Nonprofit Accounting versus For-Profit Accounting

For organizations dedicated to public welfare, accounting plays a pivotal role in ensuring transparency and accountability for stakeholders. The following are relevant accounting standards, financial statement composition and differences between for-profit and nonprofit accounting.

Key Differences  

• Mission over profit: While corporations focus on shareholder wealth maximization, nonprofits prioritize their mission, which is reflected in their net asset presentation. For-profits report equity, whereas nonprofits emphasize donor-restricted and unrestricted resources.
• Revenue recognition: For-profits derive revenue from selling products and services, while nonprofits are driven by contributions, grants and exchange transactions per Accounting Standards Update (ASU) 2018-08 from the Financial Accounting Standards Board (FASB).
• Expense allocation: Nonprofits are mandated to disclose expenses by both function (e.g., program services and management) and nature (e.g., salaries, rent) reflecting programmatic and support efforts. For-profits classify expenses by function.
• Liquidity and availability disclosures: Nonprofits face greater scrutiny on meeting short-term cash needs as they must disclose qualitative and quantitative information about their liquidity and availability of resources. ASU 2016-14 requires both quantitative and qualitative disclosures about liquid resources.
• Stakeholder reporting: Nonprofits focus on transparency for donors, grantors and regulators, with financial reports tailored to these audiences. Enhanced liquidity disclosures under ASU 2016-14 support this mission.

Composition of Nonprofit Financial Statements

• The Statement of Financial Position categorizes assets, liabilities and net assets, emphasizing liquidity and resource restrictions. ASU 2016-14 mandates the use of simplified net asset classifications for accessibility.
• The Statement of Activities tracks changes in net assets, categorizing revenues and expenses by donor-imposed restrictions. It focuses on the mission-driven objectives of nonprofits.
• The Statement of Functional Expenses uses a dual-format disclosure, mandated by ASU 2016-14, that breaks down expenses by natural and functional classifications, such as program services versus management costs.

• The Statement of Cash Flows is prepared using either the direct or indirect method and categorizes cash flows into operating, investing and financing activities with emphasis on donor-restricted funds impact on liquidity.

Accounting Standards

ASU 2016-14, Presentation of Financial Statements of Not-for-Profit Entities, is effective for fiscal years beginning after Dec. 15, 2017. Topic 958 (Not-For-Profit Entities) now governs the accounting and reporting of nonprofits, replacing Statement of Financial Accounting Standards (SFAS) 116 and 117. Major updates include the following:

• ASU 2016-14 revised financial reporting for nonprofits to enhance clarity and usefulness for stakeholders such as donors and creditors. It simplifies net asset classifications from three categories to two: "net assets with donor restrictions" and "net assets without donor restrictions."
• ASU 2020-07 requires nonprofits to present contributed nonfinancial assets (donated goods and services) as separate line items and disclose their utilization. 
• ASU 2018-08 provides a framework to distinguish between conditional contributions (reciprocal transactions or exchanges) and unconditional contributions (non-reciprocal transactions) assisting in proper revenue recognition.
• ASU 2021-03: Topic 350 simplified goodwill impairment testing for nonprofits, allowing a single-step test, alleviating administrative burdens and ensuring reporting that aligns with mission goals and objectives.

For nonprofits operating globally, International Financial Reporting Standards (IFRS) may apply. IFRS for Small and Medium-Sized Entities is a framework relevant for nonprofits.

Key Compliance and Regulatory Requirements

U.S. nonprofits receiving federal funding must follow Uniform Guidance (2 CFR Part 200) rules, including:

• Cost principles: Defines allowable costs for federal grants.
• Single audit requirements: Mandates audits for entities spending over $750,000 in federal funds.
• Internal controls: Ensures proper documentation and safeguards for federal funds.

Nonprofits in the U.S. must file the following annual reports with the IRS to maintain tax-exempt status:

• Form 990: Offers a detailed view of finances, programs and governance.
• Form 990-T: Filed for unrelated business income, ensuring taxes on non-exempt activities.
• Public support test: Determines eligibility for public charity status.

Nonprofits must navigate complex compliance landscapes and align reporting practices with donor expectations and regulatory updates to maintain trust. This financial stewardship helps the organization to focus on completing mission goals, making a positive impact and serving the public. 

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Muhammad Azeem Muhammad Azeem Shaikh is a tax consultant at Probe Business Solutions and owner of MAS Accounting Solutions LLC. More content by Muhammad Azeem: What CPAs Need to Know about ESG Reporting