By Anna Baumgardner, CPA | Published 03/24/2022

The term net assets may pop up in financial statements whether you have a for-profit or a nonprofit entity, so I want to provide some key clarifications. Throughout this article, I will focus on nonprofit lingo, but provide the correlating for-profit verbiage to help make the connection between definitions for anyone already familiar with for-profit accounting. Since most accounting and business education is taught from the perspective of for-profit entities, it’s generally helpful to note the correlation between terms, and eliminate confusion from “I thought this was called X” type of questions.

First, it may help to note that “net assets” is synonymous with the for-profit accounting term “equity.” We use the term “net assets” in nonprofit accounting because nonprofits do not have owners or investors, and therefore do not have owner’s equity. That is not to say that a nonprofit is not set up by a person or another entity or that there are no investments in a nonprofit, but the nonprofit stands alone in their exempt status. Instead of buying a piece of a nonprofit and gaining equity, a donor makes a contribution that they can designate as general use or restrict for specific use. For our article on contributions with donor restrictions and the related documentation, click here. The accounting equation provides that Assets + Liabilities = Equity, aka Net Assets. Makes sense so far, right?

How do net assets relate to revenue?

Remember when I said that a donor does not purchase an ownership share or portion of equity in a nonprofit, but instead makes a contribution? That contribution and any other funds provided to the nonprofit are revenue. This is where it is important to understand how your statement of activity (P&L) flows, which is depicted below. For those of you already familiar with the for-profit profit & loss statement, I’ve included a comparison to show how the terminology equates.

Statement of Activity Profit & Loss

Revenues

– Expenditures

= Net Revenue, or Change in Net Assets

Revenues

– Expenses

= Net Profit / (Loss)

 

Do net assets appear on the statement of activity or the statement of financial position?

“But wait – you said that net assets are the net of assets less liabilities, and those are statement of financial position aka balance sheet accounts.” You’re right – I did say that. Don’t worry, this term appears in both statements – which is why net assets can be such a confusing topic!

First-year statements look a little different from every statement subsequent because there are no carryover balances. Note that the statement of activity (P&L) is a snapshot of revenues and expenses incurred during a specific period. In contrast, the statement of financial position (aka balance sheet) is made up of cumulative balances – meaning that unless you dispose of/use up an asset, or pay off/transfer a liability, these accounts never close out. The table below shows how a first-year statement of financial position (balance sheet) presents.

Statement of Financial Position Balance Sheet

Assets

– Liabilities

+ Change in Net Assets (current period)

= Total Liabilities & Net Assets

Assets

– Liabilities

+ Net Profit / (Loss)

= Total Liabilities & Equity

 

But in the years to follow (just when you think you understand the statements), something happens to complicate the picture. In for-profit accounting terms, something called retained earnings starts accumulating on the balance sheet, which is the net accumulation of total profit or loss year over year. In non-profit accounting terms, this accumulation is referred to as net assets on the statement of financial position. In subsequent years, these statements present a few extra lines:

Statement of Financial Position Balance Sheet

Assets

– Liabilities

+ Change in Net Assets (current period)

+ Beginning Net Assets (cumulative prior Net Assets)

= Total Liabilities & Net Assets

Assets

– Liabilities

+ Net Profit / (Loss)

+ Retained Earnings (cumulative prior Net Profit / (Loss))

= Total Liabilities & Equity

 

What are restricted net assets? How are restricted assets or restricted revenues released?

As you know, donors can restrict the use of the funds they provide. Donor restrictions can be identified in a grant agreement, a formal pledge, or even with a letter from the donor. The restrictions may range in specificity, but there are two common types of restrictions that are implemented: use restriction and time restriction.

Use restrictions are implemented when a donor specifies that funds must be used for a specific purpose. When contributions with donor restrictions are received, the receipt is booked as restricted revenue until the expenditures which fulfill the donor’s restriction are incurred. Once the expenditures are incurred and the requirement defined in the grant agreement is fulfilled, the revenue is “released” from restriction. So, it may take more than one month for a receipt to be fully released from restriction. More typically, the grantor is notified by the nonprofit that the donor’s request has been fulfilled. 

Time restrictions are implemented when a donor wishes for funds to be used during a specific period. In this case, the donor will identify the period in which the revenue can be recognized. For a very simplified example, a $500,000 grant may be designated to cover “$100,000 per year of general, administrative, and operating expenditures during the organization’s years 2022 through 2027.” In this case, the $500,000 contribution should be recognized as restricted revenue until the closing of each year. At year-end for each of the 5 years, $100,000 will be reclassed from restricted revenue to unrestricted revenue. Note that depending on the grant or pledge, there may be additional time-value calculations to be considered that are beyond the scope of this article. Because they are nuanced and complicated, we recommend reaching out to your friendly CPA for more details on long-term time-restricted funds.

How do we track restricted contributions?

Ideally, the receipt of restricted contributions and the release from restriction is “tracked” by the transactions recorded in the restricted revenue accounts. QuickBooks Online’s class feature is a fantastic way to track each transaction’s specific donor or restricted purpose at a detailed level, within the restricted revenue and related expense accounts. You should also assign the appropriate class to each expenditure, to track what expenditures do and do not count towards each restriction. It’s best practice to additionally track restricted revenues and their related releases in separate worksheets outside of your accounting system. I make this recommendation because most accounting systems (like QuickBooks Online) are not designed to track a nonprofit’s operations and agreements outside of their actual recognition transactions. The program manager may be the best person to manage this tracker, since they should understand the contributions in detail, and have a close eye on the expenses related to the restricted contributions. In your restricted revenues worksheets, it may be helpful to note the donor, the donor or grant agreement identifier (name or ID number), the period identified in the agreement, and the restrictions specified by the donor. It’s also helpful to identify/track any expenses that fulfill use restrictions, so that you have a clear and concise schedule to support the funds’ release. Your fundraising system or app may provide most of this functionality, so make sure you utilize any of that system’s features before saddling yourself with another worksheet. However, know that your auditor will request support for restricted and release of restricted funds. The auditor may refer to this tracker as a total restricted net assets (TRNA) schedule or rollforward, and will appreciate a well-maintained schedule and support. Making sure that your TRNA rollforward ties out to your restricted revenue transactions and accounts will help ensure a smooth audit.

