The Financial Accounting Standards Board (FASB) has issued its long-awaited and much debated Accounting Standards Update (ASU) 2016-14, Presentation of Financial Statements for Not-for-Profit Entities. The ASU is the first in a two-phase project, and will change the way all not-for-profits (NFPs) classify net assets, prepare financial statements, and disclose certain liquidity and other information. The ASU is effective for fiscal years beginning after December 15, 2017 (i.e., for years ending December 31, 2018 and beyond). Early application is permitted by FASB. The amendments should be applied on a retrospective basis in the year that the ASU is first applied, with some optional exceptions. Obtain the ASU from FASB by clicking here.
FASB believes the new standard will improve NFP financial reporting by:
- Reducing the complexity in net asset classification by eliminating the concept of permanently restricted net assets; this better aligns with the provisions of the Uniform Prudent Management of Institutional Funds Act (UPMIFA)
- Improving the transparency and utility of information regarding liquidity and availability of cash to meet general expenditures
- Increasing information as to what is and is not included in an entity’s financial performance measure
- Eliminating inconsistencies in the type of information provided in reporting of expenses by function and nature across NFPs
- Eliminating the requirement to prepare the indirect method reconciliation if an NFP chooses to use the direct method of presenting operating cash flows
Net Asset Categories Have Been Reduced from Three to Two
The three existing classes of net assets will now become two through the consolidation of the temporarily and permanently restricted categories. The new categories will be:
- Net assets without donor restrictions
- Net assets with donor restrictions
To help readers understand the various donor restrictions, NFPs will need to include in the footnotes information about the nature and timing of donor restrictions, as well as the composition of net assets with donor restrictions at the end of the period. Disclosures for net assets with donor restrictions include time, purpose and perpetual restrictions. Net assets restricted for perpetual duration, such as endowment funds, will be identified as such, but included as a subset within the net assets with donor restrictions category, and will no longer be labeled or reported in the financial statements as permanently restricted net assets.
While the title has changed, there is no substantive difference between the new category (net assets without donor restrictions) and the previous category (unrestricted net assets).
New Classification for Underwater Endowments, and Additional Disclosures Required
To better align with the provisions of UPMIFA, endowments with current fair values less than original gift amounts (underwater endowments), will now be classified as net assets with donor restrictions, instead of the current classification as unrestricted net assets. Additional disclosures will be required, including the original amounts of the endowments and the NFP’s policy for continued spending from underwater funds, and whether or not that policy was followed.
More Disclosures Will Be Required for Board-Designated Net Assets
Enhanced disclosures on net assets without donor restriction designated for specific periods or purposes by an NFP’s governing board will now be required. This information will include both designations and appropriations of designated net assets.
The Concept of Implied Time Restrictions Has Been Eliminated
The new standard eliminates the former option of implying time restrictions on contributions of long-lived assets or on contributions of gifts of cash or other assets to be used for the acquisition of long-lived assets over their estimated useful lives. Now, all such contributions will be released to net assets without donor restrictions when the asset is placed in service, absent explicit donor requirements or stipulations.
New Minimum Disclosures about Liquidity and Availability of Cash to Meet Needs
Quantitative and qualitative information about liquidity will be required to provide financial statement users with an understanding of an NFP’s exposure to risk, how the entity manages its liquidity risks, and the availability of assets to meet cash needs for general expenditures within one year of the balance sheet date.
These quantitative disclosures will include:
- The total amount of financial assets at the balance sheet date
- The total amount of financial liabilities at the balance sheet date
- Amounts not available to meet cash needs within the stated time horizon due to various restrictions, which include but are not limited to:
- The nature of the financial asset
- External limits imposed by donors, laws, and contracts
- Internal limits imposed by the entity’s governing board
However, footnote disclosure is required only when the information is not already apparent on the statement of financial position. Therefore, presenting a classified balance sheet may be sufficient for some organizations to comply with at least some of the new disclosure requirements.
Additional Information on the Composition of Financial Performance Measures
As is the case now, but adjusted for the new categories of net assets, NFPs will be required to report the amount of change in each of the two classes of net assets in the statement of activities. And, while NFPs continue to be permitted to present an intermediate measure of operations, disclosures will need to be enhanced to provide additional information about the items included or excluded from the operating measure.
Net Investment Return Is the New Way to Report Investment Performance
Presentation of net investment return (investment return less investment expenses) will be required on the face of the statement of activities. External and direct internal investment expenses will be netted against investment return. A disclosure of the components of net investment return is no longer required.
All NFPs Will Be Required to Present Expenses by Both Function and Nature
All NFPs will be required to report expenses by both function and natural classification in a single location, which could be on a separate statement, on the face of the statement of activities, or in the footnotes. While a separate statement of functional expenses is not required, it may be the most effective presentation option for NFPs with more than one program. Investment expenses that have been netted against investment return are not to be included in that analysis. Additional disclosures regarding specific methodologies used to allocate the various costs among program and supporting services functions also are required.
Simplification for Use of Direct Method Statement of Cash Flows
The new standard continues to allow NFPs to present the statement of cash flows using either the direct or indirect method. However, NFPs choosing to use the direct method no longer are required to present or disclose the indirect method reconciliation.
Implementation of the ASU Is Not Expected To Be Difficult for Most NFPs
Implementing the provisions of the new ASU should not be particularly difficult, nor should require significant changes to an NFP’s existing chart of accounts structure, although certain accounts most likely will need to be regrouped for aggregation into new or additional financial statement line items. Most of the new requirements already are available to NFPs as options under GAAP before issuance of the ASU, with the exception of the following items:
- Combining the temporarily restricted and permanently restricted net asset classes into one net asset class
- Presenting a deficit situation in endowments in a restricted net asset class rather than in unrestricted net assets
- Eliminating the disclosure of investment expenses that are netted against investment returns
- Eliminating the indirect method reconciliation when utilizing the direct method on the statement of cash flows
Please note that conduit debt obligors for public debt will be required to adopt the new revenue recognition standards in the same period as ASU 2016-14 is adopted, which could create difficulty if the NFP is not prepared.
Still to Come – Phase 2
In order to move forward with its financial reporting for NFPs project, FASB divided the financial reporting project into two phases.
This ASU captures the decisions reached in Phase 1. A future Phase 2 of the project will address additional issues including:
- Operating measure – other elements and considerations not addressed in Phase 1, including:
- Whether or not to require intermediate measure(s)
- Whether and how to define such measure(s) and what items should be included/excluded from the measure(s)
- Alignment of the measure(s) of operations in the statement of activities with the measure(s) of operations in the statement of cash flows.
There is no estimated timeframe for the completion of Phase 2 of the project at this time.
Eide Bailly serves over 2,000 not-for-profit organizations. We can help you implement this new standard with minimal disruption to your staff or ongoing operations, and ensure your organization’s compliance now and in the future. Contact your Eide Bailly representative to arrange a consultation today.