How to Comply with Accounting Standards for Nonprofits

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Accounting standards for nonprofits are probably not the first thing you think about, but are crucial for your organization to succeed.

Nonprofit organizations distinguish themselves from for-profit entities through their purpose and mission. Their mission is usually anchored on a cause or social purpose, not on the generation of profits.

Because of their unique structure and operational model, nonprofits must comply with various accounting standards that are, in many ways, different from for-profit organizations.

In the United States, these Generally Accepted Accounting Principles (or GAAP) are set by the Financial Accounting Standards Board (FASB). NPOs must adhere to these accounting policies to remain compliant with the law and maintain their tax-exempt status.

The consequences of not adhering to accounting standards can be severe, leading to:

  • Inaccurate financial reporting
  • Hefty fines and penalties
  • Reputation damage
  • Loss of confidence from donors and stakeholders
  • Funds being frozen or withheld
  • Highest risk of failure and even closure
  • IRS audits
  • And in some cases, the revocation of the organization’s tax-exempt status

Here’s what you need to do to remain compliant:

Understand the Basics of Nonprofit Accounting

Nonprofit accounting is a unique process of planning, recording, and reporting the financial activities of a nonprofit organization. The goal is to create an accurate and comprehensive record of all transactions that can be used for both internal and external reporting, including audits and tax returns.

In the FASB 117, the IRS establishes the core accounting standards for nonprofits, which include:

  • Unrestricted, temporarily restricted, and permanently restricted funds
  • Fund accounting
  • Cash-basis and accrual-basis accounting
  • Presentation of financial statements such as statements of functional expenses, cash flow statements & statements of cash flows
  • Accounting for donated assets

Ideally, these standards should help your nonprofit maintain transparency and accountability with donors, grant funders, and the public. They also help the nonprofit to allocate their resources properly, keep them organized and only spend on expenses that are essential to the organization’s mission.

This is fundamentally different from for-profit accounting, which is geared towards generating profits and returns for its owners (stockholders). Another difference is in fund accounting. Whereby nonprofits must track their funds separately according to unrestricted, temporarily restricted, and permanently restricted categories.

Section 501 (c)(3) organizations must also adhere to specific tax-filing requirements that are uniquely different from for-profit entities, as outlined in the Internal Revenue Code.

Some of these include:

  • File Form 1023 with the IRS to apply for recognition of the organization’s 501 (c)(3) tax-exempt status after incorporation by the state
  • File form 990 (990-N for nonprofits with less than $50,000 in annual revenue and form 990-EZ for those with between $50,000 and $200,000) that discloses your revenue, expenses, and changes to net assets
  • File Form 8868 to request an extension for filing form 990
  • Pay federal tax Unrelated Business Taxable Income (UBTI) that’s more than $1,000

Identify Relevant Accounting Standards 

The truth is, you can’t truly comply with accounting standards without first identifying which ones are applicable to your organization.

First, nonprofits must follow GAAP, the Generally Accepted Accounting Principles. GAAP’s main objective is to ensure that all financial information is reported accurately, consistently, and transparently. This includes financial statements such as:

  • Income statements
  • Balance sheets
  • Statements of cash flows
  • Statements of functional expenses.

In addition to GAAP, nonprofits must also comply with FASB 117, the Financial Accounting Standards Board’s Statement of Financial Accounting Standards No. 117 (FASB 117). FASB aims to develop and issue accounting standards through an inclusive and transparent process intended to promote useful information and decision-making by the NPO board, donors, grant funders, and other stakeholders.

There are ongoing efforts to establish International Financial Reporting Standards (IFRS) for nonprofits, which, if successful, could result in greater consistency and comparability of financial information across countries.

The Chartered Institute of Public Finance and Accountancy (CIPFA), together with Humentum, are working to develop these standards under a project titled  “International Financial Reporting for Nonprofit Organizations (IFR4NPO)” and has already released an Exposure Draft to establish a framework for their use.

Implement Internal Controls 

To ensure compliance with accounting standards, you must have proper internal controls in place. Internal controls are a set of written policies, processes, procedures, and systems of authorization, reconciliation, documentation, security, and separation of duties.

These financial practices:

  • Promote accountability
  • Ensure the integrity of financial and accounting information
  • Help improve operational efficiency by improving the accuracy and timeliness of financial reporting.
  • Help protect against fraud, embezzlement, and mismanagement of assets and resources.

Internal controls also provide reasonable assurance that things won’t go sideways and mitigates human error or malicious activities. For example, having one person responsible for recording expenditures and another approving the payments ensures that someone continually monitors all financial transactions.

Other common nonprofit internal controls include:

  • Establishing financial policies and procedures
  • Implementing an audit process
  • Creating a risk assessment process
  • Setting up a system for tracking expenses.
  • Generating and storing critical supporting documentation
  • Segregation of duties (SOD)
  • Access rights and roles to critical financial applications
  • Multilevel review of financial statements and other reports
  • Monthly bank and credit card reconciliations
  • Periodic review of vendors receiving fees/checks from the nonprofit
  • Background checks for employees and board members

Monitor Compliance 

Compliance monitoring is a continuous process of tracking and evaluating data to ensure that your nonprofit complies with accounting standards. This can be achieved by:

  • Keeping up with new regulatory developments
  • Regularly reviewing financial statements
  • Conducting internal audits
  • Setting up a process for monitoring compliance
  • Evaluating the effectiveness of internal controls, financial policies, and procedures
  • Regularly assessing risks and making necessary changes to mitigate them.
  • Creating procedures for taking corrective action when necessary.

Depending on the organization’s size, you can have a single person (such as a CFO) or an audit committee to monitor compliance.

Work with Compliance Experts

Complying with accounting standards is critical to ensure your nonprofit’s credibility, sustainability, and stability. But this can be hard, especially if you don’t have requisite accounting experience.

To ensure that your organization is properly complying with accounting standards, it’s important to work with experienced compliance experts, such as The Charity CFO.

Our experts give you an independent, third eye visibility, and objective review of your financial practices to ensure you remain compliant. Our qualified compliance experts can advise you on best practices and provide support to ensure your nonprofit organization follows industry-specific accounting.

Contact us today to learn more about our services and how we can help your nonprofit organization stay compliant for years to come. 

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Best Practices when Accounting for Grants

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Grants are the lifeblood of nonprofits, giving them the much-needed cash injection to market the organization, fund a project, or get an initiative off the ground. Having a full grant pipeline increases your nonprofit’s chances of success and improves your visibility and credibility. But in order to get the most out of these grants, you need to understand how to properly manage and account for them.

The IRS has strict regulations on how to handle grants and charitable contributions, so it is essential that you understand the best practices when accounting for them.

Why?

Because accurate nonprofit accounting can help with reporting and auditing requirements, and ensure that the funds are being used in accordance with the grantor’s wishes. Besides, proper accounting gives you a clear picture of your organization’s fiscal health and helps you to make informed decisions on how to allocate resources.

Nonprofit leaders can use the for-profit world’s valuable practice of engaging in succinct and clear grant reporting. You really don’t want to be red-flagged by the government because of incomplete, unorganized, or inaccurately recorded grant information.

What is a Grant?

A nonprofit grant is a type of financial assistance that your organization receives from government agencies, foundations, corporations, businesses, individuals, or educational institutes for a nominated project, program, or initiative. It is usually given in exchange for specific deliverables and outcomes.

It encourages collaboration between your nonprofit and the funder, and gives the funder some control over how the funds are utilized and sets the ground for future funding. Responsible stewardship of grant funds will usually lead to raising more grant money from the same or other funders.

Grants may include:

  • Investments relation to programs
  • Prizes
  • Awards
  • Scholarships
  • Fellowships
  • Research
  • Training
  • Mentoring programs
  • Outreach initiatives
  • Loans for charitable purposes

A grant will not include donations or contributions for unrestricted use or general operating support as these are not exchanged for any specific deliverables. Since they are project specific, they cannot be used to pay employees, compensate your board, or cover your organization’s operating costs.

According to the Financial Accounting Standards Board (FASB) guidelines, a grant should be recognized as revenue when all eligibility requirements have been met by the recipient and there is reasonable assurance that the revenue will be collected.

Major Types Of Grants

The three major types of grants are unconditional grants, conditional grants, and reimbursable grants.

  • Unconditional grants are those which do not require the recipient to provide a specific deliverable or outcome in exchange for the funds. The recipient is under no obligation to fulfill any conditions or submit any reports.
  • Conditional grants have designated deliverables or outcomes that must be met in order to receive the funds. Recipients are usually required to submit periodic reports on their progress and results.
  • Reimbursable grants are those which require the recipient to provide evidence that it has already incurred costs before receiving reimbursement. Reimbursement is usually provided after the recipient has provided evidence that it has met all conditions, or completed the deliverable.