 

How do net assets roll from year to year? What does a Total Restricted Net Assets (TRNA) rollforward look like?

Now we’ll combine all of the things we just discussed and walk through an example.

Let’s say it’s 2030, and that GAAP have not changed. You run a nonprofit that provides childcare for underprivileged families, including pickup and drop-off for children in families without a vehicle. In year 2030, your calendar-year organization receives the following contributions:

  1. $10,000 cash grant (paid upon signature of grant agreement) with no restrictions, to be used as your organization sees fit for general operations, fundraising efforts, or to support any of your organization’s programs.
  2. $15,000 grant to be used for the repair, maintenance, or replacement of your organization’s HVAC systems, or if no HVAC expenses are incurred, a maximum of $3,000 per year for general operations. The grant stipulates that the funds will be disbursed upon proof of expenditure.
  3. $40,000 cash grant to be used for the purchase of a new van for your organization to use for transporting children.
  4. $30,000 cash to be used for general purposes over 3 years, at $10,000 each year.

First, let’s identify what we have, and how the awards will be booked in the accounting system.

  1. $10,000 – because the grant agreement has no restrictions, and is paid up front, the entire $10k deposit will be recognized as revenue.
  2. $15,000 – the grant agreement restricts these funds for a specific use – upkeep and replacement of the HVAC system. At the inception of the agreement, the entire $15,000 should be recorded as restricted revenue. However, note that the agreement has an “or” provision – that the funds will be used at a minimum of $3k per year. This is a special “or” time restriction, such that that if the organization does not incur at least $3k in HVAC expenses in any one year, the organization may request the difference from the grantor. (This type of provision may be included so that the grantor is not on the hook for grant funds for longer than X years.) In this case, the expenses and/or minimum of $3k will be requested from the grantor at year-end or per the disbursement schedule in the grant agreement, and recognized as revenue.
  3. $40,000 – the funds will be provided up front, but there is a use restriction that the funds must be used for purchase of a van. The deposit will be recorded as restricted revenue, and recognized as revenue (released) when the van is purchased.
  4. $30,000 – this is a time restriction. The deposit of $30k will be recorded as restricted revenue upon signature of agreement, and recognized (released) as revenue at $10k per year.

Now, let’s examine how this looks on a TRNA. You’ll notice that the TRNA tracks the entire balance, not just the revenue that is recognized.

  1. $10,000 – not included, because this grant has no restrictions.
  2. $15,000 – recognize for restriction, and release from restriction, the expenses incurred for the HVAC system, or a minimum of $3k (the “or” provision specific to this grant).
    1. For the TRNA rollforwards provided below, we assume that for 2030, only $700 was actually expensed for system maintenance, so we will recognize and release the minimum of $3k. Unfortunately in 2031, the HVAC system failed, and had to be replaced for a total cost of $10k. In 2032, the incurred $300 in maintenance costs, so the remaining amount ($3k or less) is released.
  3. $40,000 – only the payments made for the van in 2030 will be released from restriction.
    1. For the TRNA rollforwards provided below, the donor-restricted funds are released when the van purchase agreement is signed.
  4. $30,000 – release $10,000 from restriction each year for all 3 years of the grant period.

The tables below show the TRNA rollforward examples in action:

2030

Grant ID Grant Purpose Grant Amount Beg. of Yr. Balance Gifts / Additions Expenditures / Releases End of Yr. Balance
Grant b. Donor Restricted – HVAC system 15,000 15,000 (3,000) 12,000
Grant c. Donor Restricted – purchase of van 40,000 40,000 (40,000)
Grant d. Donor Restricted – time restriction 30,000 30,000 (10,000) 20,000
  TOTALS   85,000 (53,000) 32,000

 

2031

Grant ID Grant Purpose Grant Amount Beg. of Yr. Balance Gifts / Additions Expenditures / Releases End of Yr. Balance
Grant b. Donor Restricted – HVAC system 15,000 12,000 (10,000) 2,000
Grant d. Donor Restricted – time restriction 30,000 20,000 (10,000) 10,000
  TOTALS   32,000 (20,000) 12,000

 

2032

Grant ID Grant Purpose Grant Amount Beg. of Yr. Balance Gifts / Additions Expenditures / Releases End of Yr. Balance
Grant b. Donor Restricted – HVAC system 15,000 2,000 (2,000)
Grant d. Donor Restricted – time restriction 30,000 10,000 (10,000)
  TOTALS   12,000 (12,000)

 

Again, it’s important to understand that the TRNA rollforward balances are unlikely to perfectly mirror the financials at the end of each year. The Gifts/Additions and Expenditures/Releases columns should be able to be tied to transactions in the accounting system, but those transactions are frequently spread out across the financial statements. For example, the Expenditures/Releases in year 2030 in the examples above come from Repair & Maintenance expenses for Grant b, the paydown of a loan liability for Grant c, and the simple passing of time for Grant d. This is why it’s imperative to keep good records of the grant agreements and the achievements allowing for the release of restricted net assets.

For any other questions about the nuances of net assets, or how to record or track contributions with donor restrictions, please give us a shout!