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Nonprofit vs forprofit accounting.

Nonprofit vs Forprofit Accounting

The boards and volunteer administrators of nonprofit organizations tend to be dominated by people with a business background. This experience is often useful in helping run a nonprofit organization and one of the reasons such people are asked to sit on boards or help run nonprofits. New board members and administrators are, however, often frustrated by the accounting system used by nonprofits and go through a steep learning curve while they tryto understand the mysteries of fund accounting.

Including government, about 40% of the gross national product of the U.S. is provided by the nonprofit sector of the economy. The differences between forprofit and nonprofit organizations are significant enough to require different methods of "score-keeping", and it is these differences that baffle persons attempting to understand a nonprofit accounting system after experience with forprofit accounting.

Most persons with a business background realize that, by definition, income is not a very useful accounting concept for nonprofits, but take longer to realize that the other bottom line, owner's equity, is not a very useful idea either. Who "owns" a church, a private college or a soup kitchen? Without a clearly defined concept of ownership, the forprofit accounting objectives of reporting the income and net worth of an enterprise to its owners do not provide useful principals for reporting the operations of nonprofit entities.

Instead of a consolidated income statement and balance sheet, our local auto dealer finds a myriad of "funds", all with their own statements of revenue and expenditures and all with their own fund balance. All these financial statements are for the one nonprofit organization that our auto dealer has recently joined as a board member. In addition, the confused auto dealer quickly discovers that the executives and employees of this nonprofit crisis center are subject to far more stringent budgetary control than the managers and employees of an auto dealership.

If the auto dealer does not resign in disgust, the reasons for this confusing reporting and stringent fiscal control become evident after a few board meetings. The primary sources of revenue are donations and government grants. THe donors tend to give for a specific purpose, and the government grants are also for carefully defined programs. If donors give money for psychological counseling, they want assurance that the money was used for that purpose and no other. If the government grant was for the construction of a counseling center, the government wants to make certain that the money was used for construction and not operating expenses.

Our auto dealer had discovered the Golden Rule of Fund Accounting: those who provide the gold dictate the accounting rules. For each donor or grant defined program or purpose there is a fund to account for the revenues provided and expenditures made for that purpose or program. This can become very complex in an organization such as a church, which often acts as an umbrella for many smaller groups. In my own church, for example, the trustees control the capital budget, the administrative board controls the operating budget, the alter guild, etc., each have control of their own funds, and there are "tenants", such as a Headstart program and a Neighborhood Linking Project that have their own boards and funding sources but passt their grant money through the church treasurer for administrative convenience or use of the church's tax-exempt number.

As our new board member listens to the annual budget discussion, another difference between the auto dealership and the crisis center becomes evident. If the auto dealership budgets selling 50 cars a month and instead sells 100, the revenue from the unanticipated car sales provides the money for hiring more salespersons and mechanics. If the crisis center anticipates aiding 200 people a year and 400 potential clients arrive at the center, revenues from donors and grants do not automatically increase.

For a commercial establishment, an increase in sales is a blessing, because increased financial resources accompany the increase in activity. Decreased sales result in a crisis; with less money in the till people must be laid off and stores closed. This is the discipline of the market economy.

In the short run, most nonprofits are on a fixed budget, so that a decline in activity results in no loss of revenue, but an increase in activity can create a fiscal crisis. If a soup kitchen on a fixed budget anticipates feeding 100 people a day and only 50 show up, the kitchen saves money on food. If 200 people show up they either water down the soup, turn people away or both.

This absence of a short-term link between financial resources and demand for services is the reason for the much stricter budget controls in the nonprofit than in the forprofit sector. An auto dealer can obtain more resources by finding more car buyers. The head of a soup kitchen does not obtain more resources by finding more hungry people.

The relationship between revenues and expenditures is one fundamental difference between the nonprofit and forprofit organizations. In forprofits the consumers of goods and services provide the revenues. In nonprofits the service consumer is often not the primary source of revenues. This, coupled with the lack of "owners" to report to, results in nonprofit accounting differing substantially from forprofit accounting. Fortunately, most business persons are fast learners, so with a little patience the staff of nonprofits can usually tutor new board members in how and why the books are kept in such strange fashion.

Jesse Miller is a New York state CPA with an accounting practice in Syracuse, NY. He also teaches nonprofit and managerial accounting at the SUNY College of Technology in Utica, NY.
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Author:Miller, Jesse W., Jr.
Publication:The National Public Accountant
Date:Jan 1, 1990
Words:945
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