The Impact of ASU 2014-09 on Nonprofits
You may have heard the buzz about the new revenue recognition standard, Revenue from Contracts with Customers, (ASU 2014-09), which is now effective for all nonprofits. You’re wondering what kind of impact, if any, it will have on your nonprofit. Depending on the nature of your revenue and support, this new standard may have a significant impact on how you record certain transactions in your accounting system and how you present your financial statements.
In considering ASU 2014-09, it is also important to recall ASU 2018-08, Clarifying the Scope and Accounting Guidance for Contributions Made and Contributions Received, because the two standards go hand in hand. Together, they provide a new conceptual framework for classifying and recognizing various forms of nonprofit revenue and support. Understanding this framework and applying the guidance below to each one of a nonprofit’s revenue streams is critical in order for an organization to produce reliable financial statements that conform to generally accepted accounting principles (GAAP).
Determining Whether a Transaction Type is a Contribution or Exchange Transaction (Contract with Customer)
A flowchart has been provided to help you determine if a transaction (or transaction type) is an exchange transaction or contribution, and to distinguish between various types of contributions.
Accounting for Exchange Transactions
FASB has laid out a five-step methodology for recognizing revenue from exchange transactions (contracts with customers):
1. Identify the contract
2. Identify the contract’s performance obligations
3. Determine the total transaction price under the contract
4. Allocate the transaction price to the various performance obligations
5. Recognize the revenue when/as you satisfy the respective performance obligations.
If this appears daunting to you, it is important to note that these provisions may or may not have a material impact on your day-to-day accounting. Even if you have a substantial amount of earned income, there may not be much of an effect on your organization’s day-to-day accounting if your program revenue is driven by small transactions resulting from short-term events.
For example, let’s say you are a nonprofit theater company and you sell tickets to performances. Before the new standard, you probably recognized the revenue from ticket sales when the performances occurred. And under ASU 2014-09, you will probably continue to recognize the revenue when the performances occur. On the other hand, let’s say your theater company has contracts with local schools to provide various services to their faculty, such as developing curricula and assisting with the professional development of teachers. Under these circumstances, the 5-step revenue recognition process would need to be followed and the timing of when you recognize revenue in your financial statement may differ from years past. This change will be especially pronounced for organizations with fee contracts that span fiscal years.
Accounting for Contributions
If a nonprofit determines that a transaction is a contribution (rather than an exchange transaction) , the nonprofit must then determine whether the contribution is conditional or unconditional, AND whether the contribution contains donor restrictions.
Conditional indicates that that there is some uncertainty about whether or not the organization will actually receive the contribution (i.e. a performance-related barrier) and whether or not they will get to keep it (i.e. a right of return). Restricted contributions are those which must be used for a specific activity or within a specific timeframe. Sometimes people confuse these two concepts, but it is important to note that a contribution can be both restricted and conditional, one or the other, or neither.
While conditions and restrictions have been part of the nonprofit accounting vernacular for quite some time, ASU 2018-08 clarified these concepts.
Consistent with past practice, conditional contributions should only be recognized in a nonprofit’s financial statements when the underlying conditions (barriers) have been satisfied. Under ASU 2018-08, a contribution must contain BOTH of the following elements to be considered conditional:
- A “measurable performance-related barrier” (excluding formalities and routine administrative requirements) that must be overcome by the nonprofit. Some common examples:
- Requirement for programmatic outputs or outcomes
- Occurrence of specified events
- Performance obligations that depend on the actions of third parties (and are therefore beyond the nonprofit’s control)
- Line item expenditure budgets that are governed by stringent government regulations
- The written agreement (gift instrument) between the nonprofit and the donor explicitly provides the latter with a “right of return” or “right of release of a promisor’s obligation” (which does NOT need to be legally enforceable) in the event that the nonprofit does not overcome the “barriers.”
Once any barriers have been satisfied (as discussed in the Conditional Contributions section above), the recipient nonprofit shall recognize a contribution within the appropriate net asset class, either “Without Donor Restrictions” or “With Donor Restrictions.” Restricted contributions are those which are earmarked by donors for specific activities and/or time periods.
