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University of San Carlos

School of Business and Economics


Department of Accountancy
AC 518 Advanced Financial Accounting and Reporting, Part 3
1st Sem, A.Y. 2016-2017 (7th Hand-Out)
Characteristics of Nonprofit Organizations
Some of the characteristics of nonprofit organizations are similar to those of government entities and business
enterprises. Among the features of nonprofit organizations that are similar to government entities are the following:
1.
Public Service. Nonprofit organizations usually render services to society as a whole. The members of the
society may range from a limited number of citizens. Like government entities, the services of nonprofit
organizations are for the benefit to the many rather than the few.
2.
No profit motives. The objective of nonprofit organizations is not to earn profit. Therefore, nonprofit
organizations are exempt from income taxes, but not from business taxes.
3.
Finance by the citizenry. Most nonprofit organizations depend on the voluntary contributions of the
citizenry to support their operations, because revenues derived from their services are not enough to cover
their operating expenses. Exceptions are philanthropic foundations established by wealthy individuals or
families.
4.
Stewardship of resources. Since substantial portion of the resources of nonprofit organizations is donated,
the organization must account for the resources on a stewardship basis like the governmental entities.
Fund accounting is appropriate for this requirement.
Among the features of nonprofit organizations that are similar to those of business enterprises are the following:
1.
Governance of board of directors. As with business corporations, nonprofit corporations (non-stock) are
governed by elected or appointed directors.
2.
Use of accrual basis of accounting. Nonprofit organizations adopt the same accrual basis of accounting
used by business enterprises. Thus, revenues and expenses are recorded as earned and incurred.
Fund Accounting
Fund Accounting has been used to organize and manage resources for various purposes in accordance with
regulations, restrictions, or limitations imposed by parties outside the institution, or with discretions issued by the
governing board. A clear distinction of funds that are externally restricted and those that are internally designated by
action of the governing board has been maintained in the accounts and disclosed on the financial reports.
Accrual Basis of Accounting
All not-for-profit-organizations accounting for revenues and expenses using the accrual basis of accounting. It also
requires not-for-profit organization that issue GAAP basis financial statements recognize depreciation expense on
long-lived assets. Depreciation should be recorded if the assets are gifts or it arises because of donations. Works of
art and historical treasures that meet the definition of collections need not be capitalized or depreciated.
Financial Statements
Financial statements prepared in accordance with the present GAAP represent a shift away from the fund reporting
to an emphasis on the organization as a whole. The equity account fund balance has been replaced with
the term net assets. Under the present GAAP, it requires classifications of the organizations net assets based on
the existence or absence of donor-imposed restrictions.
The financial statements display three classes of net assets: unrestricted, temporarily restricted, and
permanently restricted. Any changes of these three classes of net assets must be reported.
The financial statements are:
1.
Statement of Financial Position (Balance Sheet) which will report organizations-wide total for assets,
liabilities and net assets, and assets identified as unrestricted, temporarily restricted, and permanently
restricted.
2.
Statement of Activities which reports revenues, expenses, gains, losses, and reclassifications, or changes in
the organizations net assets or change in equity: permanently restricted, temporarily restricted, and
unrestricted. Minimum requirements are organization-wide totals, changes in net assets for each class of
assets, and all expenses recognized only in the unrestricted classification.
A display of a measure of operations in the statement of activities is permitted.
3.
Statement of Cash Flows with categories (operating, financing and investing) similar to regular business
enterprises.
4.
Notes to the Financial Statements, they are accompanying notes to the above statements necessary for
disclosure purposes.

