NFPs Desperately Need a Separate Set of Accounting Rules and Financial Reporting Requirements!

Gerald Archibald

Download Listen Contact Me

Tags: Accounting firm CPA firm Auditing services

“All professions are conspiracies against the laity.” George Bernard Shaw

Please! Let me apologize in advance for what you’re about to read. You see, I recently attended a conference on non-profit accounting, tax and financial reporting developments. I left the conference feeling as though I had just witnessed another episode of “Accountants Gone Wild”. Let me be clear. There was no nudity! However, what was discussed left me with the feeling that my expectations of reason and logic had been violated.

You see, the accounting and financial reporting rule makers, led by the Financial Accounting Standards Board (FASB) continue to issue a myriad of complicated new rules and requirements. Most of these rules and requirements affect the non-profit sector. I think you will agree after reading this column that the non-profit sector desperately needs and should have a separate set of accounting rules and financial reporting requirements. The concept of Generally Accepted Accounting Principles (GAAP) for publicly traded companies and another set for all other entities has been debated for several decades. Commonly referred to as “big GAAP and little GAAP”, I will reluctantly admit that the likelihood of this result is remote, at best.

As a result of the accounting profession’s stalwart position of “one size fits all” accounting and financial reporting under GAAP, non-profit financial statements are virtually unintelligible to educated individuals. This includes volunteer Board members, management team, bankers, business owners and most other users of non-profit financial statements. Of course, if you have a CPA, an MBA or even a PhD, you have a reasonable chance of understanding the information included in the typical audited non-profit financial statement.

At the end of this column, I will let the reader be the judge of whether the assessment above is an accurate reflection of the current state of non-profit financial reporting. The profession’s stated objectives are transparency, accountability and clarity. Unfortunately, the result is, at best, a muddy reflection of financial reality. For the record, there are now 168 FASB opinions and close to 120 Auditing Standards Board pronouncements, interpretations, etc. There has been so much GAAP issued in the last 30 years that FASB No. 168 was issued recently to announce that the accounting profession had its corollary to the Internal Revenue Service Code. That is, the Codification of all accounting pronouncements, rules and financial reporting requirements was necessary to try and organize and make some sense of the requirements for the accounting profession. The Codification, in my opinion, is a great step forward. At the same time, however, it represents an acknowledgement for me that the CPA profession has “gone wild” and lost sight, in many instances, of its customer. That is to say, if an educated individual cannot read and understand an audited financial statement for a non-profit organization, have we not failed in our objectives of clarity, transparency and accountability?

Please don’t shoot the messenger. I don’t make the rules, but I do follow them. Let me surprise you with clarity in explaining recent pronouncements affecting non-profit organizations.

At the top of the list are new requirements related to mergers and acquisitions in the tax-exempt sector. To reinforce my points above, FASB No. 164 is 182-pages in length, including 37 pages of new standards and 145 pages of explanations on how to implement the requirements. What you need to know, at a minimum, is the following:

1) If you are contemplating a merger or acquisition with another non-profit organization in 2010 or anytime in the future, the requirements of this statement apply.

2) True mergers of non-profit organizations are now more difficult than ever to accomplish. This means the traditional approach of using “pooling of interests” accounting will apply in fewer situations.

3) In order to qualify as a merger and utilize “pooling of interests” accounting, the combination of the non-profit organizations requires each governing body to cede control of their respective entities to create a new non-profit organization.

4) In situations where one organization is deemed to be the acquirer, the standards now require a fair value assessment of assets acquired and liabilities assumed. If the assets acquired are greater than liabilities assumed plus consideration paid, then contribution revenue is recorded.

5) However, if liabilities assumed plus consideration paid exceed the value of assets acquired, then either a “contribution expense” is recorded in the profit and loss statement or, in certain instances, goodwill is recognized.

6) I think you will agree after reading the above that the first thing you should do is call your accountant and attorney if you are contemplating any type of merger or acquisition transaction.

As a result of the provisions of FASB No. 164, the requirements of FASB No. 142 were amended to require the applicability of goodwill impairment to apply to all non-profit organizations. That is to say, until the requirements of FASB No. 164 were finalized, it was an extremely rare occurrence for goodwill to be recognized in the non-profit sector.

In May 2009, the FASB issued statement No. 165 entitled “Subsequent Events”. The requirements of this FASB were effective for June 30, 2009 and future audits.

1) In a nutshell, the responsibility for assessing and evaluating subsequent event disclosure in audited financial statements is now officially the responsibility of the non-profit board and management team.

2) The pronouncement establishes specific standards of accounting and disclosure for events that occur after the balance sheet audit date, but before the financial statements are issued or available to be issued.

