Not-for-profit organizations face a big question going into their next fiscal period: how will the revenue recognition standard affect the not-for-profit sector? The answer is: it depends.
If your organization uses a basis of accounting other than the U.S. generally accepted accounting principles (GAAP), such as a cash basis of accounting, then the changes to revenue recognition under ASC Topic 606, Revenue from Contracts with Customers will not impact your organization. Organizations that follow U.S. GAAP will have some evaluating to do, particularly if your entity receives a high volume of contributions, is a membership organization, or provides goods or services (such as by operating a gift shop).
The following will help your organization gauge its preparedness for revenue recognition implementation. Time is of the essence. For private entities, ASC Topic 606 affects fiscal years beginning after Dec. 15, 2018. Calendar year-end not-for-profit organizations will use the new revenue recognition guidance in their Dec. 31, 2019 financial statements. Fiscal year not-for-profit organizations will incorporate the new standard in their June 30, 2020 financial statements.
Contribution Decision-Making Tree
There were a lot of questions when the Financial Accounting Standards Board (FASB) first released ASC Topic 606 back in 2014. One of the big ones involved how the new revenue recognition standard applied to contributions. The FASB offered some additional information on this subject with the release of Accounting Standards Update (ASU) 2018-08, Not-For-Profit Entities (Topic 958): Clarifying the Scope and Accounting Guidance For Contributions Received And Contributions Made. The standard provides additional guidance on how to distinguish between contributions and exchange transactions. Under the new accounting standards, some arrangements that previously qualified as contributions will be considered exchange transactions, and vice versa, so it’s important that not-for-profit organizations go through the updates to ASC Topic 958 very carefully. – make sure to link to June’s article
First, entities will determine whether both parties in the contribution transaction receive something of commensurate value. If they do, it’s likely an exchange transaction subject to the new revenue recognition standard.
If they don’t, the parties must then evaluate whether there is a payment on behalf of a third-party payor of an existing reciprocal transaction. If it is, then it is a balance-sheet only transaction, and revenue recognition procedures will not be affected. If there is no equal exchange of services or payments, or payment from a third party involved in an equal exchange, then the entity would apply the contribution guidance in ASC Topic 958.
The contribution guidance includes an evaluation of whether the contribution is conditional or unconditional. Conditional contributions typically include a barrier and a right of return or release, and revenue must be recognized when the condition or conditions are met.
Unconditional contributions are recognized in the appropriate net asset class—assets with donor restrictions or assets without donor restrictions. An asset with donor restrictions would have limitations on how the asset could be used (generally for a specific purpose or within a certain time frame). If there are no restrictions, then the entity would account for the contribution as an asset without donor restrictions.
Effective Date for Contribution Guidance
The accounting changes for ASC Topic 958 take effect for conduit bond holders or issuers for annual periods beginning after June 15, 2018 (June 30, 2019 for fiscal year-end entities, Dec. 31, 2019 for calendar year-end entities). All others will adopt for annual periods beginning Dec. 15, 2018 (Dec. 31, 2019 for calendar year-end entities, June 30, 2020, for fiscal year-end entities).
ASC Topic 606 Refresher
Once a not-for-profit has gone through the decision-making tree, it will then apply the revenue recognition guidance to exchange transactions. Other common not-for-profit activities will be accounted for under ASC Topic 606 as well, including:
- Products and services
- Conferences and seminars
- Royalty agreements
- Federal and state grants and contracts
Changes to revenue recognition under ASC Topic 606 replace the rules-based guidance under ASC Topic 605 and industry-specific guidance. The new standard is principles-based, and is applied in a five-step approach:
- Identify the contract with a customer
- Identify the performance obligation(s) in the contract
- Determine the transaction price
- Allocate the transaction price to the performance obligation(s) in the contract
- Recognize revenue when (or as) the entity has satisfied a performance obligation
Leases, financial instruments, guarantees, insurance contracts, certain nonmonetary exchanges, contracts not with customers, investment income, and contributions are not within the scope of the ASC Topic 606 approach to revenue recognition.
Measuring the Impact of the Rev Rec Transition
Organizations that conduct activities that are within the scope of the new revenue recognition standard should evaluate each of their contracts and processes for compliance with ASC Topic 606. They will also need to be prepared for the revenue recognition transition.
Entities have two options for adopting ASC Topic 606.
Full Retrospective Approach
Not-for-profits can adopt using a full retrospective approach, which applies the ASC Topic 606 to applicable contracts in each prior reporting period presented. If a full retrospective approach is used, entities can choose to scope out contracts that were completed in the same annual period. They can also elect to use hindsight for variable consideration.
Modified Retrospective Approach
The second transition option is the modified retrospective approach. Under the modified retrospective approach, entities will take a cumulative effect adjustment at the date of the initial application (July 1, 2019 for private, fiscal year-end entities). Not-for-profits can elect to only apply the standard to contracts that are not completed. They also must disclose what revenues would have been under ASC Topic 605 in the year of adoption.
Preparing for Revenue Recognition
Not-for-profit organizations may not be as heavily affected by the new revenue recognition standard as other industry sectors, but they should still spend the time to walk through how the accounting for their various activities may change in the adoption year. An accounting provider experienced with the changes under both ASC Topic 606 and ASC Topic 958 can help with that evaluation and planning process. For more information about revenue recognition, please contact us.
Holly Perez is a Senior Manager in the Kansas City office. She specializes in not-for-profit organizations and helps clients understand their organization, procedures and internal policies. Holly can be reached at 816.945.5142 or firstname.lastname@example.org.