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The financial statements required for Non-government, not for profits include a balance sheet, a statement of
activities, and a cash flow statement. Voluntary health and welfare organization also provide a statement of
functional expenses.
Functional Classifications include the following:
Instructions Expenses for the instruction program.
Resource Expenses to produce research outcome.
Public Service Expenses for activities to provide no instructional services to external groups.
Academic Support Expenses to provide support for institutions, research and publications.
Student Services Amounts expended for admissions and register and amount expended for students emotional, social
and physical well-being.
Institutional Support Amounts expended for administration and the long-range planning of the university.
Operation and Maintenance of Plant Expenses of current operating funds for operating and maintaining the physical
plant (net amount to auxiliary enterprises and university hospital)
Student Aid Expenses from restricted or unrestricted funds in the form of grants, scholarships or fellowships to
students.
Classification of Net Assets
The Financial Statements reporting requirements are based on a division of net assets into three classifications.
These classes of net assets are totally dependent on the existence or absence of donor-imposed restrictions. The
three classes of net assets are:
1.
Permanently restricted net assets are the portion of net assets whose use is limited by donor-imposed
stipulations that do not expire and cannot be removed by action of the not-for-profit entity.
2.
Temporarily restricted net assets are the portion of net assets whose use is limited by donor-imposed
stipulations that either expire (time restrictions) or can be removed by the organization fulfilling the
stipulations (purpose restrictions).
3.
Unrestricted net assets are the portion of net assets that carry no donor-imposed stipulations.
Accounting for Hospitals
Hospitals depend its large part on donations and grants, which often come with restrictions. Fund accounting is
required for hospitals in order to maintain accountability over restricted resources. Hospitals will use normal accrual
accounting methods, including the classification of costs as expenses rather than expenditures, and will not record
budgetary accounts or encumbrances on the books.
Types of Funds
In general, there are two types of funds used by a hospital:
1.
General (Unrestricted) Fund account for all resources of the hospital which are not subject to outside
restrictions. They are used for day-to-day operations. Note that board-designated funds are unrestricted.
Designation is an internal process which can be altered at the discretion of the Board of Trustees of the
hospital. Restrictions are externally imposed and not subject to alteration by the board. Items in this
category include:
a.
Assets whose use is limited include assets set aside by the governing board for identified purpose.
b.
Agency Funds are included in General Funds as both an asset and a liability. They are used to
account for fees collected as an agent of physicians who have private-practice patients coming to
hospital offices provided to the staff physicians.
c. Property and equipment used for general operations, and the related liabilities.
Property plant and equipment whose use is restricted are reported in the donor-restricted fund.
2.

Donor-Restricted Funds accounts for temporarily restricted and permanently restricted resources. This
class is subdivided into:
a.
Temporary Restricted Fund may be a specific purpose fund, a term endowment fund, or a plant
replacement and expansion fund. An annuity and life income fund may also be included.
a.1
Specific Purpose Fund is a restricted fund used by health care providers to account for
principal and income in accordance with donors specified restrictions.
a.2
Endowment Fund is used by hospital to account for a trust where the principal must be kept
intact and the income be expanded for either current operations or a specific purpose in
accordance with grantors wishes. An endowment may be in perpetuity, or it may be fixed
term or until a specific event occurs.
a.3
Plant Replacement and Expansion Fund is a restricted fund used by hospitals and other
health care providers to account for donors contributions that must be used to acquire
property, plant and equipment.
b. Permanently Restricted Fund is also an endowment fund but differs from a term-endowment fund
is that the principal must be maintained intact in perpetuity and only the income may be used in
accordance with the donors wishes.
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Accounting for Revenues and Expenses


Revenues and Gains
1.
Patient Service Revenue includes room and board, nursing services and other professional services. Patient
service revenues typically are recorded at established (gross) rates as the services are provided but are
reported net of amounts that are considered deductions from revenues. The objective is to report the
amount that the hospital is entitled to collect as patient service revenues.
Charity care services provided free of charge to patients who qualify under a hospitals charity care
policyare excluded from both gross and net patient service revenues and from expense. The
hospitals policy for providing charity care and the level of charity care provided are disclosed in the notes
to financial statements.
Net Patient service revenues of hospital are measured by deducting courtesy allowances and
contractual adjustments from gross patient revenues. Uncollectible accounts expenses are not
deducted in computing net patient service revenues. Net patient revenues are reported in the statement of
activities.
Allowance accounts are used to reduce receivables for estimated deductions from revenues, as well as
estimated doubtful accounts. Deductions from revenues include:
a. Courtesy allowances-discounts to doctors and employees.
b. Contractual adjustments-discounts arranged with third-party payers (Phil Health for
example) that frequently have agreements to reimburse at less-than-established rates.
2.

Premium Fees also known as subscriber fees or capitation fees, are revenues from agreements which a
hospital provides any necessary patient services (perhaps from a contractually established list of services)
for a specific fee. The fee is usually a specific fee per member per month. The fees are earned whether the
standard charges for services actually rendered are more or less than the amount of the fee-i.e., without
regard to services actually provided in the period. Therefore, they are reported separately from patient
service revenues.
This is a growing portion of hospital revenues in many hospitals.

3.

