If you are serving on a nonprofit board or are considering doing so, it is important to keep in mind that along with the great work of that organization, it’s also your responsibility to understand that nonprofit’s finances. There are a variety of differences between non- and for-profit accounting. The more familiar you are with the differences, the better prepared you will be as a board member.
Why is it so different? It’s important for nonprofit organizations to understand their accounting needs to be able to maximize their resources and spend more time raising awareness for their cause and less time creating reports and spreadsheets.
For nonprofits, success is not measured in terms of profits, but in how your organization fulfills its mission. The main purpose of your nonprofit is to raise money to serve those in need and to advance your causes. Your profits stay in the organization to be used to sustain your mission. The biggest difference between nonprofits and for-profits is how you use the money that you raise.
Just as nonprofits and for-profit organizations differ in their foundational purpose (making money for owners/shareholders vs. furthering a mission), there are several differences in the accounting methods each organization uses. One key difference lies in the presentation of financial statements. Each type of entity uses a different set of financial statements:
For-Profit Financial Statements
- Balance Sheet
- Profit/Loss Statement
- Statement of Cash Flows
- Statement of Owner’s Equity
Nonprofit Financial Statements
- Statement of Financial Position
- Statement of Activities
- Statement of Cash Flows
- Change in Net Assets
Balance Sheet vs. Statement of Financial Position
The balance sheet and the statement of financial position both include asset and liability sections, but for-profit businesses have a section for owner’s equity, and nonprofit organizations have a net assets section (nonprofit organizations do not have owners). The net assets section lists sources of funds and is broken down into three areas: unrestricted net assets, temporarily restricted net assets, and permanently restricted net assets.
- Unrestricted assets have no restrictions on how or if they can be spent and can be used at the organization’s discretion for purposes that support the activities of the organization.
- If the interest is stipulated by the donor to be used for a specific purpose, such as building maintenance, the interest would be classified as temporarily restricted until used.
- Permanently restricted assets are those that the donor gives with the stipulation that the assets can never be used up. For example, assume a donor gives $5,000 in this category. The organization could put the funds in a savings account never to be spent, but they could use the interest the account earns.
Profit/Loss Statement vs. Statement of Activities
A business’ profit and loss statement shows income and expenses with either a profit or a loss as a result. The statement of activates for nonprofit organizations also shows income and expenses, but for nonprofits, income is not derived primarily from sales of goods or services, but rather from sources of funds such as grants, donations, and fundraising monies. While nonprofit and for-profit businesses may have similar expenses — such as utilities, rent, payroll, and office supplies — nonprofit organizations also have uses of funds related to their mission, with the net of sources of funds and expenses listed as either a surplus or a deficit.
Having a solid accounting software specifically for nonprofits is a great way to help staff, supporters and board members navigate and understand the accounting of your nonprofit organization. When evaluating a software solution, make sure it provides the tools for the unique requirements of nonprofit organizations. This is how you can become more accountable, cultivate better relationships with your donors, raise more funds, and help your nonprofit fulfill its mission.