8 Best Practices When Accounting For Grants

The following are some best practices that all nonprofit leaders should follow when accounting for grant funds:

1. Make sure your team is on the same page

Set clear and consistent expectations with your team when it comes to accounting for grant funds. This means that everyone should understand the procedures, deadlines, and any other expectations related to accounting for grants. Establishing clear roles and communication protocols can help ensure that all team members are in alignment when it comes to grant accounting.

2. Put the necessary controls in place

Accounting for grants should be approached with an abundance of caution. Establishing sound internal controls is essential for ensuring the financial security, accuracy, and completeness of your records related to grants. This includes having a separate bank account for grant funds, segregating duties among different team members, and having adequate documentation of all grant-related transactions.

3. Track expenses diligently

When accounting for grants, it is important to track expenses diligently. This means having effective systems and processes in place for tracking grant expenditures, documenting grant-related activities, and making sure all expenses are properly classified. Doing this ensures that you can demonstrate compliance with grant requirements and provides a clear audit trail for any future reviews.

4. Develop strong financial reporting procedures

An efficient tracking and reporting system is a must-have in order to ensure accuracy and compliance when accounting for grants. Think routine summary reports, budget vs. actual reports, and variance analysis—all of these can help your team identify any discrepancies or issues related to grant accounting.

5. Keep up with changing compliance rules

Grant accounting can be complicated, and regulations are always changing. It is important to stay on top of any new compliance regulations by regularly reviewing the grant agreement, monitoring any developments in the industry, and proactively addressing potential issues. If you don’t have sufficient internal capacity and resources, you may want to consider hiring a nonprofit accounting professional to help manage your grant accounting.

6. Use the grant in a manner that complies with all applicable laws and regulations

It is important to keep in mind that grant funds must be used for their intended purpose and in accordance with all applicable laws and regulations. Grants should not be used in any way that could be perceived as fraudulent or unethical. As the grant recipient, you are responsible for understanding and following all applicable laws and regulations.

7. Be transparent in all financial matters related to the grant

Transparency is key when it comes to grant accounting. Make sure that your team is open and responsive to questions related to the grant account. Provide regular updates to the grantor, and be sure to document all decisions related to the use of grant funds.

8. Conduct regular audits

Regular financial audits can help ensure the accuracy of your financials, determine your fiscal health and compliance, and identify any potential issues. Having an independent audit team review your records related to the grant can help protect your organization from any unforeseen problems. These audits can also help identify opportunities, such as potential areas of cost savings.

What Are The Main Challenges Of Grant Accounting?

Grant accounting can be challenging, especially for smaller organizations with limited resources. Some of the main challenges that organizations may face include:

  • Keeping up with changing grant regulations and compliance requirements
  • Staying organized when dealing with multiple grants from different sources
  • Meeting reporting deadlines and ensuring the accuracy of reports
  • Differentiating between grants and other sources of income
  • Tracking expenditures against budgeted amounts
  • Understanding accounting rules, such as those related to matching funds, split funding, and indirect costs
  • Knowing which expenses are allowable under the grant
  • Managing cash flow during long grant cycles 

These challenges can be daunting, but proper grant accounting practices can help organizations overcome them and ensure successful grant management. With the right processes in place, your organization can benefit from increased accountability and transparency, improved grant performance, and more efficient use of funds.

Feeling Stuck? Outsource Your Grant Accounting Needs To A Professional

Rolling all the responsibilities to an inexperienced person not only jeopardizes the organization’s fiduciary responsibility but also the sustainability of the organization.

If your team lacks the resources to effectively manage grant accounting, you may want to consider outsourcing these responsibilities. Experienced nonprofit accounting experts can help you develop and manage an effective grant accounting system and processes and provide guidance on best practices to ensure compliance and properly handle grant accounting responsibilities.

At The Charity CFO, we understand the complexities of grant accounting and bring our expertise to help your organization manage its grants in a way that complies with all regulations and provides maximum benefit for the organization.

By partnering with us, your organization can be assured that its grant accounting and financial management are in safe hands. We provide timely, accurate, and reliable services with high fidelity to your organization’s mission and values. Our team is dedicated to helping you achieve greater fiscal health, greater transparency, and improved service delivery for your organization.

Contact us today to learn more about how we can help with your grant accounting needs so you can focus on driving your mission and making an impact!

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Understanding the Job of a Nonprofit Operations Manager

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There are more than 1.54 million nonprofits globally. To ensure that a nonprofit runs efficiently, several people work behind the scenes to make things much easier, and one of those people is the operations manager.

The operations manager might be the secret weapon of the most successful nonprofits we know. By taking charge of getting things done, an operations manager helps executive directors focus their energy on the strategic big-picture that will move their mission forward.

If you’re looking to enter the world of nonprofit organizations with a background in operations management, you might be wondering how your skills can help you. Or, if you’re a nonprofit founder or an executive director, you might be wondering how an operations manager can help make your organization ruthlessly efficient and highly effective.

Read on now to find out what the job description of a nonprofit operations manager might look like.

What does an operations manager do?

A nonprofit operations manager, or director of operations for a nonprofit, is responsible for the day-to-day operations of the organization. 

They oversee the administrative staff and make sure that the office runs smoothly. They also develop and implement operational procedures and systems and manage budgets and financial reports. In short, they ensure that the nonprofit runs like a well-oiled machine!

Now, if that sounds like they do a bit of everything, it’s because that’s true!

An operations manager, by definition, is a manager. They don’t necessarily need to be an expert at any one thing. Still, they need to be able to be proficient enough at many things to manage a highly productive team to get results for their organization.

Here’s how Krysta Grangeno described her day-to-day tasks in operations for a nonprofit organization:

Who reports to the operations manager?
And who do they report to?

It depends on the organization, but generally, any department is responsible for the day-to-day operations of the entity. That may include

  • Finance Department
  • Fundraising Department
  • Program directors
  • Human Resources
  • Information Technology
  • And more!

You can see that, depending on the size and structure of your organization, the ops manager will have to oversee a large number of departments.

In turn, your operations manager will either report to the Director of Operations, the Chief Operating Officer (COO), or directly to the CEO or Executive Director. They may also have some direct interaction with the Board of Directors, although the board isn’t technically their supervisor.

operations-manager-nonprofit-roles

What are the job responsibilities of a nonprofit operations manager?

As mentioned above, their primary role is to supervise and organize the efforts of the departments under their responsibility. Here’s a breakdown of what duties a nonprofit operations manager will be expected to handle:

Ensure the Office Runs Smoothly

The administrative staff is responsible for keeping the office organized and running smoothly on a day-to-day basis. The operations manager will make sure that they have everything they need to do their job effectively and that they are meeting all deadlines.

An operations manager must be exceptionally well organized, as they’ll be responsible for creating systems and processes that ensure every department is meeting its expectations. Often, they’ll also need to be aware of all legal or reporting requirements that the organization may have in executing their programs.

nonprofit-operations-manager-budgeting

Implement Budgets and Oversee Financial Strategy

The operations manager will be responsible for spearheading the budgeting process for the organization and ensuring that the accounting department delivers timely and accurate financial statements for the board of directors or other stakeholders. You’ll also need to be intimately familiar with these statements as well and review them proactively to identify potential issues before they become problems.

As the operations manager, part of your role is to ensure that the financial department runs effectively. This includes ensuring that checks and balances are in place and that employees in the financial department are adequately trained to do their jobs.

The operations manager must also be acutely in-tune with the organization’s budget. Because their role is so wide-reaching, they need to be aware of how shortfalls in one area (like fundraising) may impact the ability to execute in others (like executing programs or meeting payroll).

That doesn’t mean that the operations manager needs to be an accountant. Generally, they’ll oversee the accounting team or work as a liaison with an outsourced accounting firm. But ultimately, they are responsible for ensuring that the accounting work is done correctly and on time.

Supervise Human Resources 

Ideally, the operations manager’s role in human resources is limited to supervision, but that’s not always the case. In some smaller nonprofits, HR may get put completely onto the ops manager’s plate, but we’d recommend against it.

Human resources is a specialized field that requires experience and specific knowledge. You need to comply with employment law, collect the correct information, withhold taxes appropriately, and onboard and train new employees.

A knowledgeable HR professional should establish the policies and procedures for the human resources department, but many nonprofits can’t afford a full-time HR coordinator. That’s why many nonprofits choose to outsource their HR to external firms as well.

Even if you’re working with an external firm, the operations manager will probably need to be involved in many day-to-day items related to HR—like searching for employees to hire, interviewing, training, counseling, and terminating employees.

nonprofit-operations-manager-technology

Manage Technology Integration 

Technology is a massive part of the work that nonprofits do. Almost every person in your organization depends on technology. And the networks and systems that keep those people aligned take organization, security, and maintenance.

Depending on your mission, you may even be dealing with highly sensitive personal information that you have a legal responsibility to protect, even in digital form. As the operations manager, you’ve got to make sure the appropriate technology systems and controls are implemented throughout the business.