Other Operating Revenues includes revenues from services to patients other than for health care
and revenues from sales and services provided to nonpatients. This classification might include
tuition from schools operated by the hospital, rentals of hospital space, charges for preparing and
reproducing medical records, room charges for telephone calls and television, proceeds from cafeterias, gift
shops, snack bars, donated medicine, linen and office supplies, etc.
The control account Non-operating Revenues records revenue not related directly to an entitys
principal operations. These items are primarily financial in nature and include unrestricted and donorrestricted pledges, gifts or grants, unrestricted income from endowment funds, maturing term endowment
funds, income and gain from investments, gains on sale or hospital property. Investments are reported at
fair value with both realized and unrealized gains included as part of non-operating revenue.
Note: The Other Operating Revenue and Non-operating Revenue can be a lump as one account and be
called, as Other Revenue and Gains.

Classification of Operating Expenses


Operating expenses of hospitals are reported on an accrual basis and normally include functional categories for
nursing services (medical and surgical, intensive care, nurseries, operating rooms), other professional services
(laboratories, radiology, anesthesiology, pharmacy), general services (housekeeping, maintenance, laundry), fiscal
services (accounting, cashier, credits and collection, data processing), administrative services (personnel, purchasing,
insurance, governing board) interest, and depreciation provisions.
Although accounts are maintained for employee and contractual allowances, these items are not expenses. As
stated earlier, they are revenue deductions that are subtracted from gross patient service revenues to arrive at net
patient service revenue reported in the statement of operations.
Provision for bad debts is an expense. The difference between charity care and bad debts expense is that charity
care results from the hospitals policy of providing health care to individuals who meet certain financial criteria,
whereas bad bets results from extension credit. Health care services provided as charity care were never intended to
provide cash flows.

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Accounting for Colleges and Universities


Colleges and universities are required to use fund accounting due to the large amount of restricted resources under
their control. Accrual accounting is used, but there are certain similarities to accounting by governmental funds,
especially in the reporting of expenditures rather than expenses.
Types of Funds
There are six different fund groups which may be used by a college or university. They include the current funds
(unrestricted and restricted) loan funds, endowment and similar funds, annuity and life income funds, plant funds,
and agency funds. Funds are established as needed.
Current Funds
The current funds account for resources of the institution that will be used in carrying out the primary objectives:
instruction, research, extension, and public service. Unrestricted current funds are not subject to outside restraints
on usage and restricted current funds have been restricted by donors or grantors to specific purposes. As in the case
of hospitals, resources designated by the Board of Trustees are still considered unrestricted, since they lack externally
imposed restrictions.
Loan Funds
Loan funds are established for resources that are to be loaned to students, faculty, or staff. The loan fund is not for
loans, notes, or bonds payable to others. It is designated to hold assets, not liabilities. Fund balances should be
separately report restricted and unrestricted amounts. Restricted amounts represent resources which outside parties
provided to the university on condition it will be used for loans. Unrestricted fund balances represent resources
which were placed in the loan fund at the election of the university itself.
Endowment and Similar Funds
Endowment funds are resources which outside parties contributed to the university on condition they not be spent,
but invested to yield earnings which may be spent. Term endowment funds may be spent after a specific period of
time has passed or a certain event has occurred. Quasi-endowment funds arent actually restricted, but have been
designated by the board of the university to be retained and invested.
Occasionally, a donor will establish an endowment fund, but place the fund with an independent trustee, who will
remit earnings to the university on a regular basis. Since the fund principal is not under the control of the university,
it will not account for it, but simply note the arrangement by memorandum and in the notes to the financial
statements.
Annuity and Life Income Funds
Annuity funds are resources given to the university on condition that regular payments be made to a specific person
for a certain period of time, after which all principal is available to the institution. Life income funds require
distribution of all earnings to a specified person, upon whose death the balance becomes expendable by the
university.
Plant Funds
All of the assets and liabilities associated with fixed assets of a university are accounted for in the plant fund. The
plant fund balances include (1) unexpended plant funds, (2) funds for renewals and replacements, (3) funds for
retirement of indebtedness, and (4) investment in plant.
Unexpended plant funds contain liquid assets which are to be used to acquire new plant assets in the future. Funds
for renewals and replacements contain liquid assets which are to be used to replace existing plant assets as needed.
Funds for retirement of indebtedness contain resources to be used to make principal and interest payments on debts
incurred to acquire plant assets. Investment in plant consists of the fixed assets themselves and any long-term debt
issued in connection with acquisitions of these assets.
The fund balances of the first three funds should be subdivided further into restricted and unrestricted balances,
based on whether classification in the plant fund is the result of external requirements or internal designation. The
investment in plant fund balance isnt subdivided.
Agency Funds
Resources received by the institution which belong to others, such as student body fees, are held in agency funds,
with a liability equal to the assets collected. There is never any fund balance in agency funds, since all assets held are
owed to others.
Revenues include tuition and fees; government appropriations; government grants and contracts; private gifts,
grants, and contracts; endowment income; sales and services of educational activities; sales and services of auxiliary
enterprises (such as residence halls, food services, intercollegiate athletics, and college stores); sales and services of
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hospitals (if operated by the university); other sources (such as expired term endowments, annuities, and life income
agreements); and independent operations (such as government research laboratories).
Expenditures include educational and general expenditures, auxiliary enterprises, hospitals, and independent
operations.
Accounting for Voluntary Health and Welfare Organization and Other Not-for-Profit Organizations
The FUNDS used by the VHWO include:
1.
Current Fund Unrestricted. This fund is used for operations that require only the discretion of the
organizations board of directors, and include assets designated by the board for specific purposes.
Revenues are recorded using the full accrual basis. A distinction should be made between Public Support
and Revenues.
Public Support is the inflow of resources from voluntary donors who receive no direct, personal benefit
from the organizations usual programs in exchange for their contributions. They include the following:
1. Contributions
2. Special Events Support
3. Legacies and Bequests
4. Proceeds from fund raisers
Revenues are inflows of resources resulting from a charge for service from financial activities or from
other exchange transactions.
1. Membership Dues
2. Program Service Fees
3. Sales of Publications and Supplies for proceeds from the sales of these items.
4. Investment Income e.g., interest dividends, and other earnings.
Expenses are classified as program services and supporting services and are reported on a functional
basis under these classifications. Examples of program services are research, public education, community
services and patient services.
Program Services relate to the expenses incurred in providing the organizations social service activities.
Supporting Services consist of administrative expenses and fund-raising costs, and expenses of these
items are so classified in the statement of activities.
In reporting expenses in the statement of activities, the functional classifications might appear as follows:
Expenses
Program Services it focuses on social services.
Research
Public Education
Professional Education
Community Services
Supporting Services it focuses on administration and fund-raising activities.
Management and general
Fund-raising
Expenses are recorded on a full accrual basis in a manner similar to that used by business organizations.
Expenses are recorded in each fund that incurs the expenses.
2.

