Electronic
Presentations
in Microsoft®
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Prepared by
James Myers,
C.A.
University of
Toronto
© 2010 McGraw-Hill
Ryerson Limited
Chapter 12, Slide 1
© 2010 McGraw-Hill Ryerson Limited
Chapter 12
Accounting for
Not-for-Profit Organizations and
Governments
Chapter 12, Slide 2
© 2010 McGraw-Hill Ryerson Limited
Learning Objectives
1.
2.
3.
4.
5.
6.
Describe the not-for-profit accounting practices
currently mandated in the CICA Handbook
Explain the use and the workings of a budgetary
control system that uses encumbrances
Prepare journal entries and financial statements
using the deferred contribution method of recording
contributions
Prepare journal entries and financial statements
using the restricted fund method
Explain the purpose behind fund accounting
Outline the basics of government financial reporting
Chapter 12, Slide 3
© 2010 McGraw-Hill Ryerson Limited
Introduction

Not-for-profit organizations (NFPOs) are defined in the
Handbook 4400.02 as:
… entities, normally without transferable ownership
interests, organized and operated exclusively for social,
educational, professional, religious, health, charitable or
any other not-for-profit purpose. A not-for-profit
organization’s members, contributors and other
resources providers do not, in such capacity, receive any
financial return directly from the organization
LO 1
Chapter 12, Slide 4
© 2010 McGraw-Hill Ryerson Limited
Introduction

NFPOs differ from profit-oriented organizations in the
following ways:




LO 1
In fulfilling their objectives, they typically provide services or
goods to identifiable segments of society without the expectation
of profit
Their resources are provided by individual and government
contributors without the expectation of gain or repayment; often
these contributions have restrictions attached to them
They have no readily identifiable ownership interests that can be
sold, transferred, or redeemed
They are governed by volunteers although some NFPOs also
have paid employees
Chapter 12, Slide 5
© 2010 McGraw-Hill Ryerson Limited
The Basics of Fund Accounting

Funding received by NFPOs can be categorized as
unrestricted or restricted



LO 1
Unrestricted resources can be used for any purpose consistent
with the NFPO’s goals and objectives
Restricted resources can only be used as specified by the
external contributor, e.g. a donation may be received with a
condition that it be spent in some specified manner
Endowments are restricted donations that must be maintained in
perpetuity by the organization, only the interest earned on the
endowed funds can be spent
Chapter 12, Slide 6
© 2010 McGraw-Hill Ryerson Limited
The Basics of Fund Accounting

Not for profit organizations require a mechanism to
identify and track restricted funds. Fund accounting
provides such a mechanism


LO 5
Fund accounting comprises … a self-balancing set of accounts
for each fund established by legal, contractual, or voluntary
actions of an organization. Elements of a fund can include assets,
liabilities, net assets, revenues, and expenses … Fund
accounting involves an accounting segregation, although not
necessarily a physical segregation, of resources. [Handbook
4400.02]
Exhibit 12.1 illustrates a “General” unrestricted fund and a
“Building” fund which is restricted
Chapter 12, Slide 7
© 2010 McGraw-Hill Ryerson Limited
The Basics of Fund Accounting
LO 5
Chapter 12, Slide 8
© 2010 McGraw-Hill Ryerson Limited
The Basics of Fund Accounting


In many not-for-profit organizations, a basic objective of
financial reporting is often the tracking of changes in
each fund balance over the year and stewardship over
fund resources
Fund accounting provides a segregation of assets for a
given purpose, a recognition of the set of separate
operations which pertain to those assets, recognition of
the equities which pertain to that fund, and complete
classification by fund of revenue, expense and income
accounts
LO 5
Chapter 12, Slide 9
© 2010 McGraw-Hill Ryerson Limited
The Basics of Fund Accounting


The complete self balancing set of accounts for each
fund removes the emphasis from the overall “bottom
line” and places it more closely on the individual activity
of each fund
The total of assets less liabilities of the not-for-profit
organization will equal the total of the fund balances, the
same way that assets less liabilities equals owners’
equity in a profit-oriented business organization
LO 5
Chapter 12, Slide 10
© 2010 McGraw-Hill Ryerson Limited
The Basics of Fund Accounting

