Nonprofit organizations, by definition, operate with the principle of focusing on accountability, not profitability. Nonprofit organizations do not actually generate profit. Any revenue of income left over after all of the business expenses are paid is required to be put back into the organization for the purpose of funding the mission. This is important for nonprofits to keep both their nonprofit or charitable designation from the state they operate and also their tax-exempt status which is monitored by the Internal Revenue Service (IRS).
What Is A Profit And Loss Statement, And Do Nonprofits Need One?
A profit and loss statement may also be called a P&L or an Income Statement. The P&L is a financial statement prepared by for-profit and not-for-profit entities on a monthly, quarterly, or annual basis. The statement summarizes the income and expenses of the organization during a specified amount of time. The statement is set up to give users a quick glance at the company’s net income for that time period. Net income is the profit an organization generates. It is calculated as:
Net income (Profit) = Revenues – Expenses
Revenues may include income from the sale of goods and services, rental income, donations and dues, grant revenue, and any other monies collected. Expenses are any costs to the organization required to operate. There are operating expenses, which include costs of utilities, payroll, building maintenance, office supplies, materials needed for projects, and more. The expenses of the real estate tax, income tax, and interest paid on mortgages or other debt are also deducted from the income to calculate profit. The amount of money left over gives the profit.
Nonprofits do have profit and loss statements, but they take the form of a Statement of Activities.
What Is A Statement Of Activities?
The statement of activities is a nonprofit’s organization income statement. While a traditional income statement exists to show a profit, or Net Income, a statement of activities exists to show the change in net assets.
Change in net assets = revenues – expenses
This is because nonprofits don’t generate a profit, but they do need to track records, and present revenues and expenses. The statement of activities of a nonprofit organization may be used in the following ways:
Internal Users Of The Statement Of Activities
Internal users of financial reports include the organization’s management team, founder, Board Members, audit committee, and financial leadership. The report can be used as a guideline to plan projects, community events, and making operational decisions. The report can tell leadership when it’s time to increase fundraising activities or cut back on payroll costs. In order to stay compliant with governing agencies, nonprofit leaders should frequently review the statement of activities to ensure that resources are being properly allocated.
External Users Of The Statement Of Activities
Transparency is key for nonprofit organizations. External users of the statement of activities may include Grantmakers, financial auditors, donors, members, or partnering organizations. The report can be used to show that the organization is correctly recording all of the money that is coming in and out of the entity and that each type of revenue is properly allocated. It also gives donors a snapshot view of how much money the group is spending on each project or program.
Statement Of Activities Categories
As previously mentioned, there are three categories on a statement of activities: revenues, expenses, and changes in net assets. As with many aspects of financial reporting, these categories are a little different in nonprofit entities.
Generally Accepted Accounting Principles (GAAP) require that organizations list all types of revenue on their financial reports, but for nonprofit entities, those revenues must be broken down into at least two categories. The most commonly used categories for nonprofits include:
- Restricted revenue – funds where the purpose of the money is dictated by the donor or Grantmaker. These revenues must be recorded separately to maintain transparency about the use of the funds.
- Unrestricted revenue – income collected by the organization without the stipulation that may be used to cover operating expenses or any project that is in line with the organization’s stated purpose
Expenses can be broken out in several ways on a statement of activities. Each organization operates differently, so the expense categories on their financial reports will reflect that. Some common nonprofit expense groupings include:
- Programs – the costs of funding the organization’s projects and programs
- Fundraising – the expenses associated with fundraising events and activities
- Management and administration – operating costs required to keep the organization running
Change In Net Assets
While the goal of a nonprofit organization is not to earn a profit, these organizations do make money. Excess revenue can be used to fund further programs or saved as a reserve for future expenses or to offset periods where the expenses exceeded income and there is a shortfall or loss.
Understanding your nonprofit’s financial statements is essential to getting a grasp on the overall financial position of the business. But it is impossible to fully calculate or analyze the change in net assets if financial reports or transactions are not properly recorded and organized.
Fortunately, there is help for nonprofits that want functional financial reports and cohesive accounting procedures. Consider working with a nonprofit accounting expert at JFW Accounting Service today to get your entity on the right financial track.
Jo-Anne Williams Barnes, is a Certified Public Accountant (CPA) and Chartered Global Management Accountant (CGMA) holding a Master’s of Science in Accounting (MSA) and a Master’s in Business Administration (MBA). Additionally, she holds a Bachelor of Science (BS) in Accounting from the University of Baltimore and is a seasoned accounting professional with several years of experience in the field of managing financial records for non-profits, small, medium, and large businesses. Jo-Anne is a certified Sage Intacct Accounting and Implementation Specialist, a certified QuickBooks ProAdvisor, an AICPA Not-for-Profit Certificate II holder, and Standard for Excellence Licensed Consultant. Additionally, Jo-Anne is a member of American Institute of Certified Public Accountant (AICPA), Maryland Association of Certified Public Accountants (MACPA), and Greater Washington Society of Certified Public Accountants (GWSCPA) where she continues to keep abreast on the latest industry trends and changes.