3) Financial statements are considered available to be issued when they are in a form and format that complies with GAAP and all approvals necessary for issuance have been obtained from management and governing board. Remember what I said above about clarity and transparency. As a test of my opinions expressed above, ask your non-profit CEO or Board Chair to define for you when financial statements are considered available to be issued.

4) The primary change resulting from this accounting pronouncement is that subsequent events, as defined, must be disclosed essentially through the date that the financial statements are presented and reviewed by the non-profit organization’s Audit Committee or Board.

5) Past practice required subsequent event disclosure through the date the audit fieldwork was completed which was typically 30-90 days before official statement issuance.

Many non-profit organizations are struggling with accounting and financial reporting related to their endowment funds. For example, just imagine how bad you would feel if you were on the Harvard University Board of Directors where their endowment funds market value decreased from $37 billion to $26 billion in the most recent stock market down draft.

Be not afraid! FASB will come to the rescue.

1) FAS 117-1 entitled “Endowments for Non-Profit Organizations: Net Asset Classification of Funds Subject to Enacted Version of the Uniform Prudent Management of Institutional Funds Act (UPMIFA) and Enhanced Disclosures for All Endowment Funds”. If you can get by the title, it is important to know the following information.

2) This pronouncement was initially effective for 2008 calendar year ends. However, with the market conditions in 2009, the requirements of this pronouncement may be more important to your organization this year than last year.

3) This pronouncement focuses primarily on permanently restricted endowment funds in which the restriction is stipulated directly by the donor.

4) You should know that New York State is one of only four states that has yet to adopt the provisions of UPMIFA. New York continues to operate under the provisions of UMIFA. As you might expect, UPMIFA provides the non-profit organization’s Board with more flexibility related to “underwater” endowment funds and the expenditure of endowment fund income.

5) The most important requirement, in my opinion, is the need for increased disclosures related to an organization’s endowment funds, as follows:

- The governing Board’s interpretation of relevant law (UPMIFA vs. UMIFA)

- The organization’s appropriation policies related to endowment fund income

- The organization’s endowment fund investment policies

- The composition of the endowment fund by net asset class (e.g. restricted, temporarily restricted, etc.)

- A reconciliation of the beginning and ending balances of the endowment fund in total and by net asset class

There are many more pronouncements but, fortunately, I am running out of publishing space. I will close with what I believe is the worst GAAP pronouncement in my 35 year career. In December 2008, the FASB issued FIN48-3 which deferred the effective date of FIN48 (Uncertainty in Income Taxes) until calendar year 2009 and future accounting periods. So, for the first time, every non-profit organization must now comply with the requirements of FIN48, as follows:

1) Your auditor is now officially acting as the tax police on behalf of the Internal Revenue Service.

2) Even though the vast majority of non-profit organizations do not pay income taxes, under FIN48 the term “tax position” includes your tax-exempt status.

3) Therefore, each year, the non-profit must determine whether it is more likely than not that a tax position would be sustained upon an IRS examination.

4) The entity must assume that the tax position will be examined by the IRS and all relevant information will be made available to the government enforcement auditor.

5) This pronouncement specifically requires every non-profit organization to evaluate whether it is involved in any business activities that would require the filing of Form 990-T, Unrelated Business Income Tax (UBIT).

6) In case you are rushing to the Internet to look up these requirements in the Codification referred to above, this particular topic is number 740 of the codified accounting principles at AICPA.org.

7) Please be advised that this accounting pronouncement related to income taxes provides you with one more reason to rationalize why you can “leave out the facts” when responding to auditor inquiries. However, as a CPA, I strongly advise against this approach.

8) Have no fear, however. The accounting profession, in its infinite wisdom, has determined that your CPA can provide you with advice and counsel in these income tax disclosure areas without compromising the independence rules applicable to all CPA’s.

On the assumption that I receive an overwhelming positive response to the content of this column, I will return next month with a continuation of the prolific pronouncements of the accounting profession. New fair value requirements, you might ask? I bet you can’t wait for next month’s column. Either can I.

Disclaimer: The Bonadio Group provides the information in Viewpoints for general guidance only, and does not constitute the provision of legal advice, tax advice, accounting services, investment advice, or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal, or other competent advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all pertinent facts relevant to your particular situation. Tax articles in Viewpoints are not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding accuracy-related penalties that may be imposed on the taxpayer. The information is provided "as is," with no assurance or guarantee of completeness, accuracy, or timeliness of the information, and without warranty of any kind, express or implied, including but not limited to warranties of performance, merchantability, and fitness for a particular purpose.