Deferral vs. Restricted Fund Method For NPOs

Accounting isn't always an easy discipline to master, especially for those who don't live and breathe the ins and outs of accounting rules and regulations. However, some policies are more important than others, especially for nonprofit organizations. If you own, operate, or work for an NPO, it may be worthwhile to review the differences between deferral and restricted fund contribution revenue recognition.

The Ins and Outs of Accounting for NPOs

Due to the difference in tax status for not-for-profit organizations, accounting revenue recognition standards are a little different. In most business situations, revenue comes largely from business and investing activities, but NPOs have an additional element to worry about: charitable contributions.

By definition, a charitable contribution is a payment of cash or other assets that is provided with no expectation of service from the giver. A component of revenue wholly unique to nonprofits, this form of income requires a unique approach to recognition.

In accounting for charitable contributions for Canadian nonprofits, accountants have two choices to consider: deferral method or restricted fund method. While a point of consideration for all charitable contributions, the pros and cons of each option become even more important when considering the ramifications of restricted contributions.

Evaluating Accounting Options

Under Part III of NPO standards, not-for-profit organizations can choose between the deferral method and restricted fund method for revenue recognition.

Deferral Method

When using the deferral method of accounting for restricted contributions, revenue is not recognized when it is received but rather in the period that corresponds to related expenses. This is due to the refundable nature of restricted giving; as there are terms involved in the use of such revenue, it's not recognized until the conditions of use have been carried out.

Using the above example, if a donor provides money specifically to build a playground in November but the playground construction does not begin until March of the following year, no revenue will be recognized until equipment is purchased and the ground is broken.

Restricted Fund Method

Under the restricted option, revenue is recognized when it is received, regardless of when it is used. So, if the aforementioned donor provides money for the playground in July, the revenue will be recognized in July and accounted for in the year of receipt in a playground-specific fund.

This method is named as such due to the use of a separate fund to manage the contributions and expenses associated with an external restriction, allowing for restricted and unrestricted fund activities to be split out separately on an income statement.

Choosing the Right Path Forward

The differences between restricted and deferral methods are clear, but which do you choose?

While there's not always one right answer, most companies base their decision on factors that include the number of restricted contributions received and reporting objectives. Organizations that receive minimal restricted contributions may prefer the deferral method, choosing to show amounts on a statement of operations as expenses are incurred.

On the other hand, organizations that receive many restricted contributions often choose to use the restricted method of accounting in order to add more value to financial statements. Instead of just providing a high-level summary, the breakout of fund activity under the restricted fund method offers more insight, painting a better picture of an organization's use of funds.

While there are pros and cons to each method of fund accounting for restricted contributions, it is ultimately up to each organization to weigh the options available, identify needs and objectives, and make a decision accordingly.

Accounting for NPOs doesn't have to leave you scratching your head. With nonprofit bookkeeping services from Enkel, you can guarantee every contribution is realized and recognized. Contact us today to learn more about our nonprofit bookkeeping services!