As the implementation deadline of the new revenue recognition standards (ASU 2014-09) approaches, there are many companies and organizations scrambling to grasp the impact that the forthcoming changes will have on their financial reporting. For non-public entities, the changes are effective for reporting periods beginning after December 15, 2017. Not-for-profit entities are having an even more difficult time than others, as there are already differences in practice in various components of revenue transactions. The new revenue recognition standards do not address these differences in practice, and in fact, actually make the current differences more ambiguous.
As a result, the Financial Accounting Standards Board (FASB) started a project to address the nonprofit stakeholders’ concerns.
Contribution or Exchange Transaction?
One of the primary issues in nonprofit revenue recognition that has a difference in practice relates to nonreciprocal transactions (contributions) versus reciprocal transactions (exchanges). The confusion primarily lies in grant revenue. It is very common for organizations to interpret the term “grant” automatically as a reciprocal transaction, with the logic that the funding requires them to meet certain obligations. It is very important to dig into those obligations, and determine if it is truly an exchange transaction or a contribution. The FASB is exploring a more definitive approach to help determine the nature of the revenue transaction, as noted in their June 17, 2016 Memo:
“… a not-for-profit entity [would] consider a grant (or similar contract) a reciprocal transaction if a resource provider, in making the grant (or similar contract), either (1) directly receives goods or services of commensurate value or (2) fulfills a known and explicit obligation to provide goods or services to others.”
The potential guidance further explains that if neither of the two factors are met, or if the situation is still unclear, then the ambiguity would indicate that it should be accounted for as a nonreciprocal (contribution) transaction.
This is an important distinction, because the revenue recognition changes in ASU 2014-09 relate to Accounting Standards Codification (ASC) Topic 606- Revenue from Contracts with Customers. The reciprocal (exchange) transactions that a nonprofit enters into would be those subject to the new revenue recognition standard. The FASB intends to explore exchange vs. contribution transactions further and will provide authoritative guidance, illustrations, and examples.
Conditional and Donor Restricted Contributions
Another common area of confusion for nonprofits is the differentiation between conditional and restricted contributions. Conditional contributions are not recognized as revenue until the condition has been satisfied, whereas donor restricted contributions are recognized as revenue when received or an unconditional promise to give is made. In February of 2017, the FASB decided to clarify related terminology. The FASB has further defined that a donor-imposed condition would include the following:
- A right of return, entailing either a return of assets transferred or a release of a promisor from its obligation to transfer assets.
- A barrier that must be overcome before the recipient is entitled to the assets transferred or promised.
By adding these two additional definitions to ASC 958-605, Not-for-Profit Entities-Revenue Recognition there will be less confusion on the determination of the type of contribution made to a nonprofit organization. The FASB also plans to further elaborate on these definitions and further define the ‘barrier’ with illustrations and examples in the future.
The FASB’s project addressing revenue recognition of grants and contracts by not-for-profit entities is ongoing. Follow along as monthly updates come out on the FASB website.