Not utilizing the proper systems could mean the loss of crucial data needed in the future. Or it could mean a crumbling IT infrastructure that can’t support the business model being implemented.

Nonprofits often don’t need, or can’t afford, an internal IT department. And relying on someone’s husband or nephew to fix problems isn’t an acceptable solution. Instead, many organizations outsource their IT department to a service provider. In this case, it’s the operations manager’s job to liaison with the IT provider to ensure the office gets the support it requires.

Ensure Compliance and Organization

Records need to be kept in order within any business. There are several reasons for this, but compliance is an important one for many nonprofits.

Your organization needs to comply with accounting regulations, legal restrictions, employment rules, and other industry-specific regulations. And the operations manager is ultimately responsible for ensuring that the company is prepared to prove its compliance when audited.

Not only does record organization help when something needs to be located, but it also speeds up business efficiency. Instead of wasting time hunting for something, it will be easy to access the record database. All you’ve got to do is type in some information and locate the data needed.

How to evaluate performance and further development

Whether you’re building the leadership team to include an operations roles, or you’re currently in an operational leadership role — it’s important to regularly evaluate performance as well as work on developing to further improve your work.

If you’re evaluating your ideal candidate, after they’ve been in the position for a certain period (a year, for example), it’s important to compare their achievements to the job description. For self-evaluations, read resources (like this one) to find usable knowledge to help improve your performance. 

Key areas to concentrate your efforts include:

  • Purposeful communication: In operations, too much communication is nearly as problematic as not enough. What you say, how you say it, must be as useful as possible. That’s where developing purposeful communication tactics come in handy.
  • Organizational processes: As someone who ensures compliance and handles intricate areas of a nonprofit, the ability to develop processes takes precedence over nearly every other aspect of your role.
  • Continuing certifications: There are a number of nonprofit certificate programs available for leadership teams. Those instructing the programs often have robust experience in the sector. Taking these programs helps you find the additional knowledge to improve your performance.

A Note on Outsourcing Professional Services:

We’ve mentioned outsourcing a few times here, related explicitly to bookkeeping/accounting, human resources, and information technology. That’s because this is an emerging trend we see gaining steam in the industry.

Traditionally, many nonprofits had a scrappy, do-it-all mentality when it came to these areas. So, an operations manager or financial director frequently ended up having responsibility for everything— from making bank deposits and firing employees to troubleshooting network issues.

But this approach causes more problems than it solves. Having trained professionals handling complex tasks that are outside their area of expertise is hugely inefficient. And it’s just asking for mistakes.

Yet most organizations can’t afford a full-time accountant, HR coordinator, and IT professional. And that’s where the operations manager comes in.

When organizations outsource these 3 functions and have the operations manager work directly with each team, they can get the full professional support of each team without paying a full-time salary. Often, these teams are more talented and efficient than an internal team member would be.

We believe this is the operational business model of the future for successful mid-sized nonprofits in the $1M to $15M/year range. If you’d like to talk to us about outsourcing your bookkeeping and accounting to The Charity CFO, send us a message to set up a free consultation.

What Qualities Make a Good Operations Manager?

Let’s turn to Krysta again, to offer a first-hand perspective on what skills an operations manager needs:

What A Nonprofit Operations Manager Does: A Recap

A nonprofit operations manager has many responsibilities, but their primary role is to coordinate all the various departments to ensure that business runs smoothly.

The operations manager will oversee the finance department, human resources, information technology, programs, fundraising, and more. And they must grasp how each department impacts the other to ensure that the entire organization runs harmoniously.

By doing their job well and assuming responsibility, they free up each department to focus on what they do best, rather than overlapping tasks or getting tied up in work that’s unrelated to their department. They also help free up the directors to focus on strategy rather than the day-to-day minutiae of each department.

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How Do Nonprofits Make Money?

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How do nonprofits make money?

Nonprofits exist to meet a societal need or provide a public benefit. Unlike an organization whose primary goal is to make money, nonprofits exist to meet a community’s needs. That said, while it’s not your primary purpose, your nonprofit must find ways to make money. 

So what are those ways? How do nonprofits make money? Let’s take a look…

Why Do Nonprofit Organizations Need to Make Money?

In reality, nonprofits need to make money to operate, just like any other business.

Your nonprofit may need various sources of income to pay overhead costs, fund its programs, and cover administrative fees. Nonprofits must raise the money to pay rent and salaries while keeping the lights on, just like a grocery store or a law office. The best mission in the world can’t overcome a lack of cash to fund operations and keep programs running. 

Of course, it raises an all-important question for leaders: how can your nonprofit make money? There are many ways nonprofits bring in revenue, and the healthiest nonprofits have various income streams. Diversifying sources of income makes it easier to hit budgeting goals, build up reserves, and ensure flexibility in good and bad economic times. 

Here are some tips to show you how nonprofits make money and help your organization hit its financial goals. 

8 Common Ways Nonprofits Make Money

Individual Donations

nonprofits-individual-donations

One of the most common sources of income for nonprofits is individual donations. And it’s probably the one that comes to mind first, whether it’s the Salvation Army’s Red Kettle Campaign or your local soup kitchen raising funds to feed the less fortunate.

Individual donations are a vital part of the funding for small and large nonprofits, but it is particularly essential for those with operating budgets under $500,000. Research from the Urban Institute found that small nonprofits earn roughly 30% of their income from donations, whereas larger organizations only rely on donations for about 18%.

Given the importance of individual donations, it’s not surprising that nonprofits spend a significant amount of time, money, and energy building a base of donors. Interestingly, one of the most effective ways to do this is to build a robust volunteer program, as engaged volunteers tend to translate into regular donors. 

In addition, nonprofits ensure steady income from donations by accepting online donations, creating systems for recurring donations, and soliciting planned giving. 

It’s also important to note that donations are tax deductible for most individuals, making this an attractive option for organizations and individuals wanting to support specific missions or efforts. 

Corporate Donations

Similarly to individual donations, corporations can also get a tax benefit for donating to 501(c)(3) nonprofit organizations. In fact, a corporation may contribute up to 25% of its taxable income to charitable causes!

And these don’t need to be big, multi-national corporations. Any business in your community can get a tax benefit from giving money to your nonprofit.

Also, many bigger corporations have matching gift programs that match their employees’ donations to nonprofits up to a specific dollar amount, doubling their donation. In addition, other corporations will donate money to you when their employees volunteer with your organization! 

Check out the website Double Your Donation to search for participating corporations. It’s an excellent way for your nonprofit to double the money you make without doubling your fundraising efforts.

Fundraising Events

nonprofit-events-gala

Fundraising events are another crucial part of how nonprofits make money. Most people have participated in a local run or 5k, attended a gala, bid in a silent auction, or seen a pledge-a-thon on TV. 

These are all examples of fundraising events that nonprofits hold to earn the revenue needed to run their organization. These events can recur annually, quarterly, or be one-off events, depending on the type of event and the organizational needs. 

Besides raising money, fundraising events are also a great way to raise awareness about an organization and its impact on local communities. That said, most fundraising events also take a lot of planning, work, and resources, which is why most nonprofits dedicate a portion of their budget to fundraising efforts. 

This sometimes seems counterintuitive to people but is essential to how nonprofits work. Like any business, nonprofits have to spend some money to make money. Fundraising expenses are one clear example of this. 

Government Grants

Many large and mid-size nonprofit organizations rely on government grants to make money. In fact, government grants provide up to 10x more money to nonprofits than private foundation grants (see below).

Federal government grants are available, as well as grants at the state and local levels. And you can find grants for all types of nonprofits, from after-school programs to cultural centers, animal welfare organizations, and environmental nonprofits. 

Go to Grants.org to look for federal grants relevant to your mission.

Just keep in mind that government grants will require an application, which can be a time-consuming process. You may even need to hire a professional grant writer if it’s your first time. 

You’ll also need to have your financial statements up to date. A nonprofit audit may even be a requirement to apply. In addition, government grants often have detailed reporting requirements that you’ll need to submit monthly or quarterly, which creates more paperwork for your accounting team.

We don’t say that to discourage you—many nonprofits rely on government grants to make money for their programs—but you should be prepared that the big payoff will require significant work upfront.

Private Foundation Grants

nonprofit-foundation-grants

While government grants may dwarf gifts from private foundations, foundations still gave over $90 billion in 2021, so there is plenty of foundation money to go around!

Some of the most notable nonprofit names you’ve heard of—like the Gates Foundation, The Ford Foundation, and The Robert Wood Johnson Foundation—manage billions of dollars and give away hundreds of millions annually.

Similar to government grants, foundation grants are available for almost any type of nonprofit mission. You can search for available grants in your nonprofit segment at GrantWatch.com.

Private foundations are required to donate at least 5% of their assets every year—so as long as there are foundations, it’s an excellent source for nonprofits to make money.

