FASB Accounting Standards Update (ASU) 2014-15 changes the disclosure requirements of the going concern concept for organizations with annual periods ending after December 15, 2016. This new standard makes organizational management responsible for assessing going concern internally. Previously, the U.S. Generally Accepted Accounting Principles’ (GAAP) did not provide set guidance on these requirements and going concern assessments were only required as an audit procedure. This updated standard changes the assessment period; organizations have one year after the financial statements are available or issued, rather than one year after the balance sheet date.
The new FASB update defines a going concern issue as “substantial doubt that the entity will be able to meet its obligations as they become due within one year after the date that the financial statements are issued.” An organization that is highly capitalized and has good credit may need to recognize a going concern issue if they plan on deferring a significant amount of payments. They may elect to disclose that this issue will be sufficiently alleviated by the deferral, but they are still required to disclose that a going concern issue existed.
Management is required to assess the conditions that may make financial statement users doubt the entity’s ability to continue as a going concern. They must also assess whether there are effective plans in place to alleviate these conditions. If it is determined that the substantial doubt is able to be mitigated through management plans, the financial statements must disclose the conditions raising that doubt. Additionally, management must evaluate the conditions and have plans in place to alleviate the doubt. If it is unable to be mitigated, the statements should disclose that there is substantial doubt about the entity’s ability to continue as a going concern, conditions raising doubt, management’s evaluation of the conditions, and their plans to mitigate the doubt.
This new update aims to make the timing and substance of going concern footnotes more consistent and clear. Previously, there was possible confusion around whether going concern issues existed and could be mitigated. Users could jump to the conclusion that the company would go out of business even if all doubt could be sufficiently mitigated. The guidance now in effect aims to avoid these misunderstandings by providing more cohesive instructions for the proper evaluation and disclosure of going concern issues.
Nonprofits dream of substantial endowments to allay rising operating costs and for greater flexibility to pursue new programs and ideas. Nonprofits such as prestigious universities, have often achieved this goal. Endowments generally involve donations to nonprofits whereby the corpus or principal of the gift are to remain intact and the “earnings” on the corpus can be used to fund programs.
In practice, arrangements can be diverse based on the donor’s specific wishes regarding the endowment. For example, a donor could stipulate the principal of the endowment be spent over a certain time or conversely that the “corpus” of the gift be increased by some percentage anually to account for the loss of purchasing power. Endowments are different from a nonprofit’s reserve funds that have accumulated over time to cover unforeseen pressing financial needs. Some organizations designate their reserve funds to function as a quasi-endowment to manage long-term finances.
However, many nonprofits never achieve a true or quasi-endowment accumulation because current need surpasses long-term dreams and operating reserves can be difficult to come by. Similarly, the average donor lacks the financial wherewithal to make a significant endowment gift and may prefer to see their gift assist with current needs, and/or receive the benefits of an annual donation. Donors of significant means may have different motivations to make an endowment gift. They may be concerned about the operational impact of a large one-time gift and the use of the funds. A sense of permanence may also motivate larger donors to make a named gift so that future generations are aware of their philanthropy. This sense of permanence guides many to establish a named private foundation for the same reasons.
Furthermore, organizations with endowments are required to record transactions a certain way and to provide disclosures about their endowments by financial reporting standards. The accounting standards are influenced by “endowment law” and known as the Uniform Prudent Management of Institutional Funds Act (UPMIFA), which has been adopted by all states except Pennsylvania. UPMIFA replaced the prior standard that was in place since 1972, the Uniform Management of Institutional Funds Act (UMIFA). In addition to a law change, accounting standards are evolving with the issuance of ASU 2016-14, Not-for-Profit Entities: Presentation of Financial Statements of Not-for-Profit Entities. Early adoption is permitted; these amendments are effective for years beginning after December 15, 2017.
Under both present and future GAAP, contributions are restricted only upon a donor’s designation. If the donor creates a true endowment fund, the contributions are permanently restricted net assets under current GAAP or net assets with donor restrictions under the latest changes. A board-designated endowment fund is created when a governing board designates or earmarks a portion of its net assets without donor restriction to be invested, generally for a long but possibly unspecified period. When classifying a donor restricted endowment fund, consideration is given to both the donor’s explicit instructions and the applicable laws (usually UPMIFA) that extend donor restrictions. Investment returns are recorded in accordance with any donor stipulation such as for use in a particular program, and in this case would be considered restricted until the amounts are spent on the specific program or otherwise considered restricted until appropriated for expenditure by the nonprofit’s governing board.
One of the major changes to both governing law (UPMIFA vs UMIFA) and in the recent accounting update is the treatment of “underwater endowments”. Under UMIFA, there was a concept of the historical dollar value of an endowment consisting of the original gift plus any additions to the fund made by the donor, which constituted a floor that the value of the fund should not fall below. Regardless of interpretation, in practice the accounting guidance followed the prescription that the historic dollar value and recorded permanently restricted net asset was fixed. Therefore, any decrease in fair market value below this had to be covered by otherwise unrestricted net assets creating a loss in that column, assuming there was no temporarily restricted net assets on net appreciation of the fund that was unspent. UPMIFA eliminated the concept of historic dollar value and applied prudent man standards to how an endowment fund may be spent over time. As a result, the new accounting standards are a significant change that would treat a drop in fair market value of a restricted donor endowment as a loss in the donor restrictions column.
