Introduction to Financial Reporting of Assets of Not-For-Profit Organizations:
The financial statements prepared by a non-profit organization have different names than the ones prepared by a for-profit organization since these organizations do not make a profit and rely heavily on donations or other resources in order to achieve their mission.
Their income statement is called the statement of activities or statement of receipts and expenditure, their balance sheet is known as the statement of financial position or statement of fund balance and the shareholder’s equity portion is replaced by the total net assets since there are no owners in a non-profit organization, which is why the difference between the total assets and the total liabilities is referred to as the total net assets.
These net assets are further divided into three categories: unrestricted net assets, temporarily restricted net assets, and permanently restricted net assets; which, when combined together, make up the total net assets of the non-profit organization.
Most of the donations received by these non-profit organizations are unrestricted net assets; however, some donors may even classify their donations as either temporarily restricted net assets, or permanently restricted net assets, as defined below:
- Unrestricted net assets are those donations that are free of impositions by the donors and can be used by the organization for any purpose.
- Temporarily restricted net assets are the donations that are made for some specific purpose and they must be used within a specific period of time, such as, within a year. For example, these donations can be made for the purpose of a construction project, the purchase of a vehicle/building, or for any other program operating within the organization. The temporarily restricted net assets on the statement of financial position will increase and the donation is also recorded as a temporarily restricted contribution revenue in the statement of activities.
- Permanently restricted net assets are those donations that the donor makes in perpetuity. For example, making donations in the form of stocks, since in this way, the dividends from the stocks can further be used to fund the non-profit organizations. The stocks would not be sold so that they could continue to grow and provide dividends indefinitely. The treatment for permanently restricted net assets in the financial statements is the same as for temporarily restricted net assets.
Definition of Unrestricted Assets:
Unrestricted net assets are those donations to non-profit organizations which have no strings attached and the donor hasn’t established any specific rules as to how the organization is supposed to use that donation, which is why they can use these assets to cover any types of general expenses that might incur or for any other valid purpose of the organization.
These types of net assets are more preferable by the organization than the temporarily or permanently restricted net assets since these allow the organization a large amount of flexibility in deciding where they want to spend these donations, whether for expanding their services, covering additional expenses, hiring additional staff, etc.
Understanding Unrestricted Assets:
In the non-profit organization’s financial statements, these donations will appear on the statement of activities as unrestricted contribution revenue and on the statement of financial position as an unrestricted net asset under the portion of the net assets.
The primary tool of the Internal Revenue Service is the Form 990 that is in accordance with the statement of activities and the statement of financial position and is used as a template by the organizations in order to prepare their financial statements.
The unrestricted net assets will be positive when the sum of the unrestricted contribution revenues and gains are more than the sum of the unrestricted expenses, increasing the net assets in the statement of financial position and appearing as unrestricted contribution revenue in the statement of activities, thus increasing the change in net assets.
On the other hand, the unrestricted net assets will be negative when the sum of the unrestricted expenses are more than the unrestricted contribution revenues and gains, thus decreasing the net assets in the statement of financial position, and appearing as unrestricted contribution loss in the statement of activities, thus reducing the change in net assets.
These unrestricted net assets are also referred to as the operating reserves and represent the cumulative earnings over the life of the non-profit organizations.
Through these funds, the organizations can pay off their current expenses as well as look around for other programs or projects that might exist.
Most of the organizations receive unrestricted revenues through donations, fees for services, investment income, ticket sales, or membership income.
Other sources of revenue might include unrestricted grants or contributions and in some cases, it can also be through the release of the temporarily restricted net assets.
However, it doesn’t really matter where the revenue is coming from, as long as the unrestricted net assets amount is positive and it positively contributes to the overall financial health of the non-profit organization.