Earned Income 

Many nonprofits have steady streams of earned income, primarily from activities related to the furtherance of their mission. For example, this income can include fees for services, merchandise, memberships, or tickets for performances. 

While you often don’t think about this income category for nonprofits, you see it all the time. Any time you buy Girl Scout cookies, purchase a zoo membership, visit an art museum gift shop, attend a symphony concert, or join your local YMCA, you’re helping a nonprofit make money through earned income.  

This type of income is essential to how nonprofits make money and is something all leaders should consider. It’s a great way to have a steady income stream while furthering your organization’s mission. 

When considering earned income, it’s worth looking at a critical distinction nonprofit leaders have to consider – the difference between related and unrelated business income. Income related to the nonprofit’s activities – for example, a ballet company selling tickets to their performances – is not taxable. 

In contrast, income not directly related to the organization’s tax-exempt purpose and occurs regularly—renting out unused building space, for example— is subject to federal income tax. 

Corporate Sponsorships and Partnerships

Corporate sponsorships or partnerships can be another abundant source of income for nonprofits. These can range from in-print advertisements to sponsorships of an entire event, in-kind sponsorships, or ongoing cash sponsorships. 

The options are varied and depend on the organization, but this type of income primarily focuses on helping a business get brand exposure in exchange for providing nonprofits with income. 

It can be an excellent way for nonprofits to make money to cover events or operating expenses. It is also an effective marketing strategy for corporations as they associate their name with important causes in their community. As a result, the corporation gains goodwill in the community, and the nonprofit earns needed income. It’s a classic win-win and essential to how nonprofits earn money. 

Investments

nonprofit-make-money-investments

One less well-known way that nonprofits make money is through investments. 

This type of income isn’t generally for day-to-day operations but is a way leaders can grow long-term savings and build increased reserves. The most common way nonprofits do this is through endowments, where nonprofits accept and then hold donations in an investment fund.

Investments, like stocks, can also be donated by individuals. It’s an attractive way for investors to avoid capital gains taxes and get a significant tax deduction—like when Elon Musk reportedly saved over $4 billion in taxes by donating $5.7 billion in stock to an unnamed nonprofit in 2022.

According to Nolo.com:

If someone owns stock for more than one year that has gone up in value, that person can donate the stock to a nonprofit, get a deduction equal to the fair market value of the stock at the time of the transfer (its increased value), and never pay capital gains tax on the appreciated value of the stock. The nonprofit will never owe that capital gains tax either. It can take the stock and either sell it right away and not pay any tax, or it can hold on to it—but it will never owe capital gains tax on the appreciated value the donor realized.

Many nonprofits will never see a donation of stock, but when it does happen, it could be a money-making windfall for any nonprofit. Every nonprofit should have an established investment policy agreed to by the board of directors, including what to do with donated stock or investments. You may want to hold on to them or liquidate them immediately, but either way, write it into your procedures before you need it. 

Investments or endowments are essential for building long-term sustainability for organizations and an effective way to stretch donor contributions as far as possible. 

Need Help Managing Your Nonprofit’s Money?

As leaders know all too well, making money is an essential function of every nonprofit. Without steady revenue streams, your nonprofit can’t keep its doors open or meet its organizational goals. 

Nonprofits receive money from many different sources, and the accounting can sometimes be complex. They also must be strategic with budgeting to ensure their income covers expenses. 

If your team struggles to budget correctly or even properly track and segregate your sources of income, it might be time to consider outsourcing your bookkeeping and accounting.

The Charity CFO helps hundreds of nonprofits nationwide keep updated books, get monthly reporting, stay audit-ready, and manage their money more effectively. In addition, we can help you automate time-consuming practices, implement paper-saving technology, and create bullet-proof systems and processes that allow you to focus on your mission.

Many nonprofit directors and founders don’t love the financial part of the business. But without solid finances, you’ll never realize your mission. So if you’re looking for a nonprofit-experienced partner to help your team reach the next level, reach out to us today for a free consultation.

 No time to read this article now? Download it for later.

Financial Oversight Guidelines for Nonprofit Boards

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Financial oversight is one of the primary roles of your nonprofit board of directors. 

Every nonprofit is required to have a board of directors. According to the National Council of Nonprofits, the board has a responsibility to “steer the organization towards a sustainable future by adopting sound, ethical, and legal governance and financial management policies.”

But, in practice, the terms fiduciary duty or financial oversight are a bit ambiguous. And they create a lot of confusion for people new to the nonprofit sector. So rather than trying to define it, let’s look at some guidelines for what financial oversight looks like in real-life.

What is Financial Oversight?

What is Financial Oversight?

Financial oversight refers to a broad range of responsibilities. A few of the primary components include:

  • Policy development
  • Financial sustainability
  • Compliance

But before we dig into what those look like, let’s talk about why fiduciary responsibility is such a big deal in nonprofits. And why the board of directors plays the primary role in providing financial oversight.

Nonprofits are fundamentally different from other businesses

You hear the term financial oversight in the nonprofit world and less in the for-profit world, largely due to the structure of a nonprofit. Unlike a for-profit company, a nonprofit organization doesn’t have an “owner.” Instead, it is funded by and belongs to the public. 

But the term “nonprofit” itself can be misleading. I’d suggest you stop thinking of a nonprofit as “a business that doesn’t make a profit.” And instead, think of it as a business where the ‘profit’ must be directly reinvested to support its stated mission.

The owners of a private for-profit business can choose to distribute profits to themselves or spend as they choose. But the leader of a nonprofit cannot make distributions to themself because all expenses must be consistent with furthering the organization’s stated mission. 

In return, for reinvesting your profits to further a charitable mission, the IRS allows you to operate free of income taxes. 

But without proper financial oversight, you could inadvertently spend funds in ways that don’t directly impact your mission. And if you do that, you may risk losing that tax-free benefit or even find yourself in legal trouble.

Public responsibility brings higher standards of oversight

Public responsibility brings a higher standard of fiduciary responsibility

In for-profit businesses owned by specific people, it’s clear who carries the risk and liability of operations. In most cases, a failure of financial oversight affects just the owners (and maybe their employees or vendors), but not the general public. In the case of a large public company, they have highly involved boards of directors to provide an additional layer of financial oversight.

But when public funds are at risk (in the form of donations and grants) an accountability system must be employed to ensure funds are used appropriately. The board of directors is the core element of this accountability system. And this is why all nonprofits are required to have a board starting from the moment of incorporation. 

The board is charged from your inception with a fiduciary responsibility to ensure your organization lives up to the promises you made when you accepted public donations.

What Does Financial Oversight Look Like?

The idea of financial oversight can be overwhelming for founders, directors, and even board members who don’t have a financial background. 

To help you start to grasp it, here are some best practices that a board should be performing to ensure effective financial oversight:

  •  Policy development. Your board should help to establish and monitor management policies, such as: 
    • Financial policies (investments, capitalization of fixed assets, operating reserves, financial key performance indicators (KPIs), segregation of duties, etc.) and 
    • Operational policies, such as conflict of interest and whistleblower policies.
  • Financial sustainability. Your board should be involved in reviewing and approving the annual operating budget. It should also review financial statements at every board meeting and challenge management on numbers that don’t make sense.
  • Compliance. Your board should review and approve the annual tax return (IRS Form 990). If your nonprofit requires an audit, the board should engage directly with the audit firm. Finally, the board should be aware of significant compliance requirements the nonprofit is subject to and ensure a system of accountability is in place.

Too often, we see financial oversight delegated to the Board Treasurer or the finance committee. However, your board cannot simply delegate financial oversight to the Finance Committee or a single board member. 

Regardless of which committee you belong to, every board member has a fiduciary responsibility to the organization. Your lack of a financial background does not relieve you of the obligation to oversee the financial performance of the nonprofit. Instead, it’s your responsibility to educate yourself on the basics of financial management and oversight.

Each board member should be able to do these things:

At a minimum, each board member should be able to do these things:

  • Review annual tax return before filing
  • Review annual audit 
  • Review periodic financial statements at each board meeting

PRO TIP: If you or one of your board members can’t understand nonprofit finances, don’t feel defeated. It’s very common. And it’s not that hard to get up to speed. Look for some resources, like our free masterclass for making sense of nonprofit financial statements, and get up to speed!

The Role of the Finance Committee in oversight

While all board members need to do their part, the finance committee does play a leading role in critical financial policies and decisions. For example, the finance committee will generally take the lead with things like:

  • Reviewing the annual budget in detail, asking questions, and doing a preliminary approval of the budget before bringing it to the rest of the board
  • Reviewing annual tax return for accuracy before bringing it to the rest of the board
  • Spearheading communication with the audit firm and reviewing the audit prior to bringing it to the rest of the board
  • Developing key financial policies for endowments, investments, capitalization, operating reserves, internal controls, etc.
  • Reviewing financial statements in detail each month (financial reports reviewed at the finance committee level are generally more detailed than the reports going to the board level. The finance committee should understand the primary sources of revenue and expenses. The committee should also develop KPIs in line with the organization’s goals. KPIs may include: operating reserve %, days of cash on hand, accounts receivable collection period, aging of accounts payable listings, restricted vs. unrestricted net assets, etc. )
  • Holding regular meetings to discuss finances and ensure that the organization is sustainable (finance committees typically meet monthly or every second month)

Simply put, good financial oversight looks something like this:

Every board member has a general understanding of the organization’s sources and uses of funds. In addition, they understand the overall financial position and sustainability.