The possible types of funds depends on the nature and
objectives of the organization:




In a university, for example, there are research funds, scholarship
funds, residence funds, athletic funds, and others
In a church, there may be mission funds, memorial funds,
building funds, and operating funds
An organization that uses fund accounting in its financial
statements should provide a brief description of the purpose of
each fund reported
Funds established by the NFPO’s board of directors
cannot be considered restricted because future boards
can dispose of the fund. Only external restrictions apply
LO 5
Chapter 12, Slide 11
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

The eight Handbook sections applicable to NFPOs are
as follows:






LO 1
Section 4400, “Financial Statement Presentation by
Nor-for-profit Organizations”
Section 4410, “Contributions – Revenue Recognition”
Section 4420, “Contributions Receivable”
Section 4430, “Capital Assets Held by Not-for-profit
Organizations”
Section 4440, “Collections Held by Not-for-profit
Organizations”
Section 4450, “Reporting Controlled and Related Entities by
Not-for-profit Organizations”
Chapter 12, Slide 12
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today




Section 4460, “Disclosure of Related Party Transactions by
Not-for-profit Organizations”
Section 4470, “Disclosure of Allocated Expenses by
Not-for-profit Organizations”
A number of other Handbook sections have limited
applicability to NFPOs
In 2010 the CICA expects to make a decision on the
December 2008 Invitation to Comment, Financial
Reporting by Not-for-Profit Organizations.

LO 1
This would allow private-sector NFPOs to choose between IFRS
and GAAP for private enterprises including the eight Handbook
sections above. Public-sector NFPOs could choose between
IFRS and the Public Sector Accounting Handbook
Chapter 12, Slide 13
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Section 4420, “Contributions Receivable”:


LO 1
Contributions are defined as “a non-reciprocal transfer to a notfor-profit organization of cash or other assets or a non-reciprocal
settlement or cancellation of its liabilities” (4420.02)
A contribution should be recognized as an asset when the
amount to be received can be reasonably estimated and the
ultimate collection is reasonably assured. Because pledges
cannot be legally enforced, recognition should be delayed until
cash is received, unless the organization can estimate
collectibility rates based on historical results
Chapter 12, Slide 14
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Section 4450, “Reporting Controlled and Related Entities
by NFPOs”

Establishes NFPO presentation and disclosure standards for
control, significant influence and joint venture investments or
economic interest type of relationship in other NFPOs or profitoriented organizations


LO 1
Control over other NFPOs (for example by the ability to appoint the
majority of their directors) can be reflected either by consolidation or
by disclosure set out in paragraphs 4450.22 or 4450.26
Control over profit-oriented organizations can be reflected either by
consolidation or by accounting using the equity method with
disclosure described in paragraph 4450.32
Chapter 12, Slide 15
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Section 4450, “Reporting Controlled and Related Entities
by NFPOs” (continued)



Joint control can be reflected either by proportionate
consolidation or accounting using the equity method
Significant influence over another NFPO is reflected with
disclosure since equity accounting is not possible in the
absence of voting shares to determine percentage interest.
Significant influence over a profit-oriented enterprise is
reflected using the equity method of accounting
Other economic interests are reflected by disclosure

LO 1
Other economic interests exist if another NFPO holds
resources for the reporting organization, or if the reporting
organization is responsible for the other NFPO’s debts
Chapter 12, Slide 16
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Section 4460, “Disclosure of Related Party Transactions
by NFPOs”


Related parties include those over which control, joint control,
significant influence, or other economic interests exist. Section
4460 provides disclosure standards virtually identical to those set
out in Section 3840 for profit-oriented enterprises
Section 4430, “Capital Assets Held by NFPOs”

LO 1
Requires that NFPOs capitalize and amortize all capital assets,
but exempts small NFPOs with two-year average annual
revenues less than $500,000 from doing so provided they
disclose information about capital assets that are not capitalized
and amortized
Chapter 12, Slide 17
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Section 4440, “Collections Held by NFPOs”

