU 2016-14 is effective for fiscal years beginning after Dec. 15, 2017.
The most significant provisions of the update address four areas: classification of net assets, liquidity disclosures, functional expenses, and the classification and disclosure of underwater endowments.
Net assets are required to be classified into two categories: net assets with donor restrictions and net assets without donor restrictions. Presentation of the totals of the two classes is required on the face of the statement of financial position, and the change in the classes is required to be presented in the statement of activities. The effect of this change is that the current temporarily and permanently restricted net asset classifications are combined into one category: net assets with donor restrictions. The goal of the reduction to two classes is to reduce complexity.
Liquidity disclosures include qualitative and quantitative information that communicates liquid resources available to meet cash needs for general expenditures within one year of the balance sheet date. The quantitative information can appear either on the face of the financial statements or in the notes. Organizations that prepare a classified statement of financial position will already have some of the quantitative information available.
Not-for-profits will want to ensure that they capture all liquid resources for disclosure. Potential sources in addition to cash include investments convertible to cash within the next 12 months, investments that are neither donor or board restricted, payments from split-interest agreements, and payouts based on the expenditure policy of restricted endowments. Additionally, the liquid resources of funds could include available lines of credit or access to funds via a supporting organization. The availability of a financial asset or resource may be affected by its nature; external limits imposed by donors, grantors, laws, and contracts with others; and internal limits imposed by governing board decisions.
Expenses will need to be presented by both natural classification and functional classification. This analysis is to be provided in one location, which could be on the face of the statement of activities, as a separate statement, or in the notes.
Disclosures required for underwater endowment funds include the following: a not-for-profit’s policy concerning underwater endowments, and any actions taken during the period, concerning appropriation from underwater endowment funds; the aggregate fair value of such funds; the aggregate of the original gift amounts (or level required by donor or law) to be maintained; and the aggregate amount by which funds are underwater (deficiencies), which are to be classified as part of net assets with donor restrictions. Pennsylvania not-for-profits should consult Commonwealth of Pennsylvania Act 141 concerning requirements on endowments. Other states follow the Uniform Prudent Management of Institutional Funds Act for guidance on investment decisions and endowment expenditures.
ASU 2016-14 also requires the disclosure of the amounts and purpose of governing board designations, as well as the method used to allocate costs among program and support functions. Net presentation of investment expenses against investment return is required in the statement of activities, and the requirement to disclose the netted amount is eliminated. The update allows for the choice between the direct and indirect method of reporting operating cash flows. Presentation of the indirect reconciliation is no longer required if using the direct method.
In the absence of explicit donor stipulations, the placed-in-service approach for reporting expirations of restrictions on gifts of cash or other assets to be used to acquire or construct long-lived assets is required. The current option to release restrictions over the estimated useful life of the acquired asset is eliminated, but it was rarely used.
ASU 2016-14 should be applied on a retrospective basis. However, when preparing comparative statements, a not-for-profit can omit the reporting of expenses by both natural classification and functional classification if not required to present this information currently. Not-for-profits that previously were required to present a statement of functional expenses may present the comparative period information in any of the formats permitted in the update. In addition, disclosures about liquidity and availability of resources are not required for comparative years in the year of adoption. In the period of adoption, a not-for-profit should disclose the nature of any reclassification or restatement along with its effect on the change in net assets. Auditors should consider whether an emphasis-of-matter paragraph should be included in the auditor’s report in the year of adoption.
This is the first part of a two-part project. Phase two will reexamine existing standards for financial statement presentation of operating measures, alignment of certain line items in the statement of cash flows, and alternatives for segment reporting for health care entities. Phase two can be tracked on the FASB website.
Lisa A. Ritter, CPA, CFE, is a partner with Maher Duessel in Harrisburg. She can be reached at firstname.lastname@example.org.