What Your Board Should Know About Nonprofit Accounting
Board members of your nonprofit organization have a responsibility to understand some of the fundamentals of running it. These include your mission, the people you serve and any federal and state regulations that apply to you.
One of the questions our nonprofit members at Addition Financial ask us is this:
The short answer to that question is yes. However, they don’t need to be professional accountants or spend hours studying nonprofit accounting to be effective as board members. We’ve put together this list of accounting basics that your board members should know.
Main Financial Statements Required
The first thing your board members should know about nonprofit accounting is that the reporting requirements differ from those required for-profit entities.
Here are the basic reporting requirements:
Statement of financial position
Statement of activities
Statement of functional expenses (by function and nature)
Statement of cash flows
Notes to financial statements
You can find a full explanation of GAAP standards here. Your board members don’t need to know all of the details, but they should have an understanding of the documentation you’re required to produce.
What Being a Nonprofit Means
One common mistake people make when they’re invited to join the board of a nonprofit organization is thinking that “nonprofit” means an organization can’t earn profits. If your board members don’t understand that profit isn’t a dirty word, they may hold you back from raising needed funds.
Having more donations than you can use at a given time is a good thing. The key, as you know, is that making a profit cannot be your goal. Cash on hand will allow you to pay unexpected expenses, meet unanticipated needs and keep your organization afloat when donations slow down.
In the for-profit world, revenue is relatively easy to define. It’s what a company earns for selling products or services. In the world of nonprofit organizations, revenue includes a variety of things. It’s important for board members to understand what must be reported as revenue.
Nonprofit revenue may include any or all of the following things:
Ticket sales for fundraising events
Sales of branded merchandise
So, in other words, if you have an online store that allows people to buy branded merchandise, it counts are revenue. The same goes for stand-alone donations, interest earned on Donor Advised Funds and grants awarded to your organization.
Sometimes, money may be donated to a nonprofit organization with restrictions imposed by the donor. That’s something that can happen with stand-alone donations and may also apply if a donor makes a large donation that’s held in a Donor Advised Fund.
Your board members should understand the difference between restricted and unrestricted donations. Restrictions may be bounded by time or purpose. In other words, you may be restricted about when to use the money or how to use it.
Some restrictions may be permanent. It’s essential for shareholders to know if you have funds that may not be used. For example, some restrictions apply to the principal of a fund but not to interest earned on the money.
Mission and Ownership
This isn’t about accounting, but you should make sure your board members understand the mission and ownership of your organization. This item ties into the “Statement of Activities” we mentioned earlier in this article.
Your mission is related to the purpose of your organization. The Statement of Activities is equivalent to the Income Statement of a for-profit entity.
Any expenditures the board approves must tie into your mission as outlined in the Statement of Activities. It’s important that board members know there’s a connection – and that it’s their responsibility to maintain it.
Your nonprofit organization may or may not be exempt from federal income tax. You must apply to the IRS to be awarded tax-exempt status, and your board members should know whether you have it.
Keep in mind that the issue of whether donors may claim their donation as a tax-deductible expense on their tax returns is a separate issue. Schools, churches and the Red Cross are three examples of organizations that are both tax-exempt and whose donations qualify as charitable deductions.
Some nonprofits can claim a tax-exemption but donations do not qualify as charitable deductions. These include:
Amateur sports clubs
Chambers of commerce
College sororities and fraternities
If they want more information, you can refer them to Internal Revenue Service Publication 557, Tax-Exempt Status for Your Organization, which you can find here.
All board members should understand the basics of nonprofit accounting as we’ve explained them here. You may find that some board members want to learn more – and you should encourage them to do so.
Having a checking account that’s especially designed for nonprofit organizations can help you with your accounting. Addition Financial can help. Click here to learn more.