Each board member is familiar with the critical compliance issues the organization faces and the policies created to ensure adherence to compliance standards.

The sign of effective financial oversight is the presence of fruitful conversations about the financial performance at your board meetings. All board members should participate, regardless of their background or committee assignments.

Need help managing your nonprofit's finances?

Need help managing your nonprofit’s finances? 

The first step to better financial oversight is getting your board more comfortable understanding the organization’s financials. For example, understanding basic terminology, the underlying financial assumptions used for budgeting, and the organization’s primary sources and uses of funds. 

If you or your board is struggling with any of these things, we’d like to help. That’s why we created our free online masterclass for nonprofit founders, directors, and board members to give you a crash course on nonprofit finances.

Check it out for free: https://www.thecharitycfo.com/university/

Private Foundation vs. Public Charity: What’s the Difference?

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The IRS recognizes many different types of nonprofit organizations. Within those organizations, though, the 501(c)3 stands apart because of the unique tax benefits it enjoys. In addition to not paying income taxes, individuals and corporations that donate to a 501(c)(3) nonprofit can claim a tax deduction for their donations.

But even within the 501(c)(3) organizations, there are various types of organizations. Two of the most common are Public Charities, like churches, social support organizations and universities, and Private Foundations, like the Bill and Melinda Gates Foundation.

But what is the difference between a private foundation vs. public charity? We’ll dig into that right now.

Private foundation vs public charity

Private Foundation vs. Public Charity

The IRS defines the two types of nonprofit organizations and sets rules for distinguishing a foundation from a charity. And the difference between them is based entirely on where (and from whom) they get their money.

What is a Private Foundation?

A private foundation is a 501(c)(3) nonprofit that generates much of its support from a small number of sources and investment income. According to the IRS, they “have as their primary activity the making of grants to other charitable organizations and to individuals, rather than the direct operation of charitable programs.”

Private foundations are often referred to as “family foundations” because they tend to be more closely controlled by a single family or a small group of people with aligned interests. It’s common for the board of a private foundation to all be related or to be made up of just a few people.

Some of the largest private foundations distribute annual gifts valued at hundreds of millions or billions of dollars. And their names are probably familiar to you, like The Bill and Melinda Gates Foundation, The Ford Foundation, and The Robert Wood Johnson Foundation.

What is a Public Charity?

Public charities generally receive the largest share of their financial support from the general public, private foundations, or governmental agencies. Rather than depending on a single funding source, like a family or a corporation, they actively raise money to fund their programs. And they have far greater interaction with the general public vs. private foundations.

The board members of public charities are often selected to represent the interest of their broader constituency. So they’re not controlled by one person or family.

A public charity is what you typically think of when you hear the term “nonprofit,” organizations like Goodwill, United Way, Habitat for Humanity, Greenpeace, and your local community organizations.

Which is better: a public charity or a private foundation?

We hear this question a lot, but neither type of charity is “better” than another. They are both equally valid models for operating a nonprofit. But they serve different purposes, and one may be a better fit than another depending on the goals and circumstances of the founder.

Suppose you intend to fund a nonprofit organization yourself and have close control over the operations. In that case, a private foundation is probably the best fit. 

That’s why high-net-worth individuals, like Bill Gates, typically prefer the private foundation model when they want to start a nonprofit. However, the downside to this model is that the IRS applies more scrutiny and restrictions to a private foundation.

On the other hand, suppose you’re planning to rely on financial support from a broader base of individual donors and private grants or to rely on government grants. In this case, you’ll typically adopt the public charity model. Choosing a public charity enables you to operate with fewer restrictions from the IRS. And you’ll avoid paying taxes on any investment income as well.

 

Should I start a charity or a foundation

Should I start a charity or a foundation?

When your organization applies for tax-exempt status with the IRS, you will indicate whether you are applying to be a private foundation vs. public charity. 

However, each year, a public charity is required to complete Schedule A (an addendum to its 990 or 990-EZ) to verify that it still qualifies as a public charity. Schedule A contains several ‘tests’ and if your organization fails them, your status will be automatically converted to a private foundation.

PRO TIP: Churches, schools, and hospitals are automatically assumed to be public charities and are exempt from the Schedule A tests.

As a part of Schedule A, you will have to compute your public support percentage to validate that you are not simply self-funding your charity. The public support percentage is calculated a bit differently depending on various factors. But the goal is to approximate the proportion of support your organization receives from the general public.

To maintain its “charity” status, your nonprofit must maintain a public support percentage of 33⅓% or greater during at least one of its last two years. That means that a least one-third of your revenue must come from the “general public,” which excludes large private gifts and investment returns.

NOTE FOR STARTUPS: During the first five years of your operation as a nonprofit, you are not required to maintain a public support percentage above any threshold. But you ARE still required to calculate and report your public support percentage.

The public support percentage is calculated based on an accumulation of support received over a five-year period. So large private gifts from multiple years ago might still adversely impact your public support percentage.

 

How is fundraising different?

How is fundraising different for a private foundation vs a public charity?

If you’re a public charity that wants to stay a public charity, you need to be careful about how your fundraising strategy impacts your public support percentage.

The first thing you should do is consult with your CPA to determine your current public support percentage based on your most recently filed 990. If you’re in danger of falling below the 33⅓% public support percentage threshold, you should develop a fundraising plan that enables you to diversify your funding sources.

Small-dollar gifts, government grants, and grants from other public charities will always improve your public support percentage, because those are all considered public support.

Meanwhile, large dollar gifts from private donors and grants from private foundations will decrease your public support percentage because those are not considered sources of public support.

So, should you start turning down all large-dollar gifts? No!

Most nonprofits solicit and receive large gifts to help fund their programs, and there is nothing wrong with that. They make your life a lot easier, after all. 

However, you should always seek to increase revenue from those sources which will be deemed public support. And because the public support percentage is calculated on a five-year basis, you need to have a long-term fundraising strategy that anticipates what your needs will be down the road as well.

Foundations vs Charities: Wrapping It All Up

Private foundations and public charities are both 501(c)(3) nonprofits dedicated to advancing the public good. They’re simply organized differently and have to abide by different regulations.

There are many more charities than foundations in the USA, with charities accounting for over 75% of all nonprofit revenue. But the private foundation is actually the default organizational structure for nonprofits in the eyes of the IRS. Therefore, the burden of proof lies with a charity to prove they meet the requirements to maintain their special status.

Regardless of which type of organization you choose, you should be sure to seek out a knowledgeable legal counsel and a CPA or accounting firm with expertise in the nonprofit sector. They’ll help you understand what you need to do to keep your nonprofit compliant with the IRS and local government agencies.

Updated Accounting Standards for In-Kind Donations (2022)

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If your nonprofit uses donations of supplies, services, and even time to help fund your operations, you need to know about recent changes in accounting standards for in kind donations.

All the way back in 2020, the Financial Accounting Standards Board (FASB) released new standards for “Presentation and Disclosures by Not-for-Profit Entities for Contributed Nonfinancial Assets.” Or, in other much simpler words, in kind donations. 

But because the new standards didn’t go into effect immediately, many organizations put off making the necessary changes. And many others never even heard about the changes.

But the deadline for making the changes has passed, and the FINAL deadline (for interim reporting periods) is coming up next month. So now is the perfect time to make sure you report in kind gift donations in compliance with GAAP standards in 2022.

FASB changes in 2022

When do the changes to in kind gift reporting go into effect?

The changes are effective retrospectively, starting with annual periods beginning after June 15, 2021. So if your annual reporting period follows the calendar year, you’ll be required to be compliant when you file your IRS 990 for the 2022 tax year.

The changes are also effective for interim periods within the annual period beginning after June 15, 2022. So, if you file quarterly reports, then you’ll need to be following the new standards by next month, if not sooner.

And if you’ve already implemented the changes below, you’re in luck because the FASB did specify that early adoption of these standards is okay.

Who do the changes impact?

The changes to in kind donation reporting are specifically for organizations that follow generally accepted accounting principles (GAAP) in preparing their financial statements. Typically, a CPA would prepare these statements as part of a yearly review or audit.

The changes impact the presentation of your data, so you may not need to change the process for how you track or account for in kind contributions internally. And even if you’re not fully GAAP-compliant currently, implementing these best practices now will save you a lot of cleanup work later in the case you require a financial statement audit.

What exactly is changing about in kind donation reporting?