Collections consist of works of art and historical treasures that
are for public exhibition, education, and research, and the
proceeds from sale of which must be used to acquire similar
items or to protect the remaining collection. Therefore collections
are excluded from the definition of capital assets with the
following choices of accounting permitted:




LO 1
Expense when acquired
Capitalize but do not amortize
Capitalize and amortize
The nature of the collection should be disclosed together with the
accounting policy, the amount spent on the collection during the
period, the proceeds from any sales of collection items, and a
statement of how such proceeds were used
Chapter 12, Slide 18
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Section 4470, “Disclosure of Allocated Expenses by
NFPOs”


When an NFPO classes its expenses by function on the
statement of operations, it may need or want to allocate certain
related expenses to those functions
Certain expenses, however, may relate directly to more than one
function, in particular fundraising expenses and general support
expenses

LO 1
When these two types of expenses are allocated to other functions,
disclosure is required of the allocation accounting policy, the nature
of the expenses, the basis on which the allocations have been made,
the amounts of each that have been allocated, and the functions to
which they have been allocated
Chapter 12, Slide 19
© 2010 McGraw-Hill Ryerson Limited
Not-for-profit Reporting Today

Sections 4400 and 4410, “Financial Statement
Presentation by NFPOs” and “Contributions – Revenue
Recognition”



LO 1
Restrictions on an organization’s resources should be clearly
stated in the financial statements
The matching concept for NFPOs must be applied in the
measurement of yearly results. In NFPO matching for restricted
revenues when the fund method of accounting is not used,
expenses are recognized first and then revenues are matched to
expenses
Section 4410 defines the nature of unrestricted, restricted, and
endowment contributions as discussed in a previous slide
Chapter 12, Slide 20
© 2010 McGraw-Hill Ryerson Limited
Financial Statements

A NFPO must present the following financial statements:




A statement of financial position (i.e. balance sheet)
A statement of operations (i.e. statement of revenues and
expenses)
A statement of changes in net assets
A statement of cash flows


A fund basis can be used in one or more statement, but not
necessarily on all statements
The statement of financial position must show:

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

LO 1
Current and non-current classification of assets and liabilities
Net assets subject to endowments
Internally restricted and externally restricted net assets
Unrestricted net assets
Chapter 12, Slide 21
© 2010 McGraw-Hill Ryerson Limited
Financial Statements

Prior to 2009 net assets invested in capital assets had to
be shown as a separate component of net assets. There
are now three options for reporting this item:




Continue to report as a separate component of net assets
Disclose in the financial statement notes
Do not present or disclose separately
The statement of operations will show the revenues and
expenses for the period and may classify these by
function


LO 1
Other comprehensive income does not apply to NFPO’s
Revenues and expenses will be shown separately, and not
netted, when the NFPO acts as a principal in a transaction
Chapter 12, Slide 22
© 2010 McGraw-Hill Ryerson Limited
Financial Statements


The statement of changes in net assets must show
changes in each of the three net asset categories
reflected on the statement of financial position
The statement of cash flows must report changes in
cash under the normal three classifications:



LO 1
Cash flows from operations
Cash flows from investing and
Cash flows from financing activities
Chapter 12, Slide 23
© 2010 McGraw-Hill Ryerson Limited
Accounting for Contributions



To capture the matching concept that is unique to
NFPOs, the Handbook has defined two methods of
accounting for contributions: - - the deferral method and
the restricted fund method
If an NFPO does not wish to report on a fund accounting
basis, it will use the deferral method which shows all
activities under one financial statement column
If an NFPO reports on a fund accounting basis, it will
normally choose the restricted fund method which
provides a separate financial statement column for each
activity as illustrated in Exhibit 12.1
LO 1, 3, 4
Chapter 12, Slide 24
© 2010 McGraw-Hill Ryerson Limited
Accounting for Contributions

