While it is pretty straightforward to account for businesses that aim to profit from their operations, accounting for non-profit organizations can be challenging. That’s because they are not primarily in the money-making rollercoaster, and some of the financial figures may not mean a lot to them. Therefore, there are specific accounting techniques that address the accounting needs of non-profit organizations.
This article unravels the accounting implications of non-profit organizations and their distinctive accounting features.
What Is a Non-Profit Organization?
A non-profit organization is simply an entity that does not primarily operate to generate income. Though it may earn an income, the income is used to strengthen the organization. Non-profit organizations serve a social, religious, political, scientific, or educational cause and they are generally funded by institutions or individuals. Here are some of the types of non-profit organizations:
- Charitable Organizations: Work for the advancement of some public benefit such as education, poverty, alleviation, diversity, etc.
- Religious Organizations: Work for the rights, education, or facilitation of people belonging to a certain religion.
- Political Organizations: A political organization is a party, committee, or association that involves itself in a political process.
- Social and Recreational Clubs: The purpose of these organizations is to organize various recreational activities such as sports and fun fairs where people can socialize and entertain themselves.
Statistically, Singapore has over 2,000 non-profit organizations attracting approximately S$2.97 billion in annual donations. These organizations enjoy automatic tax exemption subject to some statutory requirements.
Here are some fundamental differences between accounting for non-profit organizations and normal business accounting:
- Accounting for Ownership: Non-profit organizations are not owned by anyone. While one may initiate a non-profit and sit on its board, technically, they can never be treated as an owner of the organization. Since there is no ownership, you don’t have to account for equity, dividends, and retained earnings in NPOs. On the contrary, for-profit organizations account for the percentage of equity, dividends, and retained earnings.
- Accounting for Income & Expenses: For-profit organizations typically account for revenue and expenses in a single ledger in order to arrive at the net profit figure. However, NPOs have different funding sources such as donations and grants, and some of the funds may have restrictions on their use. Therefore, you may need to create a series of ledgers in order to accurately record the funds received and funds spent.
- Differences in Financial Reports: For-profit organizations create various reports such as the income statement. These reports are used to keep track of the organization’s financial performance whereas, NPOs do not primarily focus on financial reports and you may only need to compare the revenue with expenditures in order to assess the financial position of the underlying NPO.
Accounting for Non-Profit Organizations
There are certain accounting principles and techniques that are used to account for non-profit organizations. Though the process may seem daunting at first but in essence non-profit accounting is pretty straightforward.
In order to grasp the accounting implications of non-profits, you need to first understand the primary difference between a for-profit and a non-profit organization. The main difference between both is the fact that, unlike for-profit organizations, non-profits work towards furthering a cause and they do not fundamentally aim to make money.
Furthermore, the funds or income left after the organization has paid its expenses are not distributed among executives or operational managers but used to further strengthen the organization. Therefore, we use a different accounting matrix that considers the structure of non-profits and addresses the accountability needs of donors.
To simplify the process, we break down the salient accounting features of non-profits in order to give you the exact steps to account for non-profit organizations.
Financial Statements of Non-Profits
Like for-profit organizations, non-profit organizations in Singapore are required to prepare financial statements. You are required to make both Financial Statements and Governance Evaluation Checklist available to the public within 6 months after the year-end.
These reports can be accessed by members and the public for transparency and accountability purposes. That’s because non-profits are funded by people and institutions in order to support a cause, and they would want to know how the organization has spent its money. This strengthens the bond between donors and non-profits and they will more likely continue the stream of donations.
However, since income is not the primary concern of non-profits, they rely on reports like the statement of financial position (SOFP), cash flow statement, and various other performance reports. If you want to automate the preparation of financial statements and tens of other reports that can provide you with helpful insights about your non-profit, consider trying Automa8e. Automa8e is a cloud-based accounting solution that automates your day-to-day accounting.
How to Measure the Performance of Non-profits?
For an organization to achieve its goals, it’s important to analyze whether the organization has achieved its objectives. For non-profit organizations, you can use key performance indicators (KPIs). Here are some KPIs that you can use to measure the performance of non-profit organizations:
Measuring the Growth Rates of Non-Profits
Simply compare this year’s donations with the previous year’s donations to arrive at the growth rate. For example: if your non-profit has received S$100,000 this year and the donations were S$75,000 last year, you can calculate the growth rate by dividing the donation difference by the previous year’s donations and multiplying it by 100. Here’s how: = 33.33% (25,000/75,000*100).
For an in-depth analysis, you can also calculate the percentage change in the number of donors. To do that, simply divide the change in the number of donations by the previous year’s donors and multiply by 100. Let’s say last year you received donations from 5,000 people and this year the number of donors was 7,000 then the growth rate of donors = 40% (2000/5000*100)
Additionally, you can keep track of other performance indicators like employee retention rate, volunteer growth rate, or return on investment (ROI) for fundraising and other campaigns.
Measuring the Operating Performance of Non-Profits
There are various techniques that you can use in order to measure the operating performance of your non-profit business — Activity Ratios or the 3 E’s (Effectiveness, Efficiency, and Economy) being the most prominent one.
Effectiveness measures whether you have achieved your objectives. This one is specifically important for non-profits since their primary objective is to provide a service rather than to make money. For example, if your objective was to feed 100 families and you have provided food to 120 families, then your effectiveness will be: 120% (120/100*100)
Efficiency, on the other hand, measures how well you have used your resources to achieve the objectives. In the above example, let’s say your timeframe for the task was one week and it took you 9 days to complete the task then your efficiency will be: 77.7% (7/9*100)
Lastly, the Economy compares the actual costs incurred with the budgeted costs. If the activity level differs, you can also flex the budgeted costs in order to accurately find the economy ratio. For example, if you budgeted to spend $5,000 on the feeding campaign and the actual costs were $5,500, your economy will be:
Budgeted costs= $5,000 for feeding 100 families
Flexed Budget= $6,000 (50*120)
Costs Incurred= $5,500
Costs Saved= $500
Economy Ratio= 109% (6000/5500*100)
These are some activity ratios that can help you analyze the operating performance of your non-profit organizations. There are various other accounting tips and techniques for non-profits, and that’s one of the reasons why we have partnered with one of Singapore’s top accounting firms SOAS Pte Ltd. They can provide you with a high-quality service based on your organization’s needs and preferences. Check out the services that SOAS Pte Ltd offers to non-profits.