A few things are changing about how you show in kind gifts on your financial statements. The first one is about how you display them on your Statement of Activities. And the second will impact the information you include in your disclosures (footnotes) to your financial reports.

1 – Show in kind goods and services on Statement of Activities

Historically, nonprofits may not have shown in kind donations as a separate line item in the revenues and/or expense section of the Statement of Activities. The new standards require you to create a separate line item within each section to show which portion of your revenue and expenses can be attributed to non-financial assets.

2 – Break down how you used in kind contributions in disclosures

In the past, there was no clear direction for reporting details about the type of in kind gifts you received (goods vs. services) or how you used them. The new standard makes it very clear exactly how you need to display that information in the future:

  1. You must show each type of gift broken down by category (goods/services)
  2. Within each category, you must include additional detail, specifically:
    1. “Qualitative information” about whether you utilized or monetized the “contributed nonfinancial assets” during the reporting period. And, if you utilized the contributions, you need to disclose a description of the programs or other activities where you used those gifts 
    2. Your organization’s internal policy concerning monetizing vs. utilizing in kind contributions (if you have one)
    3. A description of any restrictions your donors attached to the gift of these non-financial assets 
    4. A description of the valuation techniques and inputs you used to determine the fair market value of the gifts (in accordance with Topic 820). 
    5. The principal market you used to arrive at a fair value measure if it’s a market that you can’t sell in based on restrictions your donors made on their gift. 

We’ve paraphrased the actual text of the standards for this article. You can download the official release from FASB here, including some helpful examples of how to make the required declarations.

And, of course, don’t trust your finances to a blog (even a well-informed one). Always talk to your CPA to ensure your organization is in full compliance with new regulations.

Statement of Activities reporting changes

Why is FASB making this change?

The update enhances your financial reporting by setting new standards for disclosing specific details about the in kind donations you receive. It makes it easy to see how much of your total revenue or expenses can be attributed to in kind donations.

This is especially important for nonprofits that receive substantial in kind contributions. Take the case of a food pantry, for instance. The majority of a food pantry’s product comes from in kind donations of food. If they report all of their revenue and expenses on one line, it would be impossible to tell how much cash they need to keep their programs running.

Hopefully, you can see why it would be important for donors and other interested parties to understand which portion of their revenue and expenses are cash vs. in kind gifts. 

Need a process to track in kind contributions?

Check out our blog on accounting for in-kind donations for more details. Or watch our webinar on the topic for even more actionable tips.

Want to know how to start asking for donations of in kind gifts or services?

Check out this episode of A Modern Nonprofit Podcast, featuring Allie Meador of RightGift:

https://https://youtu.be/2B8wqjxRlZg

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Is Your Nonprofit Ready For Federal Grant Funding?

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According to The Nonprofit Times, almost 80% of all nonprofit revenue comes from the US government in the form of federal grant funding or fees for services. Those numbers may be skewed by some outliers, like education, but, regardless, there is still a lot of federal money up for grabs.

If you’re like most organizations, you would love to get some of that funding to put toward your mission. But before you start searching for grants you need to ask yourself– is your organization ready for federal funding?

This article will help you determine if you are ready or not.

And, if not, what you can do to prepare yourself.

What do I need to be eligible for federal funds?

There are a lot of things to consider when you start thinking about federal grants or service contracts. But the first one is this–do I meet the basic eligibility requirements?

Here are the main points you’ll need to check off:

  • You have a 501(c)3 status in good standing with the IRS. (You have received your determination letter and you are filing your annual Form 990 or 990-EZ on time)
  • You have an active Employer Identification Number (EIN), which would be issued and maintained by the IRS.
  • You have registered your organization at grants.gov and sam.gov to be considered for grant proposals.
  • You have been issued a DUNS number (Data Universal Numbering System). You can follow the steps outlined in this article to get one.

If you meet all of the 4 above criteria, you are likely eligible to apply for federal funding. But that doesn’t necessarily mean you’re ready to do it

nonprofit_federal_funding

Are my programs ready for federal funding?

When searching for federal grant funding, you need to consider whether your program team can actually deliver based on the proposal. Otherwise, you could find yourself scrambling to fill roles and failing to follow through on your commitments. You could even find yourself in worse shape than if you’d never secured the funding.

  • Consider the following factors:
    • Do I have team members with the appropriate skills and experience to achieve the program outcomes?
    • Will I need to hire people if this proposal is accepted? If so, how easily or quickly will I be able to recruit and fill these positions?
    • Does my organization have the appropriate institutional knowledge to execute on this grant I win the award?
    • Do I have the software and physical infrastructure required to deliver on this proposal?

You don’t necessarily need to be ready to hit the ground running on day one. But you need be confident your organization can deliver on the proposal and any program outcomes within a reasonable period of time.

Here are some other factors to keep in mind:

  • It takes more work than ever to recruit, hire, onboard, and train new employees. It also takes time to build-out software and technology capabilities.
  • Will you need full-time employees or contractors (or both) to execute on the grant proposal. And will they require a specialized or hard-to-find skillset?

Neither of these factors alone can tell you not to apply for federal funding. Sometimes you need to make an aggressive move to push your mission forward. But be realistic about what you’ll be able to accomplish to avoid regretting your decision.

Are my finances ready to apply for federal grants?

Your financial system must be in good working order before you even consider applying for federal funding.

In fact, the government places very rigorous financial reporting requirements on organizations that receive federal funding. The Uniform Grant Guidance (UGG) outlines these rules that recipients of federal grants must follow to maintain compliance; and penalties for non compliance can be severe.

If your organization isn’t in a position to meet the requirements before you apply for funding, it’s highly unlikely you’ll be ready when you’re awarded funding. Therefore, it is imperative that you get your financial system ready before applying for federal grant funding.

The UGG is too extensive to explain here, but these are a few requirements you should consider:

  • You must be closing your books each month; that means reconciling all of your bank accounts and credit cards
  • You must be tracking your expenses in at least two dimensions; in other words, every expense must be recorded to a GL code/category and a funder/program/grant
  • You must have a documented, consistent, and reasonable approach to allocating shared expenses such as payroll, facilities, and insurance

The UGG also outlines requirements for unallowable expenditures, but every grant will have its own set of requirements.  It is imperative that you read your grant requirements carefully and that you only use grant dollars to cover allowable expenses for your organization.

nonprofit_federal_grant_requirements

Do I need an audit to secure federal grant funds?

No, you don’t always need a nonprofit audit in order to qualify for federal grant funding. 

However, if you receive more than $750k in federal grant money in any given fiscal year (even if this was the result of multiple smaller federal grants), you will be required to undergo what’s known as a ‘single audit’.

A single audit is different from a financial statement audit, but the process is somewhat similar. The purpose of a single audit is to test whether the organization complied with grant guidelines and only used grant dollars for allowable purposes.

An independent CPA must prepare the single audit, at the expense of the nonprofit.

And just because you required a single audit last year, it doesn’t mean you’ll be required to do one this year. It is important that you evaluate each year the total dollars of federal funding you will be receiving to determine whether a single audit is required.

Are you ready to prepare for federal funding?

Obtaining federal grant funding is a scary process for most nonprofits, especially the first time.

You should carefully consider your preparedness in advance of submitting proposals. Ensure you’re in a good position to obtain funding and deliver on your program outcomes.

If you’re concerned that your financial systems and processes aren’t ready to handle that level of scrutiny, reach out to The Charity CFO to see if we can help you.

We provide professional, outsourced bookkeeping and accounting support for 150+ nonprofit organizations, many of which have to meet federal guidelines. Our team of nonprofit financial experts will give you the support that your organization has been missing. Reach out for a free consultation.

Statement of Activities: Reading a Nonprofit Income Statement

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What is a nonprofit Statement of Activities?

The Statement of Activities is the Income Statement of a nonprofit organization. It’s one of the core financial statements that all nonprofits need.

You may also hear it referred to as a profit and loss statement or income and expense report.

Simply, it reports your organization’s revenue and expenses during a specific period and the difference between them. 

In the for-profit world, they call the difference between revenues and expenses net income (or profit). 

But a nonprofit calls the difference between revenue and expenses change in net assets. 

Like all nonprofit financial statements, the central role of the Statement of Activities is to provide transparency and accountability to your donors and board. But it’s also an excellent tool for understanding just how healthy your business is.

What’s on the Statement of Activities? 

The Statement of Activities contains 3 main sections:

  1. Revenue
  2. Expenses
  3. Change in Net Assets 

By starting with your revenues and subtracting your expenses, the report helps you answer the all-important question: 

Did we bring in more money than we spent? 

The Statement of Activities further breaks down your revenue and expenses according to any restrictions limiting how or when you may use them. 

1. Revenue: How much money did you receive? 

Revenue includes all flows of cash into your business. It includes donations, grants, fundraising, earned revenue, government funding, and special events.

NOTE: For a nonprofit organization, revenue also includes non-cash gifts, like in-kind donations of goods or services.