The deferral method matches contributions revenues
with related expenses
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LO 3
Unrestricted contributions are reported in income when received
Endowment contributions are not shown on the operating
statement because they are restricted in perpetuity
Restricted contributions are matched against related expenses
Restricted contributions for future expenses are deferred and
recognized in revenue in the same periods as related expenses
Restricted contributions for acquisition of capital assets are
deferred and amortized to income on the same basis as the
assets are depreciated; when the related asset is not depreciated
(e.g. land) the restricted contribution is reflected on the statement
of changes in net assets
Chapter 12, Slide 25
© 2010 McGraw-Hill Ryerson Limited
Accounting for Contributions

The restricted fund method requires a NFPO to report
a general fund, at least one restricted fund, and, if it has
endowments or receives endowment contributions, an
endowment fund

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LO 4
The restricted funds will be used to record externally restricted
revenue as well as any restricted income generated from
endowment fund investments
The endowment fund, which must be maintained in perpetuity,
will show only contribution revenue and no expenses
The general fund reflects all unrestricted contributions and
investment income including any unrestricted income generated
from endowment fund investments. Using the deferral method,
the general fund also reports restricted contributions and
investment income for which no separate restricted fund exists
Chapter 12, Slide 26
© 2010 McGraw-Hill Ryerson Limited
Net Assets Invested in Capital Assets

Net assets (or fund balance) may include a separate
category called “Net assets invested in capital assets”




LO 1
Net assets invested in capital assets represents resources spent
on capital assets and therefore not available for future spending
Under the restricted fund method, it equals the unamortized
balance of all capital assets purchased from restricted and
unrestricted resources, less any related debt
Under the deferral method, it equals the unamortized balance of
capital assets purchased from unrestricted resources, less any
related debt
Transfers to and from the net assets invested in capital assets
balance (or fund) from unrestricted net assets (or general fund)
are shown in the statement of changes in fund balances, not as
revenues and expenses
Chapter 12, Slide 27
© 2010 McGraw-Hill Ryerson Limited
Donated Capital Assets, Materials, and Services

A NFPO is required to record the donation of capital
assets at fair value. If fair value cannot be determined, a
nominal value will be used


Under the deferral method the donation will be credited to
deferred contributions-capital assets which will be amortized to
future income as the asset is depreciated, or if the asset is not
depreciable (e.g. land) it will be credited to net assets invested in
capital assets
A NFPO has the option of reporting or not reporting
donated material and services;

LO 1
Reporting is permitted only if fair value can be determined, and if
materials and services would normally be used in the
organization’s operations and would have been purchased if
they have not been donated
Chapter 12, Slide 28
© 2010 McGraw-Hill Ryerson Limited
Donated Capital Assets, Materials, and Services

The Handbook section makes it clear that the fair value
of the services of volunteers are not normally recognized
due to the difficulty in determining such value

An organization would probably not record donated
materials if it acts as an intermediary for immediate
distribution and therefore will not retain the materials
(e.g. food bank)
LO 1
Chapter 12, Slide 29
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

Budgetary Control with Encumbrance and Commitment
Accounting

It is a common practice in not-for- profit organizations to set up
the approved budget in the accounts



LO 2
This practice permits actual expenditures to be tracked against
budget, so that the difference may be tracked for management
purposes
Additional control is maintained by recording various expenditures
when first approved, rather than when completed
These approved expenditures, when recorded, are referred to as
"encumbrances“. The related expected obligation is referred to as an
"estimated commitment"
Chapter 12, Slide 30
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

The recording of approved future expenditures in the
accounts enables the computation of a "free" balance
at any time



LO 2
This free balance is the amount which may be expended on
other contracts or purchases, as at that point in time
This system also provides budgetary control with commercial
enterprises, especially on large, fixed price projects (such as
shipbuilding or large commercial construction projects)
The encumbrances entered into are generally shown as
expenditures (with the commitments shown as if liabilities)
Chapter 12, Slide 31
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances



LO 2
The free balance must be readily available in the
accounts so that managers may promptly access this
information when required for expenditure decisions
Knowledge of the free balance (especially when it is
limited) and associated planned expenditures for the
remainder of the fiscal year helps not-for- profit
organizations to meet budgetary objectives
Accounts for outstanding encumbrances are netted
and not reported in the NFPO’s external financial
statements since encumbrances are executory
contracts and not completed transactions
Chapter 12, Slide 32
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

