For the first time in many years, not-for-profit (NFP) entities will be inundated with a series of new Accounting Standards Updates (ASU). These likely will require organizations to invest significant time and resources to understand and implement the required changes. For NFPs that have issued debt securities listed on an exchange, certain standards not only require expanded disclosures, but are effective one year earlier than for all other organizations.
This article series will explore expected struggles organizations may encounter when adopting each of these new standards and provide tips for successful implementation. The following table outlines the upcoming accounting pronouncements and effective dates for December 31 and June 30 year-ends.
The first article in this series will focus on ASU 2016-14: NFP Reporting Model.
The ASU aims to improve the usefulness of information provided to users of NFP financial statements by eliminating diversity in practice, enhancing financial performance comparability and increasing transparency around financial resource availability. The significant changes include:
- Reducing the net asset classification scheme from three classifications to two and classifying an underwater position in endowment funds within net assets with donor restrictions
- Requiring new qualitative and quantitative disclosures about liquidity and availability of resources to meet cash needs for general expenditures within one year of year-end
- Requiring all organizations to present expenses by both their natural and functional classifications
- Presenting investing revenues net of external and direct internal investment expenses
- Using the placed-in-service approach for recognizing restriction expirations on long-lived assets
- Enhancing disclosures about internal board designations and appropriations
Challenge 1 – New Liquidity Disclosure
Many NFPs don’t have formal liquidity management plans and, therefore, will need to develop the language to appropriately describe how the organization manages liquidity. In addition, identifying how much of an organization’s assets are truly available for general obligations is harder than it sounds. Most NFPs don’t identify restrictions on specific assets presented within the statement of financial position. On the surface, an NFP might appear to have large amounts of financial assets, when in reality it has little accessible liquidity due to restrictions. Amounts that generally would be excluded from the calculations include external limits imposed by donors, internal designations, laws and contracts with others.
Taking time to prepare the quantitative liquidity calculation at a recent reporting date can be a valuable exercise. This calculation can be used as a starting point for education and discussions about liquidity management with the finance committee. Depending on the effect on the NFP, some governing boards may want to consider removing designations for certain assets and/or adopting a formal liquidity management policy.
Challenge 2 – Expense Reporting
For organizations not currently required to present a statement of functional expenses, this exercise may be time-consuming and require input from various financial statement users. The ASU doesn’t prescribe a specific format or outline the required natural expense categories, so NFPs will need to make decisions regarding the best presentation for financial statement users. In addition, decisions will need to be made regarding how to allocate costs benefiting more than one function.
Determining the natural and functional expense categories most applicable to the NFP is the first step. The level of detail should be sufficient to provide meaningful information to the users without being overwhelming. Consideration also should be given to the methods used to allocate certain expenses across functions and whether changes need to be made to comply with the new standard. During this process, NFPs should solicit input from various stakeholders and financial statement users and also may want to review disclosures prepared by similar entities. Once a format is determined, organizations will need to determine efficient and effective methods for accumulating the necessary data to comply with the new expense reporting requirements.
Challenge 3 – New Terminology & Expanded Disclosures for Net Assets
While a streamlined net asset presentation is allowed on the face of the financial statements, the details within the footnote disclosures are significantly expanded and will most likely require additional time to accumulate. Temporarily and permanently restricted are no longer terms within generally accepted accounting principles; therefore, management will need to determine new categories and terminology that best describe how and when donor-restricted funds can be used. NFPs also will need to accumulate and disclose the amount and purposes of board-designated funds. To add an element of complexity, all net asset disclosures are required to be comparative, so prior-year presentation will most likely need to be revisited for consistency.
NFPs should take a deep dive into their restricted funds to assess whether the information is readily available to accumulate the purpose and time restrictions required to comply with the new disclosure. Determining how to disaggregate net assets with donor restrictions might be tricky. Possible categories include:
- Donor-restricted subject to expenditure for a specified purpose
- Donor-restricted subject to the passage of time
- Donor-restricted subject to appropriation and expenditures when a specified event occurs
- Endowments subject to spending policy and appropriation
- Endowments held in perpetuity
Board-designated disclosures may be presented in a narrative or tabular format. NFPs will want to take similar steps as noted above when accumulating information for these new disclosures. In addition, NFPs will now be required to disclose governing board policies or decisions to spend or not spend from underwater funds. Depending on the effect on the NFP, some governing boards may want to consider making changes to board-designated funds and/or policies for spending underwater endowments prior to adopting the new ASU.
Once the presentation format is established for both donor-restricted and board-designated funds, organizations will need to determine whether any changes need to be made to the net asset tracking system to easily accumulate the necessary disclosure information.
How BKD Can Help
For many NFPs, ASU adoption will result in substantial changes to financial reporting and disclosures that likely will require significant hours to correctly implement. With the final implementation date just around the corner, we encourage organizations to start planning for this transition now. BKD is here to help. We can assist by educating your team and governing board on the upcoming changes and what important decisions need to be made before adoption. In addition, we can help navigate the process for accumulating and preparing the newly required disclosures and schedules. Contact your trusted BKD advisor if you’d like assistance converting your organization’s financial statements to the new model and preparing the new disclosures.
Additional resources for your reference include:
Be sure to look for the next article in our series, which will cover revenue recognition.