If you use cash-based accounting, you’ll only record cash deposited into your bank during the reporting period. 

But, since auditable nonprofit financial statements, we’ll talk about accrual accounting practices in this article. That means your revenue will also include any donations pledged in the period (whether you collected the cash or not) and any receivables (for services rendered but not yet paid).

To comply with Generally Accepted Accounting Principles (GAAP), you must separate your revenue into at least 2 categories:

Restricted Revenue shows funds with donor-placed restrictions on how or when you can spend the money. You can include all restricted funds together or segment them by donation type. 

Unrestricted Revenue shows funds without donor-placed restrictions. You can use unrestricted funds for any mission-oriented purpose, including paying general operating expenses and salaries.

statement_of_activities_revenue

You may choose to break down your revenue into additional categories, such as: 

Sources of Unrestricted Donations: Individuals versus organizations or foundations. 

Federated Campaigns: Donations received indirectly from the public by a fundraising group, like United Way.. 

Government Funding: Funds from local, state, or federal government organizations

Earned Revenue: Income from the sale of goods, services rendered, or work performed

Special Events: Revenue earned at fundraising events (You’re required to keep track of each event separately once it hits $5,000 in revenue.)

statement_of_activities_download


2. Expenses: How much money did you spend? 

The expense section reports all cash that flows out of your organization, including pending expenses—those you know you’ve incurred but haven’t spent the money yet, such as payroll for hours worked the previous month.

NOTE: Nonprofit expenses include any outflow of assets, like in-kind donations and depreciation expenses (not only cash). 

Since functional expenses are a big theme for many investors, particularly the percentage of money you’re spending on programs, most nonprofit Statement of Activities are organized according to functional expenses. 

Expenses are shown by all significant or relevant categories. These are the most common: 

Programs: expenses incurred while carrying out your mission through goods and services

Management and Administration: typically includes “overhead costs,” including operational expenses that don’t specifically relate to executing your mission or fundraising. 

Fundraising: costs directly tied to raising money, including special event costs, advertising, and fundraising staff salaries. 

statement_of_activities_expenses

3. Change in Net Assets: How much money did you make?  

The Change in Net Assets is your bottom line– did you bring in more money than you gave out?

It shows you the “profit” of your nonprofit. But here, we call profit a “surplus” instead.

Yes, a nonprofit can make money. While the goal of a nonprofit isn’t to turn a profit, if you don’t bring in more than you spend, you won’t be able to survive. And a little “profit” helps build your operating reserves to help you survive a slow-fundraising quarter or unexpected expenses.

The Change in Net Assets section shows you how much money you made with a simple equation: 

Net Revenue – Net Expenses = Change in Net Assets 

Once you have the change in net assets, you can compare revenue and expenses by significant program activity (or function) to see exactly where you are making or losing money. 

You should look at your Statement of Activities every month and compare to previous periods. Identify trends and changes in sources of revenue, expenses, and changes to net assets.

Almost all nonprofits will have deficits in specific periods. But those should be offset by surpluses in other periods.

But if you’re spending more than you bring in for several periods in a row, you’re headed for trouble. So you need to figure out what’s going on and fix it. Before you end up out of business. 

What will your CPA look for on your Statement of Activities? 

Your nonprofit Income Statement shows the year-over-year income and spending trends. And how those expenses relate to the work of carrying out your mission. 

But, it also answers several questions about your organization’s overall financial health. 

Here are just a few  of the questions your CPA or auditor will be asking when reviewing your Statement of Activities: 

Questions about Revenue

  • Where is the money coming from? Will we get it next year? 
  • Is the revenue restricted in any way? 
  • Do you have diverse revenue streams? 
  • When you compare year-over-year, are you growing or shrinking? 

Questions about Expenses

  • Are these expenses reasonable? 
  • Are they going up or down? Can we understand why certain expenses are going up or down? 
  • Is most of your money going to program activities (75% of each dollar should go to programming; 25% should go to management and fundraising) 

The Difference Between an Income Statement and a Nonprofit Balance Sheet

A balance sheet is a term commonly known in profit businesses. In the nonprofit sector, there is a similar report known as a “Statement of Financial Position,” “Statement of Activities,” or a “Statement of Cash Flows.”

This type of report gives a quick look at the financial position of an organization. While very similar to an income statement, the balance sheet shows financial activities over a shorter period of time. The information is very similar including:

  • Assets: These include cash, cash equivalents, equipment, and property (among others).
  • Current Liabilities: Any accounts payables for the period covered by the balance sheet, debt payments, and other liabilities related to program expenses.
  • Net Assets: These are the remaining assets after liabilities, separated by general fund assets without donor restrictions and assets with donor restrictions. (Assets with donor restrictions meaning things like certain grant restrictions or even funds for a designated purpose by the individual or organization giving those funds.)

statement_of_activities_download

Need your Statement of Activities on time, every month?

At The Charity CFO, we help 150+ nonprofits get audit-ready financial reports monthly, like clockwork.

We can help you modernize and optimize your accounting systems while also taking the time-sucking bookkeeping tasks off of your hands. And be the trusted financial partner you can turn to for answers to your questions and expert financial advice.

If you’re ready for an accounting partner to ease the burden of monthly bookkeeping and accounting, reach out to us for a free consultation. 

We’ll help you determine if outsourcing your accounting and bookkeeping is the right decision for your organization.

No time to read this article now? Download it for later.

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Fund Accounting for Nonprofits & Charities

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Nonprofits often receive donations or grants designated for a specific purpose–like a donation to a specific program or grant you have to spend within a calendar year.

EXAMPLE: If you receive a donation that’s explicitly for purchasing computers for an afterschool program, you can’t use that money to buy office chairs.

We call revenue from these sources restricted funds because you’re not free to use them however you please. 

And the issue of restricted funds presents unique bookkeeping and accounting challenges for a nonprofit that a for-profit company doesn’t face.

To respond to those challenges, the nonprofit world uses a system of accounting called fund accounting. Fund accounting ensures you track restricted funds separately from unrestricted funds, so you can ensure you’re using funds correctly and demonstrate accountability to your donors. 

Who’s Required to Use Fund Accounting? 

Most not-for-profit organizations and entities–like 501(c)(3) charities, churches, religious institutions, government agencies, nonprofit nursing homes and hospitals, and educational institutions– are required to use fund accounting.

We’re going to focus specifically on how it’s applied to small and mid-sized nonprofits and charities. If you’re looking for info on fund accounting in government here is a great resource for you.

Both Generally Accepted Accounting Principles (GAAP) and Financial Accounting Standards Board (FASB) 116/117 require at least a minimum level of fund reporting, so you’ll need it in order to pass an audit.

If you’re a very small nonprofit, it’s possible you won’t have any restrictions on your donations. But once you start getting larger donations or grants, fund accounting quickly becomes a necessity. 

What is fund accounting? 

Fund accounting is a system of accounting created to help not-for-profit organizations and agencies manage streams of revenue designated for specific purposes. 

Fund accounting differs from for-profit accounting in that it prioritizes accountability, though it does add some complexity to the bookkeeping and accounting process.

As a nonprofit, you have to share your profitability, revenue streams, expense reports, and net assets with many different people, including the general public. And fund accounting ensures that you’re maintaining the degree of transparency required of you.

fund_accounting_for_nonprofits

How fund accounting works:

The core concept of fund accounting is the “funds.” 

Think of each fund as a mini organization within your company, each with its own budget and financial statements that track revenue, expenses, liabilities, assets, and equity (net assets). 

When a donation comes in, it’s assigned to a specific fund. Then you can track that money through your accounting system to see exactly how much is left, where it was spent, and how much value (net assets) it contributes to your organization.

The FASB requires that you set up at least 2 different “funds” within your accounts– one to track assets with donor-imposed restrictions, and one to track assets without donor-imposed restrictions. In many cases, though, you’re going to want to have more funds in order to optimize accuracy and transparency in your finances.

Common fund structures for nonprofits

The two main fund designations are “restricted” and “unrestricted” funds, as mentioned above. But you’ll often want to break those out by the type of restriction (temporary vs. permanent) or the funding source. 

Beyond that, you may want to track grants, endowments, or large-money funders in funds of their own. That makes it easy for you to run fund-level reports to share with your benefactors.

Here are some common fund designations you’ll find on the Statement of Financial Position of many nonprofits:

Unrestricted net assets:

Unrestricted funds often make up the majority of donations for small nonprofits. These funds have no donor-imposed restrictions. So you can use this money for any organizational need that aligns with your legally declared mission.

Examples of unrestricted funds:

  • Donations from general fundraising campaigns
  • Revenue from membership subscriptions
  • Revenue from an event or gala

Temporarily restricted net assets

Temporarily restricted funds must be used for a specific purpose or within a specific period. In some cases, the money becomes unrestricted when a timeline ends or the objective is met. In other cases, unspent restricted funds may need to be returned to the grant maker or donor.

