Since nonprofit organizations don’t profit from the money they make, the accounting processes for nonprofits look somewhat different than for-profit companies. And one of the key differences is that nonprofits talk about net assets rather than net income or equity. Permanently restricted funds, often referred to as endowments, are donations where the principal amount must remain intact indefinitely.

Best Practices for Managing and Utilizing Net Assets

• Effective reporting is a cornerstone of nonprofit accountability and transparency, particularly when it comes to restricted funds.
• It’s possible for fixed assets to have donor restrictions, for example a building that can only be used for a specific purpose, but in this example fixed assets are not restricted.
• Yes, nonprofits often undergo audits to ensure accuracy and compliance, especially when required by law or grant agreements.
• Therefore, until the actual summer camp session rolls around, the registration fees are considered deferred revenue.
• This section discusses best practices for managing these assets, strategies for their growth, and the critical roles of the board and financial officers in overseeing these resources.

Most conversations about Net Assets revolve around the Balance Sheet or Statement of Financial Position. This is where you’ll find the balance of Net Assets that shows the accumulated financial reserves of your organization. Consider the reclassification as an “Income Statement” or P&L entry in the regular business world, where debit means expense and credit means revenue.

• For example, you receive a grant to provide transportation for visually impaired individuals or to conduct a summer theatre program for teens.
• Accurate accounting is especially important for contributions and grants with donor restrictions that are intended for use over a multi-year period.
• Usually, the restriction is either brought up by the donor or by the nonprofit itself.
• These assets are not bound by donor-imposed restrictions, allowing the organization to allocate them where they are most needed.
• In the example below, the board designated an additional $10,000 to the Operating Reserve since there was a larger than normal operating surplus.

Are You Ready To Outsource Your Accounting?

When your nonprofit creates a budget, you need to allocate funds according to the restrictions and exempt those with permanent restrictions. You must take these into account as you create your budget to ensure you have the funds necessary to cover your expenses and can allocate enough funding for each program. This statement is designed to show organizations how they’re allocating their resources and how their use of funding helps advance the organization’s core initiatives. In the example above, you can see that $150,000 of the funds for this organization are restricted and must be used for a specific purpose. To donors, restricted funds are important because they can ensure they understand exactly where their contribution is going and can dedicate it towards the program they’re most passionate about. Nonprofits should include disclosures regarding the liquidity and availability of resources.

Importance of Cash Flow Management:

Conversely, a negative change in net assets highlights that expenses were higher than revenue, signaling potential financial challenges that may require adjustment in budgeting or fundraising efforts. A positive change in net assets indicates that revenue exceeded expenses, contributing to financial growth and potentially allowing the organization to expand its programs or build reserves. Categorizing expenses by function enables transparency and helps stakeholders understand how efficiently the organization allocates resources. So whenever a donor may make a donation in perpetuity with certain restrictions, it is a permanently restricted asset. Only the donor decides whether the donations are to be restricted for specific purposes or can be spent by the not-for-profit entity for purposes it may deem best. The party holding restricted assets is https://nerdbot.com/2025/06/10/the-key-benefits-of-accounting-services-for-nonprofit-organizations/ legally or contractually obliged to use the assets on certain previously agreed-upon activities only.

Net Assets with Donor Restrictions as to Purpose

Breaking these into functional areas (program, admin, fundraising) helps nonprofits adhere to accounting best practices and prepare IRS Form 990. Organizations typically prefer donations of unrestricted net assets because they allow them maximum flexibility to spend as they see fit, whether for hiring additional personnel or expanding their services. 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. 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.

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• The reclassification process also involves updating financial statements to reflect the change in the nature of the net assets.
• Permanently restricted funds, often referred to as endowments, are donations where the principal amount must remain intact indefinitely.
• Understanding how to handle these funds properly can make the difference between achieving an organization’s mission or facing financial difficulties.
• In the United States, for example, the Uniform Prudent Management of Institutional Funds Act (UPMIFA) provides guidelines on managing and investing donor-restricted endowments.
• For example, buying new office equipment or upgrading facilities would fall under this section.
• If a small or midsize nonprofit does have an endowment, the donor often requires that the income generated from the gift be used for operations or for a specific purpose.

To nonprofits, restricted funds are important because many major donations that help fund large initiatives are restricted by the contributor. For example, a major donor might decide to give a gift of $650,000 to an organization but require the funds be placed in an endowment. That donor may further restrict the interest made off of the contribution and require it to be used for a scholarship program. NFP A has a goal to maintain financial assets, which consist of cash and short-term investments, on hand to meet 60 days of normal operating expenses, which are, on average, approximately $275,000. NFP A has a policy to structure its financial assets to be available as its general expenditures, liabilities, and other obligations come due. In addition, as part of its liquidity management, NFP A invests cash in excess of daily requirements in various short-term investments, including certificate of deposits and short-term treasury instruments.

Donor Confidence

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. Fund accounting is a system of accounting created to help not-for-profit organizations and agencies manage streams of revenue designated for specific purposes. Donors may stipulate that the funds are to be utilized within a certain period or after a particular date. For instance, a donor might provide a grant that can only be accessed starting in the next fiscal year.

Explanation of Basic Accounting Terms Relevant to Nonprofits

Unrestricted net assets are essential for the sustainability and growth of nonprofit organizations. They provide the financial autonomy needed to manage day-to-day operations and to adapt to changing circumstances, ensuring that the organization remains effective in achieving its mission. Donor contributions significantly influence both unrestricted and restricted funds within a nonprofit. Unrestricted funding allows organizations to allocate resources as needed, while restricted funding is designated for specific projects or purposes, impacting how net assets are utilized.

Grants receivable means grant funding that has been committed to the organization but not received. In the above example, net assets of $100,000 does in fact equal total assets (cash) of $100,000. Inside this resource, you’ll find a list of the 12+ tools that my team and I know and use to help nonprofits save time and money, plus direct links so you can check them out yourself. In order to calculate net assets as of the end of the accounting period, follow these steps.