3.

4.

Current Fund Restricted. This fund is used for operations, but only in accordance with a donor or
grantors specifications.
Restricted pledges to be used to promote the adoption of handicapped children would be recorded in this
classification.
Land, Building, and Equipment Fund. This fund is used to account for:
a. Land, buildings, and equipment acquired by the organization;
b. Liabilities arising from the acquisition or improvement of plant assets;
c. Current assets restricted by donors or grantors for future disposition.
Endowment Fund. This fund is used to account for permanently restricted endowment principal to
be maintained intact either in perpetuity or until a specific event occurs and temporary restricted term
endowments.
Not-for-profit Organization Accounting (5 of 6)

5.

Custodian Fund. A fund established to account for assets received by an organization to be held or
disbursed only on instructions of the person or organization from whom they were received. This fund is
similar to agency fund of a college or university. The assets do not belong to the organization.

Accounting Principles
Voluntary health and welfare organizations adhere to the accrual basis of accounting. Revenues are generally
recognized when earned and expenses are shown when the related services of the organization are provided. Sources
and uses of funds are not merely classified as revenues and expenses, however, but are instead broken down into
categories.

Donations of services should be charged to the appropriate expense with an offsetting credit to support.
Donated property should be recorded at fair market value on the date of the gift.
Pledges should be recognized net of uncollectible amounts, and pledges or cash donations that will not be
spendable until a future period should be shown as a deferred credit on the balance sheet.

Voluntary Health and Welfare Organization also must provide a Statement of Functional Expenses. This statement
reports expenses by both function (program and supporting) and by their natural classification (salary expenses,
depreciation expenses, etc)
A conditional promise to give depends on the occurrence of a specified future and uncertain event to bind the
promisor.
An unconditional promise to give depends only on the passage of time or demand by the promise for performance.
A donor-imposed condition provides that the donor will have his resources returned (or will be released from the
promise to give) if the condition is not met.
A donor-imposed restriction only limits the purpose or timing of use of the contributed assets.
Gifts in Kind are reported as unrestricted support that increases unrestricted net assets if the not-for-profit entity
has discretion over the disposition of the resources and a fair value can be reasonably determined. If the fair value
cannot be determined, the items are recorded as sales revenue when they are sold. If the not-for-profit entity has
little or no discretion over disposition of the items, the gifts in kind should be accounted for as agency transactions.
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