Consider some common examples of how different transactions might fit into this conceptual framework for contributions:
New “Simultaneous Release” Provision
FASB has added a provision for contributions that are deemed to be conditional AND restricted. Once barriers to recognition have been overcome, nonprofits have the option of recording these conditional contributions directly to “net assets without donor restrictions” without the added step of initially recognizing them within the restricted class before “releasing” them to the unrestricted class. Under this option, nonprofits may continue to recognize their other restricted funding (e.g. foundation grants) in the traditional manner.
This means that many nonprofits with government cost reimbursements contracts (who used to consider these to be exchange transactions but now deem them to be conditional contributions) will continue to recognize the revenue within the unrestricted net asset class on a monthly installment basis (i.e. as they “overcome performance-related barriers”) while making little or no changes to their day-to-day accounting practices for other types of support.
Changing Your Accounting Mindset for Nonprofit Revenue Classification
Traditionally, nonprofits have been accustomed to classifying revenue and support into categories such as donations, grants, memberships, sponsorships, government contracts, program fees, etc.
While these categories may still be meaningful for many nonprofits, GAAP posits that substantially all monies received (i.e. other than truly miscellaneous amounts like insurance settlements, credit card rebates, etc.), result either from a contract with a customer (commonly known as an exchange transaction) or a contribution. Determining if a specific funding stream is a contribution or exchange transaction will lead you down one of two roads:
1. Contributions should be classified and recognized in accordance with ASU 2018-08, codified in the Financial Accounting Standards Board’s Accounting Standards Codification (FASB ASC) Topic 958.
2. Exchange transactions, on the other hand, should be recognized in accordance with ASU 2014-09, codified as FASB ASC 606.
In determining whether a transaction type is a contribution or exchange transaction, nonprofits should bear in mind:
- Labels like “contract,” “grant,” “membership,” and “sponsorship” do not dictate whether something is an exchange transaction, a contribution, or a combination of the two.
- The type of resource provider (government agency, foundation, individual, corporation) is not necessarily determinative either.
- Contributions are non-reciprocal in nature, whereas exchange transactions occur when a resource provider receives something of “commensurate value” in exchange for a payment to a nonprofit.
- Commensurate value does not include the resource provider’s positive sentiment or fulfillment of mission.
- Benefits conferred upon the general public as a result of a grant, contract, etc. are not the same thing as benefits conferred upon the resource provider.
Three Areas of Nuance
Under the new guidance, many types of transactions are clearly contributions (e.g. individual donations, most foundation grants) or clearly exchange transactions (e.g. sales of goods, fees collected from program participants). However, there are a few nuanced areas where things are not as clear cut and professional judgment will need to be exercised:
1. Government funding
Chief among these nuanced areas is government funding. In the past, many nonprofits considered government grants and contracts to be exchange transactions (even when they were not) based on the notion that the government “subcontracts” or “outsources” certain responsibilities to nonprofits. It was common for nonprofit accountants to believe that this is why governmental revenue is recognized in monthly installments as “services are performed” instead of recognized in the financials all at once when the award is made (as you would typically do with a contribution).
FASB has clarified that government agencies enter into exchange transactions with nonprofits AND make contributions to nonprofits. Under the new guidance, nonprofits will need to apply professional expertise when determining whether monies received are exchange transactions or contributions. For something to be classified as an exchange transaction, the resource provider (e.g. government agency) receives a benefit that is commensurate with the resources provided. A commensurate benefit would not include the fact that the nonprofit is serving the constituents of the government agency or the notion that a nonprofit is doing the work for which the government would otherwise be responsible.
From the perspective of GAAP, the benefits received by the public are not considered benefits received by the resource provider (e.g. the government agency). Consider, for example, a nonprofit provider of mental health services that has two funding contracts with a county. One contract is for the provision of counseling services to local residents. Under the new guidance, this represents a contribution to the nonprofit. The second contract is to compensate the nonprofit for providing training services to the staff of the county health department; this represents an exchange transaction.
