Accounting rules are different for nonprofits, and adhering to them can help these organizations advance their charitable missions.

U.S. Generally Accepted Accounting Principles (GAAP) guide accounting and financial reporting across sectors. However, GAAP contains certain standards that are industry-specific, including those for nonprofits. Accounting and finance professionals that work with nonprofits need to understand what’s different, from how they recognize contribution revenue to how they report donor restrictions.

Following GAAP isn't a legal requirement for many nonprofits, but plenty of funders, state regulators, charity watchdog agencies, and accreditation bodies expect it anyway.

Why GAAP Matters for Nonprofits, Even When It's Not Required

Following GAAP can open the door to more grant funding, since many funders require GAAP-based statements or simply trust organizations more when they provide them. It also builds transparency with donors and stakeholders, supports compliance with IRS reporting requirements for tax-exempt organizations, leads to better financial decision-making through accrual-based reporting, and requires stronger internal controls that help prevent fraud.

Where Nonprofit Accounting Gets Nuanced

A few areas of GAAP for nonprofits can trip up even experienced accountants:

• Revenue recognition. Contributions are accounted for differently than exchange transactions, and some gifts blend both, requiring the transaction to be split and recorded separately.
• Donor restrictions. Funds must be tracked and reported as either net assets without donor restrictions or net assets with donor restrictions, depending on the donor's intent.
• Functional expense allocation. GAAP requires nonprofits to break expenses into three functional categories: program, management and general, and fundraising, so donors can see how resources have been allocated.
• Financial statements. Nonprofits prepare their own versions of core financial statements, including the Statement of Financial Position (Balance Sheet), Statement of Activities (Income Statement), and Statement of Cash Flows. Some organizations also prepare a Statement of Functional Expenses.

Common Missteps to Avoid

Some errors show up again and again in nonprofit financial reporting:

• Confusing conditions with restrictions. Conditions affect when revenue is recognized; restrictions affect how it's reported. Mixing these up can lead to recording revenue too early or reporting it incorrectly.
• Improperly recording in-kind contributions. Gifts of goods or space should be recorded at fair market value as both revenues and expenses. Donated services are only reported if they require specialized skills the organization would otherwise pay for.
• Misclassifying costs by function. Advertising and human resources costs are frequently, and incorrectly, coded as program expenses, when GAAP classifies both as management and general.
• Improperly recording multi-year pledges. Unconditional promises to give are recorded immediately at present value, even when payments stretch over several years, while conditional promises aren’t recorded until the conditions are met.

Adherence to nonprofit GAAP pays off for charitable organizations in transparent reporting, risk reduction, and stronger funder relationships.

Want the full breakdown, including guidance on implementing these industry-specific standards and avoiding common errors? Read the complete guide, "GAAP for Nonprofits."

Your Part-Time Controller, LLC (YPTC) is a leading provider of nonprofit accounting services. Connect with Aimee Pourciau, Director and YPTC Colorado market leader, on LinkedIn.

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