ASU 2016-14: Implementation Tips for Foundations

As you’ve likely heard, ASU 2016-14, called Presentation of Financial Statements of Not-for-Profit Entities, was issued in August 2016 and is effective for fiscal years beginning after 12/15/17. The standard applies to all organizations, regardless of size. The ASU has changes in five key areas:

• Net asset classification
• Disclosures about liquidity and availability of financial assets
• Reporting expenses by function and nature
• Reporting investment returns, and
• The statement of cash flows

There has been much written about the changes themselves from an accounting perspective. But there are also many considerations from an operational and governance perspective in implementing them at your organization, everything from chart of accounts tweaks, to policy updates, to discussions with your board and committees.

With a focus on foundations, here are our top areas to be paying attention to with the new standard:

Under ASU 2016-14, the current three classes of net assets (unrestricted, temporarily restricted, and permanently restricted) will be reduced to two classes of nets assets (“net assets without donor restrictions” and “net assets with donor restrictions”). Many private foundations have only unrestricted net assets, so this change will be in terminology only. Community or university foundations may have donor restricted net assets. Those temporarily and permanently restricted net assets will now be reported together as “net assets with donor restrictions” on the face of the Statement of Financial Position. This change will not affect the internal accounting for such funds, as details about net assets with donor restrictions is required. The endowment footnote disclosure is still required under ASU 2016-14, and endowment funds are still subject to state laws such as UPMIFA.

Liquidity and Availability

While the liquidity and availability footnote may seem peculiar for a foundation with an abundance of investments, it’s still required. There are several ways to approach this disclosure. Since the Financial Accounting Standards Board (FASB) did not define what “general operating expenditures” means, there is some subjectivity as to what organizations might include in this footnote.

Take this opportunity to review how your organization manages its financial assets to ensure adequate liquidity and what obligations it has that will occur within the next year. For instance, private foundations have a minimum distribution requirement that might be included in “general operating expenditures.” Regarding the availability of financial assets, recall that “alternative investments” generally have limited liquidity and may require capital calls. This may be an opportune time to review and potentially update your investment, spending, and operating reserve policies.

Statement of Functional Expenses

The Statement of Functional Expenses may be new for your organization, which requires expenses by function and by nature to be shown together. While it can be done as a footnote, it still must include expenses by natural class and by function.

GAAP has provided guidance on specific expenses that are always considered management and general, because they benefit the organization as a whole. Under ASU 2016-14, there is authoritative guidance that more clearly defines these costs, so be sure you’re reporting them properly in the Statement of Functional Expense.

Take the opportunity to see how the information used for expenses on the IRS Form 990 was generated to ensure it will suffice. Also check if any netting practices will need to be revisited in both processes and accounting systems. For instance, external and direct internal investment expenses will now be reported net of return on investment (ROI). If your organization is a private foundation, it’s possible your organization hasn’t prepared or reported expenses by natural class and by function before. There will be differences between your Form 990-PF and your Statement of Functional Expense because investment expense details appear separately on the Form 990-PF, but external and direct internal investment expenses are netted against ROI for GAAP purposes. We recommend allowing extra time in talking with your tax professionals and external auditor to coordinate preparation of this expense information to minimize duplicate reporting efforts.

Investment Expense and Return on Investment (ROI)

External and direct internal investment expenses are now required to be reported net of ROI for all not-for-profits. Pay attention to how direct internal investment expenses are handled. This includes the compensation of specific staff who work on investment strategy, policy, and due diligence and may include some portion of related overhead expenses. You would not include compensation of individuals or activities for performing the regular accounting functions, such as monthly reconciliations and transferring funds, as direct internal investment expense. Also, the specific components of ROI are not required to be disclosed.

Any significant changes in how you net investment expenses could change your ROI for investment activity in accordance with GAAP. Be sure that any reports that are prepared separately for investment returns are aligned with accounting and the board, and that the appropriate committees have received advance notice of the change in GAAP. However, some of your internal management and board reports may reflect more detail to address the needs for decision making.

Statement of Cash Flows

Many foundations prepare their Statement of Cash Flows under the “indirect method” so there will be no change. Those organizations that use the “direct method” will no longer be required to supplement the Statement of Cash Flows with disclosure using the “indirect method” as well.

Grantmakers

Program staff and advisory committees at grantmaking organizations will need to become familiar with the changes in ASU 2016-14 to understand grantee financial statements. Finance staff can provide training to their colleagues on how these changes will provide more insights on financial strength. If you’re not comfortable with the training, ask your external audit team.

Take the time to also think through these changes from an operations perspective to ensure your people, processes, and technologies are ready to support the new financial reporting standard. From a governance perspective, ensure your board and appropriate committees have received the necessary overview of how the foundation’s statements will be changing. To be proactive, consider sharing a mocked-up version for those visual learners.

To read more on ASU 2016-14, check out our 10-part series starting with this article.

For questions on how the standard applies at your foundation or operational practices to review, contact Deby MacLeod and Cheryl Olson.