Examples of temporarily restricted funds:

  • A grant that must be used by a certain date.
  • Donations received for a specific construction project (once the project is complete, those restricted funds may be able to be reclassified as unrestricted funds)

Permanently restricted net assets 

Permanently restricted are typically large donations that function as investment accounts or an endowment fund. The money from the interest earned is designated for a specified purpose, and the principal cannot be touched. 

Examples of permanently restricted funds:

  • An endowment whose capital can never be spent
  • Real estate that is donated for a specific use and can’t be sold for a capital gain

Other restricted net assets 

If you have multiple endowments, grants or restricted large-dollar donations, it is recommended that you track them each in their own fund. Some organizations choose to track these funds outside of their official accounting structure (like in a spreadsheet), but setting up individual funds can help you establish transparency and accountability.

PRO TIP: The more exact and specific your accounting system, the more transparent it will be. And the more transparent your accounting system is, the more accountable you’ll be with the public and GAAP. Failure to accurately track restricted funds could jeopardize future contributions and your tax-exempt status.

Fund Accounting & Nonprofit Financial Statements

When you set up funds in your chart of accounts, they’ll show on your financial statements as well. This adds transparency to your finances, but it also makes them a bit harder to read. 

So let’s take a look at where you’ll see restricted funds on your financial reports:

Statement of Activities

You’ll see restricted and unrestricted revenue segmented on your Statement of Activities. So you can see how much of the revenue you’ve generated in a certain timeframe as specific restrictions on its use:


Statement of Financial Position

On your Statement of Financial Position, your fund accounts will pop up in the Assets section (restricted cash balances, restricted fixed assets) and in the Net Assets section (restricted and unrestricted net assets).

The Easiest Way to Keep Tabs on Restricted Funds

The principles behind fund accounting for nonprofits and charities are pretty simple. But the execution is another story.

If you’re not recording every transaction, every month, as it comes in. Otherwise, going back and reclassifying a whole year’s worth of expenses will drive you crazy. And inevitably lead to mistakes.

As leaders in the nonprofit accounting industry, The Charity CFO manages fund accounting for 120+ nonprofits nationwide with precision and expertise.

We can handle your bookkeeping and accounting to deliver accurate financial statements every month that let you know which money you can spend, for which purpose, and when you can spend it.

Unlike most accounting firms, we work exclusively with nonprofit organizations like yours. So there’s nothing your organization can throw at us that we’re not prepared to handle.

Is it time to simplify your accounting process so you can finally focus on your mission?

Reach out to us today for a free consultation.

 

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Nonprofit Audit Requirements: Do You Need An Audit?

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Are you clear on the nonprofit audit requirements for your organization?

Contrary to what many people envision, a nonprofit audit doesn’t usually start with a letter from the IRS. Instead, an independent nonprofit audit is something you choose to build trust in your nonprofit organization.

In fact, the IRS doesn’t issue requirements for nonprofits to be audited, but other federal and state agencies do in some circumstances.

Plus, many grantmakers, foundations, lenders, and donors will require an independent audit before giving money to your nonprofit organization.  

An audit can be a critical step for a growing nonprofit that needs to raise increasing amounts of funds. But it’s expensive. And time-consuming. So it’s not always a wise investment for some smaller nonprofits. 

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In this article, we’ll take a look at what an independent financial audit is and when your nonprofit might need one. And we’ll also look at your less-expensive alternatives for establishing financial credibility with your stakeholders.

What is a nonprofit financial audit? 

what_is_nonprofit_audit

A nonprofit financial audit is an independent examination of the accuracy of your accounting records, financial statements, and internal controls.

It confirms your compliance with federal grant management standards. And many federal and state agencies require audits, depending your organization’s fundraising, size, and spending. 

(For example, 26 states require an audit before a nonprofit can earn charitable registration — necessary for in-state fundraising. And, the Office of Management and Budget requires an audit when a nonprofit spends more than $750,000 in federal funds in a year through the end of 2024. Starting in 2025, the new threshold will increase to $1,000,000.)

When you pass the audit, you’ll receive a clean bill of health from your auditor and a professional opinion stating the accuracy and validity of your accounting records. It assures outside observers that “the organization’s financial records meet generally accepted accounting principles.”

Bottom line? An audit shows your organization is trustworthy, compliant, and well-managed. 

And that inspires trust and confidence among potential funders, banks, and other potential partners.

What a nonprofit financial audit is NOT: 

irs_audit

First, this isn’t the same as an IRS audit–it’s not an “I’m being audited!” situation. 

Instead, it is a decision to take proactive ownership of your organization’s financial health, transparency, and validity by hiring a professional to examine your books. 

It’s also not a compilation of your financial statements, your financial strategy, or a report of financial viability. Those are up to you and your in-house or outsourced accounting team. 

What are the nonprofit audit requirements? And is your organization required to have one?

There are no hard-and-fast rules for when you need to conduct an audit. But here are some of the common external triggers that may require you to conduct an independent audit: 

✔️ When you spend over $500,000 per year.
Nonprofits that spend $500,000 a year are typically required to do an annual audit (but this varies by state, so check your state’s requirements)

✔️ When it is in your bylaws.
Check your company’s founding documents. The founders may have stated the organization would complete annual audits.

✔️ When you receive federal funding.
Organizations that receive more than $750,000 in federal funding may be required to complete an audit.

✔️ When you want to get serious about grant funding.
Many grants require an audit (not a review or compilation) because it provides an opinion of assurance.

✔️ When you want to apply for a loan.
Many banks will ask for audited financials as a prerequisite for lending you money. 

Some internal changes may also trigger an audit: 

  • Changes in services, programs, or leadership 
  • Acquiring, merging with, or losing a partner organization  
  • Shifting debt, leases, or contracts 

The benefits of an independent financial audit for nonprofits:

No other report, review, or statement inspires more confidence than an audit. Which makes it easier for you to attract larger donations, apply for grant funds, and access lending facilities.

Because it’s a universal indicator that your organization takes fiscal responsibility seriously, it’s impact goes beyond fundraising. An audit is also a symbol to the media, volunteers, watchdog groups, and the community you serve. 

Internally, it provides valuable oversight for your bookkeeper or accounting team. And it gives the board and leadership the peace of mind that your books are accurate and reliable. 

All in all, a financial audit helps you hold your organization accountable to your mission, build trust with the outside world, and access money to pursue your goals.

Less expensive alternatives to a nonprofit audit: 

nonprofit_audit_alternatives

Because a nonprofit audit can easily cost $10,000+, not every nonprofit can afford one. 

If you need to build confidence but aren’t ready to invest in an audit, you have two main alternatives: a financial review and a financial compilation.

We’ll look at the differences between your three options here. But the primary difference between a financial review, a financial compilation, and an audit is the level of “assurance” they provide.

What is assurance? 

Assurance is an opinion given by a CPA on the accuracy of an organization’s financial statements. It shows whether or not your accounting records are accurate per generally accepted accounting principles (GAAP), in the auditor’s professional judgment.

An audit provides reasonable assurance, a review offers limited assurance (but not a professional opinion), and a compilation offers zero assurance. 

Nonprofit Audit Alternative #1: Financial Review 

In a Financial Review, an independent auditor reviews your financial statements to determine if they’re consistent with generally accepted accounting principles (GAAP). 

It offers limited assurance that no significant modifications need to be made. While it does evaluate the accuracy of financial records, no professional opinion is given on that accuracy. A financial review typically costs 40-60% less than an audit. 

Despite the lower level of assurance, a financial review may be enough for some grantmakers to approve your organization. Even if a grant asks for audited financials, sometimes that isn’t a deal-breaker if you have a financial review and meet their other criteria.

But without at least a financial review, you’re probably out of luck when it comes to most grants. 

Nonprofit Audit Alternative #2: Financial Compilation 

A compilation simply organizes your financial records for a specific period in a GAAP-acceptable format without evaluating the accuracy of those records.

It’s a cost-effective option for organizations that need a GAAP report. But it offers zero  assurance as to the accuracy of your books. 

A compilation can help your nonprofit identify obvious errors by getting their books into an organized format. It adds primary value and serves owners, board members, creditors, and financial institutions. A compilation is your least expensive and time-consuming option. 

Not sure if you meet the requirements for a nonprofit audit? We can help you figure that out. 

The Charity CFO doesn’t conduct nonprofit audits. But we have 5 former nonprofit auditors on our team, so we know exactly how to prepare your organization to pass your audit the first time.

Even better, with our nonprofit bookkeeping and accounting services, we’ll ensure your books are always audit-ready. Plus, give you timely financial reports and expert advice that help you carry out your mission.

We’ll help clean up your books and implement state-of-the-art systems to save you time and bring your accounting department into the 21st century.

We’re honored that over 120 nonprofits trust us with their bookkeeping and accounting. And we’d be excited to show you how we can help your organization meet your goals.

 

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