There are specific financial statement disclosures related to endowment funds as stated in the new standards ASU 2016-14, Not-for-Profit Entities: Presentation of Financial Statements of Not-for-Profit Entities. A nonprofit will disclose information to enable users of financial statements to understand all of the following about its endowment funds both donor-restricted and board-designated:
At a minimum, a nonprofit shall disclose all of the following information for each period that it presents financial statements:
If a nonprofit is subject to a donor restriction or applicable law that its governing board interprets as requiring the maintenance of purchasing power for donor-restricted endowment funds, they should periodically adjust the disclosed amount that is required to be maintained either by the donor or by law.
Furthermore, for each period that a statement of financial position is presented, a nonprofit shall disclose each of the following, in the aggregate, for all underwater endowment funds:
Endowments are complicated. Please call Aronson’s Craig Stevens at 301.231.6200, if you have specific questions, or would like to discuss how the new accounting standards apply to your specific situation.
On April 15, 2015, the FASB issued ASU 2015-05 focusing on customer’s accounting for internal-use software especially fees paid in a Cloud Computing Arrangement (CCA). From time to time, lack of explicit guidance about fees paid in a CCA has caused unnecessary costs to organizations in extra accounting fees.
The major changes in the update include eliminating the analogy to leasing guidance, adding a few more subtopics in defining software license and service contract, and some other amendments. If an organization obtains a software license for cloud computing service, it should account for that license consistently with the acquisition of any other license of an intangible asset. A software license will be accounted for differently based on its type and payment method. If it is a perpetual software license which the organization pays a one-time license fee then the costs should be capitalized. If the organization pays the software license as a subscription then the cost should be expensed. Otherwise, the organization should account for the cloud computing fees for service contract as either prepaid expenses or operating expenses. The new glossary added definitions for “hosting arrangement” and “without significant penalty”.
In summary, when dealing with accounting issues of cloud services, the organization should disclose them in a way similar to other licenses, under the scope of intangible asset instead of leases.
As discussed in a previous blog post on February 25, 2016, the FASB issued a new standard on Leases (ASC 842) which absent early adoption (which is permitted) will take effect for nonpublic companies in 2020. This update comes after a study and deliberation period of almost ten years.
There was an original goal to align U.S. and International accounting standards on this issue but in the final result there still are some differences. This blog post will discuss the accounting for lessees as non-profit organizations generally do not lease property to others in commercial transactions except for the occasional sublease of office space.
The main difference between previous GAAP and the new standard is the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases under previous GAAP. A lessee would recognize in the Statement of Financial Position a liability to make lease payments (the lease liability) and a right-of–use asset representing its right to use the underlying asset for the lease term. This will significantly change the Balance Sheet for many organizations who could now have major increases to their presented assets and liabilities. It’s essentially as if an organization purchased an asset with debt which now shows on their financial statements which was not there previously. The recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee have not significantly changed from previous GAAP. There continues to be a differentiation between finance leases and operating leases for lessees but again non-profits rarely enter into finance leases.
For operating leases , a lessee is required to do the following :
For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and liabilities. Under this election, the lessee should recognize lease expense for such leases generally on a straight-line basis.
At the inception of a contract, an entity should determine whether the contract is or contains a lease. A lease is defined as a contract or part of a contract that conveys the right to control the use of identified property, plant and equipment (an identified asset) for a period of time in exchange for consideration. Control over the use of the asset means that the customer has both (1) – the right to obtain substantially all of the economic benefits from the use of the asset and (2) the right to direct the use of the asset.
Unlike prior GAAP, a key consideration was whether a lease was an operating lease or a capital lease because lease assets and liabilities were only recognized for capital leases. Going forward, the critical determination is whether the transaction is a lease or not as all leases over 12 months will reflect assets and liabilities.
There are a number of other issues addressed in the standard including determination of the lease term if extension options are in place, how lease modifications would be treated, treatment of initial direct costs, the criteria for finance leases, and other issues.
Over the next 4 years organizations will need to evaluate their leases and plan for the implementation of this standard.
On April 1, 2015, the Financial Accounting Standards Board (FASB) decided to defer the effective date of the new revenue standard, Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606). This proposed one-year delay is intended to provide entities adequate time to effectively implement the new standard.
The new revenue standard, which was officially issued by the FASB in May 2014, standardizes how companies should recognize revenue in financial statements under US Generally Accepted Accounting Principles (GAAP).
As a result of the proposed deferral, public entities would apply the new revenue standard to annual reporting periods beginning after December 15, 2017 and the first interim period within the year of adoption. Nonpublic entities would apply the new revenue standard to annual reporting periods beginning after December 15, 2018 and the interim periods within the year of adoption.
Additionally, the FASB decided to allow both public and nonpublic entities to adopt the new revenue recognition standard early, but not before annual periods beginning after December 15, 2016 (which was the original public entity effective date).
The Board directed its staff to prepare an exposure draft which will have a 30-day comment period for the proposed update.
For more information on this update or other accounting standards, please contact your Aronson advisor at 301.231.6200.