Nonprofits will soon have clearer guidelines by which to recognize and classify revenue from grants, contracts and contributions, thanks to a new standard proposed this summer by the Financial Accounting Standards Board (FASB).
Proposed by FASB in August 2017, the Accounting Standards Update (ASU), Clarifying the Scope and Accounting Guidance for Contributions Received and Contributions Made, is intended to improve and clarify existing guidance of revenue recognition of grants and contracts by not-for-profit entities.
Impact on nonprofit finance function
Nonprofit leaders and finance teams should consider this proposed ASU in conjunction with Accounting Standards Codification (ASC) Topic 606, Revenue from Contracts with Customers. Together, these documents can help organizations determine whether a revenue transaction is a contribution (nonreciprocal transaction) or an exchange (reciprocal) transaction. For transactions considered contributions, the guidance clarifies the definition of conditional and unconditional contributions.
It is possible under the proposed guidance that more grants and contracts could be accounted for as contributions, or nonreciprocal transactions. With a proposed effective date of fiscal years beginning after December 15, 2018 for most entities, not-for-profits should begin evaluating their revenue transactions now under this guidance.
Define transaction as a contribution or an exchange
For those transactions supported by grant agreements or contracts, each individual agreement or contract should be evaluated. A grant transaction would be considered an exchange transaction if the resource provider receives commensurate value in return for the resources provided.
In defining commensurate value, it is important to note that if the general public is receiving the primary benefit, then the transaction is considered to be a contribution. In addition, the execution of a resource provider’s mission or the positive sentiment from acting as a donor does not constitute commensurate value. For the transactions that are considered exchange transactions, the organization should then follow other revenue recognition guidance, such as ASC Topic 606.
Define contribution as conditional or unconditional
Once a revenue transaction is determined to be a contribution transaction, the next step is determining whether it is considered conditional or unconditional. FASB’s proposed guidance clarifies the definition of conditional to require these two factors:
- A donor-imposed stipulation that represents a barrier that must be overcome; and
- A provision that provides the grantor the right of return of assets transferred or the right of release of the grantor from its obligation to transfer assets. The right of return of the assets transferred or the right of release of the grantor from its obligation to transfer assets must be determinable from the agreement (or another document referenced in the agreement).
The proposed ASU includes a table with a list of indicators that could be helpful in determining possible barriers. Beyond the two factors listed above, there are a variety of indicators that play into defining a contribution as conditional, with a varying degree of impact and significance, including:
- The agreement includes measurable, performance-related goals such as achievement of a certain level of service, an identified number of units of output or a specific outcome.
- The agreement includes a non-administrative or non-trivial stipulation that is related to the purpose of the agreement.
- The agreement includes a stipulation that limits the discretion by the recipient on how the funds should be spent. This would not include when the only requirement is that the transferred assets be used for a general operating purpose or restricted for ongoing programs or activities.
- The agreement requires additional actions that would be required by the recipient outside of the recipient’s normal activities.
The presence of both a barrier and a right of return or a right of release indicates that the organization would not be entitled to the transferred assets and the nonreciprocal transaction would be considered conditional. If the agreement does not have both, the transaction would be unconditional. If a contribution contains stipulations that are ambiguous and not clearly defined, the proposed ASU presumes that the contribution should be considered conditional. A conditional contribution would not be recognized as revenue until the barrier is overcome and the recipient organization is entitled to the transferred assets.
Once a contribution has been deemed unconditional, the organization would determine whether the contribution is restricted as a result of either a donor-imposed restriction or the passage of time, consistent with current generally accepted accounting principles.
Effective dates and action items for transition
The effective date for the proposed ASU for public business entities or not-for-profit entities that have issued, or are conduit bond obligors for securities that are traded, listed or quoted on an exchange or over-the-counter market, is annual periods beginning after December 15, 2017. For all other entities, the effective date is annual periods beginning after December 15, 2018.
The amendments in this ASU should be applied on a modified prospective basis in the first set of financial statements issued following the effective date to agreements that are either not yet completed as of the effective date or entered into after the effective date. A completed agreement for which revenue and/or expense has been recognized in accordance with current guidance would not be impacted by these amendments.
Additionally, for those agreements not yet completed, the amendments would be applied only to the portion of revenue or expense that has not yet been recognized before the effective date. No prior period results or activities would be restated and there would be no cumulative-effect adjustment to the opening balance of net assets or retained earnings at the beginning of the adoption year.
FASB accepted comments on this proposed ASU through November 1, 2017. Many of the comments included a request for FASB to consider adding a framework and specific examples to address the evaluation of a single transaction that is in part an exchange and in part a contribution for both the resource provider and the recipient organization.
Considering that many not-for-profit organizations are already focused on implementing other standards, such as ASU 2014-09, Revenue from Contracts With Customers, and ASU 2016-14, Not-for-Profit Entities: Presentation of Financial Statements of Not-for-Profit Entities, the effective date and required implementation of this proposed ASU could prove difficult. Nonprofits are encouraged to review these changes with their internal finance teams and external practitioners now in order to avoid potential implementation issues.
RKL’s team of advisors focused on serving nonprofits are available to answer any questions or help nonprofits prepare. Contact Douglas L. Berman, CPA, RKL’s Not-for-Profit Industry Group Leader, to get started.
Contributed by Andrew D. Kehl, CPA, Manager in RKL’s Audit Services Group. Andrew has accounting and auditing experience serving clients in a wide variety of industries including nonprofit, healthcare and government.