Setting up the Budget

When the budget is approved by the directors, budgeted amounts
are recorded in a separate set of "budgetary accounts”




LO 2
normal debit and credit rules are reversed, and the budgeted surplus
or deficit is also entered
As expenditures are made, they are recorded in the normal
manner
Comparison of the approved budget with actual expenditures will
indicate a free balance
This system is supplemented by the recording of encumbrances
Chapter 12, Slide 33
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

Encumbrances and Commitments


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LO 2
An additional layer of control is provided by generating an entry
to a third set of accounts (using normal debit and credit rules) at
the time a purchase order is issued or a contract is entered
The estimated expenditure or encumbrance is debited to these
accounts; the expected future obligation or commitment is
credited
The free balance in such a system is computed by comparing the
budgeted expenditure limit to the total of actual expenditures plus
encumbrances
Chapter 12, Slide 34
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

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LO 2
When goods are received or services are delivered,
the related invoice will be recorded in the accounts
On completion of the contract, the related
encumbrance and commitment are reversed
Discrepancies are investigated
Expenditures should not be approved which exceed
the free balance available for expenditure
Chapter 12, Slide 35
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

Closing entries in Fund Accounting Systems

In a not-for-profit organization, as with a business, all temporary
accounts are closed at the end of the fiscal period:



LO 2
Close the budgetary accounts, to provide for the "set up" of next
year's budget
Close outstanding encumbrances to expenditures for the period, so
that encumbrances are charged against the budget in the year
approved (entry is reversed at the beginning of the next period)
Close actual revenue and expenditure accounts, updating the fund
balances and clearing the accounts for the following year’s
expenditures
Chapter 12, Slide 36
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances


Note that commitments are not reported in the balance
sheet on the external financial statements; they may be
disclosed in the notes to the financial statements.
As the entry to close encumbrances was reversed, when
invoices are actually received and expenditures entered,
encumbrances are cancelled against commitments in the
normal manner
LO 2
Chapter 12, Slide 37
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

Example of Budgetary Control – the following is the
summarized budget that was approved by the board of
directors:
Budgeted revenues (in detail)
Budgeted expenses (in detail)
Budgeted surplus
LO 2
$900,000
890,000
$ 10,000
Chapter 12, Slide 38
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

If the organization records the budget in its accounting
records, the following journal entry is made at the start of
the fiscal year:
Estimated revenues (control account)
Appropriations (control account)
Budgetary fund balance

900,000
890,000
10,000
At the end of the fiscal year the budget accounts are
reversed as part of the closing journal entries and these
amounts are not reflected in the organization’s external
financial statements
LO 2
Chapter 12, Slide 39
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances

Example of Encumbrance Accounting
Purchase order 3056A is issued for the acquisition of
office supplies expected to cost $950. The journal entry
to record the purchase order is:
Encumbrances
Estimated Commitments
LO 2
950
950
Chapter 12, Slide 40
© 2010 McGraw-Hill Ryerson Limited
Budgetary Control and Encumbrances
When the supplies ordered are received at an invoiced
cost of $954, the journal entries required are:
Estimated commitments
Encumbrances
950
Supplies expense
Accounts payable
954
LO 2
950
954
Chapter 12, Slide 41
© 2010 McGraw-Hill Ryerson Limited
Accounting for Governments


Governments differ from businesses in many ways,
principally that governments do not exist to make profit
but to provide services and revenues are derived
principally from taxation
CICA’s Public Sector Accounting Board (PSAB) sets the
standards for government accounting in the Public
Sector Accounting Handbook, first issued in 1998


LO 6
The Public Sector Accounting Handbook applies to all
governments in Canada and contains 30 sections and 7
accounting guidelines
Requires four financial statements: consolidated statement of
financial position, consolidated statement of operations,
consolidated statement of change in net debt, and a
consolidated cash flow statement
Chapter 12, Slide 42
© 2010 McGraw-Hill Ryerson Limited