Back to: Financial Accounting
Hello everyone!
In the previous week, we will be delving into Accounting for Non-Profit Organisations. While most of the accounting we’ve looked at so far has been related to businesses with the primary goal of profit, non-profit organisations (NPOs) have different objectives. Let’s explore the basics of NPO accounting and how it differs from for-profit businesses.
Accounting for Non-profit Organisations
1. What is a Non-Profit Organisation?
A Non-Profit Organisation (NPO) is a type of entity that operates to serve the public or a specific group of people, rather than to generate profit for its owners or shareholders. Instead of distributing profits to shareholders, NPOs reinvest any surplus funds into their activities or missions.
Common examples of NPOs include:
Charities
Foundations
Educational institutions
Religious organisations
Healthcare organisations
2. Key Differences Between For-Profit and Non-Profit Accounting
Non-profit accounting differs from traditional business accounting in several ways:
Profit Motive: NPOs do not have a profit motive, so their goal is to break even or accumulate surplus funds for reinvestment in their activities.
Revenue Sources: Instead of generating revenue from sales of goods or services, NPOs typically rely on donations, grants, and fundraising activities.
Fund Accounting: NPOs often use a system known as fund accounting, where financial resources are tracked and reported according to the restrictions placed on them by donors, grants, or other sources of funding.
3. Types of Funds in Non-Profit Accounting
Non-profit organisations often use fund accounting to separate different types of resources based on their intended purpose. The main types of funds are:
Unrestricted Funds: These funds have no specific restrictions placed on them by donors and can be used at the discretion of the organisation for any purpose related to its mission.
Restricted Funds: These funds come with restrictions set by donors or grantors, specifying how they can be used. For example, a donation for a specific project (like building a school) would be a restricted fund.
Endowment Funds: These funds are donated with the intention of keeping the principal intact while using the interest income for the organisation’s operations.
4. The Income Statement for Non-Profit Organisations
Non-profits prepare an Income Statement (sometimes referred to as a Statement of Activities) to show their revenue and expenses for a given period. The key difference here is that instead of focusing on profit, the statement shows the change in net assets (similar to net income in for-profit companies).
The Income Statement will typically include:
Revenue: Includes donations, grants, membership fees, and other income sources.
Expenses: Includes salaries, rent, supplies, and program-related costs.
Net Assets: This shows the surplus or deficit for the period, based on how revenues exceed or fall short of expenses.
5. The Balance Sheet for Non-Profit Organisations
Non-profit organisations also prepare a Balance Sheet (often referred to as a Statement of Financial Position), which shows the organisation’s assets, liabilities, and net assets. Unlike a for-profit company, the equity section for NPOs is split into unrestricted, restricted, and temporarily restricted net assets, depending on the donors’ restrictions.
Financial Reporting for NPOs
NPOs are required to report their financial performance and position in a transparent manner. Key financial statements include:
Statement of Activities (Income Statement): Reflects the revenue, expenses, and changes in net assets.
Statement of Financial Position (Balance Sheet): Displays the NPO’s assets, liabilities, and net assets.
Statement of Cash Flows: Reflects the inflows and outflows of cash, similar to for-profit businesses, to show the liquidity position of the organisation.
These statements must adhere to Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS), depending on the jurisdiction.