Nonprofits use an income statement to identify and organize all revenue items and record a deficit or surplus. They also use a word of activities.
This type of accounting focuses on accountability and donor stewardship by separating resources into accounts that identify where funds come from and where they’re used. This is called fund accounting.
Mission Statement
A well-crafted mission statement reveals to employees and the public what your organization stands for. It helps to differentiate your company from the competition and explains what makes it unique. It can also draw in potential investors and customers who want to support your values.
In addition to the mission statement, you should have a vision statement to outline your desired future state. It is essential to have both to create a roadmap for your nonprofit. This can be especially useful if you are experiencing financial challenges.
Unlike for-profit businesses, nonprofits are not beholden to investors and business owners who seek a profit return on their investment. This difference creates different accounting practices for nonprofit organizations. They must track how their funds are spent using fund accounting. This ensures that grant money is used for the intended purpose.
To do this, they must use a financial statement known as a statement of activities or a statement of financial position. This is similar to an income statement but includes the amount of assets and liabilities instead of net equity.
Nonprofits can benefit from partnering with an accounting firm for monthly financial statements and other management and general bookkeeping responsibilities. This allows them to focus on their core mission without being overwhelmed by the many duties associated with accounting.
Financial Statements
For accounting for non profit organization to be financially sound, it must regularly prepare and review its financial statements. These include the budget, statement of financial position, and cash flow statement.
The Statement of Financial Position summarizes an organization’s assets (cash, receivables, prepaid expenses, property, and equipment) and liabilities (payables, accruals, and debt) at a specified date. The difference between the assets and the liabilities is an organization’s net assets. Net assets can be further broken down to show unrestricted net assets and those with donor restrictions.
In addition to reporting net assets, a nonprofit must also present a statement of changes in net assets over a specific period. This report shows the total income, subtracts the expenses, and then gives a net shift in unrestricted and temporarily restricted net assets.
Nonprofits must compare their revenues and expenses with the approved budget. This is essential in ensuring the nonprofit operates within its means and complies with tax regulations.
A nonprofit must ensure that the money coming in and going out is made so through a dedicated bank account. This can be done by utilizing business chequing accounts tailored to nonprofits. Monthly bank reconciliation helps verify that the recorded values in the accounting system match those on a bank statement.
Financial Reporting
Nonprofits need to report the income and expenditures they receive and spend regularly. This is to keep track of their finances and maintain transparency with donors. Additionally, the IRS requires nonprofits to disclose their financial information to the public.
The most important report for a nonprofit is the statement of financial position, also known as the balance sheet. This report shows what the nonprofit owns and owes as of a specific date. It includes assets like cash, accounts receivable, property and equipment investments, and prepaid expenses. It also includes liabilities like accounts payable, debt, and long-term investments. Penalties are usually classified as current or long-term, depending on how close they are to being paid off in a year.
Another vital reporting document is the statement of activities, which shows the nonprofit’s revenue, gains, and losses. It is similar to a for-profit company’s income statement but can include noncash items and reflect the organization’s tax status.
When reporting on the statement of activities, it’s essential to categorize the organization’s expenses as program and support. This will help to show donors that the organization uses their funds wisely. Additionally, it will prevent the nonprofit from accidentally using restricted donations for a different purpose. This can cause the nonprofit to lose its tax-exempt status. In addition to these financial documents, a nonprofit should reconcile its bank statements monthly to ensure that reported values match the actual amount in the bank.
Taxes
Nonprofits have special tax privileges when it comes to things like vat for charities (for those in the UK) that make it even more critical to conduct their accounting transparently and ethically. This is why nonprofits need systems that help them keep track of their income, expenses, and labor, including the value of volunteer labor and services.
Most nonprofits use a bookkeeping system, either a physical ledger or a nonprofit accounting software application like Aplos or Nonprofit Treasurer. These applications can help you record each account’s receipts, payments, and other financial transactions. Then they can also create a report of your income and expenses, similar to your functional expense statement.
In addition, many nonprofits conduct fund accounting to separate their different funding sources. For example, donors may restrict their gifts to specific programs or activities at the nonprofit, so these funds must be tracked separately from unrestricted money.
Nonprofits also need to be careful to allocate their expenses accurately. For example, they should not treat employee benefits as taxable income (UBTI) when those benefits are considered an indirect cost of operating the nonprofit.
Most nonprofits are required to file an IRS Form 990 each year. This public document shows how your nonprofit’s finances have changed over the past year, and it helps the IRS monitor whether your nonprofit should retain its tax-exempt status.
