On August 18, 2016, the FASB issued Accounting Standards Update (ASU) No. 2016-14 “Not-for-Profit Entities (Topic 958): Presentation of Financial Statements of Not-for-Profit Entities.” ASU 2016-14 requires a number of changes to the financial statements of NFPs. These changes will be effective for fiscal years beginning on or after December 15, 2017.
This article is the sixth in a series discussing the changes required by ASU 2016-14. In this article, we discuss additional information all organizations will need to provide regarding their expenses.
Not-for-profit organizations (NFPs) have specific requirements on how expenses must be reported in their financial statements. U.S. GAAP requires that NFPs present their expenses by functional categories. The functional categories required by U.S. GAAP to be presented, to the extent the NFP has applicable expenses, are:
- Program services
- Management and general
- Membership development
An NFP must report the totals for each of these functional categories either on the face of the statement of activities or in a note disclosure.
Additionally, NFPs that are designated voluntary health and welfare organizations are required to present a statement of functional expenses. A voluntary health and welfare organization is defined by GAAP generally as those NFPs that focus on health and welfare activities and are primarily funded by voluntary contributions from the general public.
The statement of functional expenses presents all expenses by function and by nature in a matrix format. Typically, the statement presents natural expense categories (salaries, supplies, occupancy, etc.) in rows and presents the functional categories in columns.
What is Changing?
The FASB noted that one of its goals with this ASU is to improve information NFPs provide about their expenses. To accomplish that goal, the FASB is increasing the amount of detail NFPs must report about their expenses. NFPs will continue to be required to report their expenses by functional category, as described in the Background section above; however, the FASB is adding a new requirement for all NFPs to also disaggregate the functional categories of expenses by natural categories.
To meet this new requirement from the FASB, NFPs have options on how to present expenses by function and nature. One option is to present a statement of functional expenses – an example of such is shown below:
If an NFP uses this option, the statement of functional expenses should be presented along with the other financial statements (balance sheet, statement of activities, and statement of cash flows) before the footnotes.
A second option is to present a functional/natural matrix-type format as a note disclosure. It’s effectively the same information as the statement of functional expense (as the example above), but, instead of presenting it as a separate financial statement, it is included in the footnotes.
A third and final option is to present the functional categories of expenses disaggregated by natural category on the statement of activities. An example of this option is shown below (note that only the expense section of the statement of activities is presented in the example for brevity):
It is important to note that this new required presentation of expenses by function and nature applies to all expenses. Some NFPs net certain expenses against related revenues on the statement of activities, such as the costs of special fundraising events. The functional/natural expense presentation will need to include all expenses, including those netted against revenues. The only exception to this requirement is investment expenses, which are to be netted against investment income and are excluded from inclusion in the functional/natural expense reporting.
It is also important to note that the FASB has removed the requirement for voluntary health and welfare organizations to present a statement of functional expenses. That class of NFPs may use one of the three options described above.
What Else is Changing?
The FASB is also requiring all NFPs disclose in the footnotes, a description of the methods used to allocate expenses among the functional categories. An example of such a disclosure is shown below:
Note X – Methods Used for Allocation of Expenses
The financial statements report certain categories of expenses that are attributable to one or more program or supporting functions of the Organization. Those expenses include depreciation, the CEO’s office, communications department, and information technology department. Depreciation is allocated based on a square footage basis, the CEO’s office is allocated based on a time and cost study of where efforts are made, certain costs of the communications department are allocated based on the benefit received, and the information technology department is allocated based on a cost study of specific technology utilized.
The disclosure should be brief and focus on the more significant categories of natural expenses that are allocated amongst the program, management and general, fundraising, and/or membership development functional categories.
Want to Learn More?
This article focuses on one of the key changes required by ASU 2016-14. In future articles we will discuss other key changes in more detail along with practical guidance on implementation issues. In the meantime, please contact your Clark Nuber service team or Andrew Prather if you would like to discuss how these changes will impact your NFPs financial statements.
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