On April 22nd, the Financial Accounting Standards Board (FASB) issued a proposal that is intended to improve the information provided in not-for-profit (NFP) financial statements and the notes to those financial statements. The proposal would affect substantially all NFPs, including charities, foundations, private colleges and universities, nongovernmental health care providers, cultural institutions, religious organizations, and trade associations, among others.
The proposal contains recommended enhancements to the fundamental reporting model for NFPs—a model that has existed for more than 20 years. Specifically, the proposed changes are intended to:
- Simplify the existing net asset classification scheme along with enhanced note disclosures
- Better reflect financial performance in the statement of activities
- Enhance information in the notes to help financial statement users better assess an NFP’s liquidity and how it is being managed
- Make information about expenses more comparable and useful
- Make the statement of cash flows more understandable
Net Asset Classification
In order to simplify the net asset classification scheme, the proposal would require NFPs to present, on the face of the statement of financial position, the amount for each of two classes of net assets—net assets with donor restrictions and net assets without donor restrictions—as opposed to three. The proposal would also retain current requirements to provide information about the nature and amounts of different types of donor-imposed restrictions, and also require similar information about governing board designations, highlighting the importance of information about how those restrictions and designations affect the use of resources, including their liquidity. In addition, the proposal would change how the underwater amounts of donor-restricted endowment funds are classified; those amounts would be classified in net assets with donor restrictions. The proposal would also require disclosure of the aggregate amount by which the funds are underwater, the original gift amount (or amount required to be maintained by the donor or law), and any governing board policy or decisions to spend, or not spend, from such funds.
Statement of Activities
To better reflect financial performance, the proposal would require presentation, on the face of the statement of activities, of the amount of the change in each of the two classes of net assets noted above, rather than that of the currently required change for each of three classes. An NFP would continue to report the currently required amount of the change in total net assets for the period. In addition, the proposal would require presentation of two measures (subtotals) of operating activities associated with changes in net assets without donor restrictions. Those subtotals would reflect operating activities for the period, which would be distinguished from other activities on the basis of whether the resource inflows and outflows are from or directed at carrying out an NFP’s purpose for existence and available for current-period operating activities. The first subtotal would include operating revenues, support, expenses, gains and losses that are without donor-imposed restrictions and is before internal transfers. The second subtotal would include the effects of internal transfers resulting from governing board designations, appropriations, and similar actions that place (or remove) self-imposed limits on the use of resources that make them unavailable (or available) for current-period operating activities.
The proposal includes some specific requirements directed at improving a financial statement user’s ability to assess an NFP’s liquidity and how it is being managed by the NFP. Specifically, the proposal would require the disclosure of both quantitative and qualitative information about the liquidity of assets and near-term demands for cash as of the reporting date, including:
- The amount of financial assets at the end of each period and the amount that, because of restrictions or limitations on their use, is not available to meet the cash needs in the near term
- The amount of financial liabilities that require cash in the near term and the way an organization manages its liquidity, including the time horizon it uses in the management of liquidity.
Information about Expenses
In order to make information about expenses more comparable and useful, the proposal would require all NFPs (not just voluntary health and welfare organizations) to provide information about their operating expenses by both nature and function—on the face of the statement of activities, as a separate statement, or in the notes to the financial statements, supplemented with enhanced disclosures about the methods used to allocate costs among functions. In addition, all NFPs would be required to present investment return net of related external and direct internal expenses.
Presentation of Operating Cash Flows
The proposal would require two fundamental changes to increase the understandability and usefulness of the statement of cash flows:
- Present, on the face of the statement, the net amount for operating cash flows using the direct method of reporting rather than the indirect method. (The indirect method would be permitted as additional information, but no longer required.)
- Classify certain cash flows differently from current guidance, as follows:
- Classify as operating cash flows (rather than as investing cash flows) those cash flows resulting from (1) purchases of long-lived assets, (2) contributions restricted to acquire long-lived assets, and (3) sales of long-lived assets.
- Classify as financing cash flows (rather than as operating cash flows) those cash flows resulting from payments of interest on borrowings, including cash management activities.
- Classify as investing cash flows (rather than as operating cash flows) those cash flows resulting from receipts of interest and dividends on loans and investments other than those made for programmatic purposes.
Effective Date and Transition
The effective date, and whether it should be the same for all NFPs, as well as whether early adoption would be permitted, will be determined by the FASB after considering feedback on the proposal.
In the meantime, if you have questions, please contact your Elliott Davis Decosimo advisor.