2. Quid pro quo contributions
A second area of complexity has to quid pro quo contributions, which are transactions that are partly exchange and partly contribution. Common examples include fundraising dinners where donor attendees receive benefits in exchange for their sponsorship or ticket purchase, as well as membership dues that confer certain benefits upon member-donors. In these situations, nonprofits need to determine what amount is reciprocal (exchange transaction) vs. nonreciprocal (contribution), and then apply the appropriate guidance to each component.
3. Third-party payments to existing obligations
Third-party payments made to satisfy existing obligations to a nonprofit is a third area of complexity. When considering such payments, it is important to recall the accrual basis of accounting.
The accrual basis typically requires a nonprofit to recognize contributions (e.g. pledges) when they are committed to the organization, and exchange transactions when the underlying goods or services are provided by the nonprofit to its customer. When a nonprofit receives payment for an existing obligation (directly from a donor or customer, or from someone acting on behalf of a donor or customer), the organization should not need to determine whether the amount constitutes a contribution or exchange transaction because that determination will have already taken place when the underlying obligation (whether it be a pledged contribution or an exchange transaction) originated.
In other words, the accounting guidance provided by these two standards should be applied when a transaction’s underlying economic event takes place, which doesn’t always coincide with the collection of a payment. Consider, for example, a nonprofit university that receives a government grant to be applied to the tuition account of a specific student. Such payment would not constitute a contribution, despite the fact that the resource provider (a government agency) receives nothing of value in exchange for the payment. This is because there is an underlying contract between the student and the university. Had the student not received the grant, they would have been responsible for that additional portion of tuition. As such, the amount received from the student’s grant represents tuition revenue earned by the university (i.e. exchange transaction) rather than a contribution to the university from the government.
For amounts deemed to be exchange transactions, use the guidance that follows in “Exchange Transactions.” For amounts deemed to be contributions, follow the guidance below in “Contributions.”
Other Practical Considerations
As a result of these new pronouncements, nonprofits should also consider whether changes should be made to their chart of accounts. Certain types of transactions may need to be bifurcated in the general ledger for the first time, including sponsorships, membership dues, and special event proceeds that are partly exchange transactions and partly contributions. In addition, exchange transactions that are recognized at a ‘point in time’ (e.g. workshop admission fees) should be segregated from those recognized over a ‘period of time’ (e.g. subscription dues).
Lastly, nonprofits who undergo annual financial statement audits or reviews should implement a process to track the total unrecognized and unexpired amounts for conditional contributions, as well as the total amount of exchange transactions that have been contractually secured (“contract assets”) but not yet been recognized in the financial statements. Although such amounts are not recorded in the general ledger, they do need to be disclosed in the footnotes to your financial statements.
FASB has anticipated that ASU 2018-08 will result in more transactions being classified as conditional contributions, and fewer being classified as exchange transactions. In any event, there will be many facts and circumstances for nonprofits to consider, and exercise of sound professional judgment will be key.
Douglas Cook (he/him/his) has 19 years of professional accounting experience, primarily working with nonprofit organizations.
Douglas earned his Master of Public Administration (MPA) degree (with an emphasis in Nonprofit Finance) from San Francisco State University, where he conducted award-winning research on nonprofit governance issues. He also holds a B.A. in Business from Dominican University of California and completed a Certificate in Accounting at U.C. Berkeley. He is a member in good standing of the American Institute of Certified Public Accountants (AICPA), the AICPA Not-for-Profit Section and the California Society of Certified Public Accountants.
Douglas has taught Nonprofit Financial Management as part of the Nonprofit Management Certificate Programs at California State University, East Bay and San Francisco State University. He has also taught accounting and auditing to undergraduates and graduates at Golden Gate University.
In addition, he recently started a blog where he discusses various topics relating to nonprofit accounting, financial management and good governance practices.
Articles on Blue Avocado do not provide legal representation or legal advice and should not be used as a substitute for advice or legal counsel. Blue Avocado provides space for the nonprofit sector to express new ideas. Views represented in Blue Avocado do not necessarily express the opinion of the publication or its publisher.