Introduction to Nonprofit Accounting

From churches to youth organizations to the local chambers of commerce, nonprofit organizations make our communities more livable places. Unlike for-profit businesses that exist to generate profits for their owners, nonprofit organizations exist to pursue missions that address the needs of society. Nonprofit organizations serve in a variety of sectors, such as religious, education, health, social services, commerce, amateur sports clubs, and the arts.

Nonprofits do not have commercial owners and must rely on funds from contributions, membership dues, program revenues, fundraising events, public and private grants, and investment income.

Our intent is to present some of the basic concepts that are unique to nonprofit accounting and reporting, including the financial statements required by the Financial Accounting Standards Board (FASB).

Financial Statements of Nonprofits

The following table compares the main financial statements of a nonprofit organization with those of a for-profitcorporation.

Statement of Financial Position

Financial Statements of Nonprofits

The following table compares the main financial statements of a nonprofit organization with those of a for-profitcorporation.

Illustration of the Statement of Financial Position and the Statement of Activities

We are now ready to present examples of the statement of financial position and the statement of activities. To do that, we'll follow the activities of a nonprofit organization called Home4U, a daytime shelter for adults.

Let's assume that Home4U was incorporated in January 2013 and its accounting years will end on each December 31. The following transactions occurred during a three-month period.

Transaction 1. On January 31, a donor contributes $10,000, without restriction, for the operation of Home4U. This transaction affects the general ledger accounts as follows:

Assuming this is the only transaction in January, the general ledger account balances will result in the following financial statements:

Illustration of the Statement of Financial Position and the Statement of Activities

We are now ready to present examples of the statement of financial position and the statement of activities. To do that, we'll follow the activities of a nonprofit organization called Home4U, a daytime shelter for adults.

Let's assume that Home4U was incorporated in January 2013 and its accounting years will end on each December 31. The following transactions occurred during a three-month period.

Transaction 1. On January 31, a donor contributes $10,000, without restriction, for the operation of Home4U. This transaction affects the general ledger accounts as follows:

Assuming this is the only transaction in January, the general ledger account balances will result in the following financial statements:

Statement of Functional Expenses

The statement of functional expenses is described as a matrix since it reports expenses by their function (programs, management and general, fundraising) and by the nature or type of expense (salaries, rent). For instructional purposes we highlighted the column headings to indicate the expenses by function. We also highlighted the words in the first column as they indicate the nature or type of expenses.

The FASB does not require the statement of functional expenses for every nonprofit, however it is encouraged.

Introduction to Payroll Accounting

It's a fact of business—if a company has employees, it has to account for payroll and fringe benefits.

In this explanation of payroll accounting we'll introduce payroll, fringe benefits, and the payroll-related accounts that a typical company will report on its income statement and balance sheet. Payroll and benefits include items such as:

Many of these items are subject to state and federal laws; some involve labor contracts or company policies.

Note: AccountingCoach.com focuses on financial statement reporting and not on income tax returnreporting. You should consult with a tax professional or review the Internal Revenue Service publications to learn how employers and employees are required to report salaries, wages, and fringe benefits for income tax purposes.

For the years 2011 and 2012 only, the employee's tax rate for Social Security was 4.2% instead of the usual 6.2%. (The employer's rate remained at 6.2% and the employee and employer Medicare tax rates remained at 1.45%.)

Salaries, Wages, & Overtime Pay

In this section of payroll accounting we focus on the gross amounts earned by the employees of a company.

Salaries

Salaries are usually associated with "white-collar" workers such as office employees, managers, professionals, and executives. Salaried employees are often paid semi-monthly (e.g., on the 15th and last day of the month) or bi-weekly (e.g., every other Friday) and their salaries are often stated as a gross annual amount, such as "$48,000 per year." The "gross" amount refers to the pay an employee would receive before withholdings are made for such things as taxes, contributions to United Way, and savings plans.

Since salaried employees earn a specified annual amount, it is likely that their gross pay for each pay period is the same recurring amount. For example, if a manager's salary is $48,000 per year and salaries are paid semi-monthly, the manager's gross pay will be $2,000 for each of the 24 pay periods. (If the manager is paid bi-weekly, the gross pay would be $1,846.15 for each of the 26 pay periods.) A salaried employee's work period usually ends on payday; for example, a paycheck on January 31 usually covers the work period of January 16-31. This is convenient for accounting purposes if the company prepares financial statements on a calendar month basis.

Wages

Payroll Withholdings: Taxes & Benefits Paid by Employees

This section of payroll accounting focuses on the amounts withheld from employees' gross pay. (In Part 4 of payroll accounting we will discuss the payroll taxes that are not withheld from employees' gross pay.)

The U. S. income tax system—as well as most state income tax systems—requires employers to withhold payroll taxes from their employees' gross salaries and wages. The withholding of taxes and other deductions from employees' paychecks affects the employer in several ways: (1) it reduces the cash amount paid to employees, (2) it creates a current liability for the employer, and (3) it requires the employer to remit the withheld taxes to the federal and state government by specific deadlines. Failure to remit payroll taxes in a timely manner results in interest and penalties levied on the employer; flagrant violations trigger more severe consequences.

Payroll withholdings include:

1. Employee portion of Social Security tax
2. Employee portion of Medicare tax
3. Federal income tax
4. State income tax
5. Court-ordered withholdings
6. Other withholdings

Payroll Withholdings: Taxes & Benefits Paid by Employees

This section of payroll accounting focuses on the amounts withheld from employees' gross pay. (In Part 4 of payroll accounting we will discuss the payroll taxes that are not withheld from employees' gross pay.)

The U. S. income tax system—as well as most state income tax systems—requires employers to withhold payroll taxes from their employees' gross salaries and wages. The withholding of taxes and other deductions from employees' paychecks affects the employer in several ways: (1) it reduces the cash amount paid to employees, (2) it creates a current liability for the employer, and (3) it requires the employer to remit the withheld taxes to the federal and state government by specific deadlines. Failure to remit payroll taxes in a timely manner results in interest and penalties levied on the employer; flagrant violations trigger more severe consequences.