FASB Update: Revenue Recognition for Not-For-Profit Organizations
Accounting for not-for-profit organizations is in the midst of the biggest changes we’ve seen in decades. First, FASB released ASU 2016-14, Topic 958, which changed financial statement reporting for not-for-profit orgs. Then, in June 2018, another update to Topic 958 was released, ASU 2018-08: Clarifying the Scope and the Accounting Guidance for Contributions Received and Contributions Made. This latest update was intended to help not-for-profit orgs report their contributions and grants consistently. This update also clarifies the application of the new revenue recognition standard, ASC 606, for not-for-profit orgs.
This new guidance will be in effect for recipient organizations starting with periods that begin after Dec. 15, 2018. Resource providers have an extra year. Earlier dates apply for organizations that act as conduits for bonds.
Exchange or Non-Exchange Transaction?
A central focus of this update is the distinction between exchange and non-exchange transactions. To be classified as an exchange transaction, both parties must have the intention of exchanging something of commensurate value. If an agreement qualifies as an exchange transaction, then the revenue recognition guidance in ASC 606 applies.
The guidance clarifies that even when the public at large receives a benefit from the recipient organization, that alone isn’t enough to classify the agreement as an exchange transaction. This means that recipients of federal funding who may have previously treated a grant as an exchange transaction because of the benefit to the public should now treat such grants as non-exchange transactions.
Non-exchange transactions, on the other hand, are voluntary, non-reciprocal transactions. The donor may have full discretion as to the amount of resources provided, and may designate that these funds be used for a specific purpose. Non-exchange transactions fall under the guidance in ASC 958.
Here are two examples, adapted from the update, to demonstrate the difference:
Research funding as an exchange transaction: A pharmaceutical company provides funds for a not-for-profit research lab to speed up the search for new drugs. As part of the agreement, the pharmaceutical company has right of first refusal to license any compounds discovered by the not-for-profit research lab as a result of this funding. This is an exchange transaction, which means that ASC 606 applies.
Research funding as a non-exchange transaction: The federal government provides funding for a university to conduct research into possible cures for disease. At the end of the project, the university submits a summary report of the research to the federal government. The university is free to publish its findings in scientific journals and to retain the rights to the research. Although the public at large may benefit from this research, the federal government doesn’t receive anything of commensurate value in exchange for the funding, so this is a non-exchange transaction.
Conditional or Unconditional?
Once an agreement is identified as a non-exchange transaction, the next step in the analysis is determining whether it is conditional or unconditional. This distinction drives the timing of revenue recognition. To qualify as conditional, the following two tests must both be met:
- The recipient must overcome a specific barrier or hurdle in order to retain the funds.
- The donor has the right to demand return of the resources if the recipient doesn’t hold up their end of the deal.
The barrier or hurdle might be specific levels of service to be provided, or the achievement of certain milestones. If the right of return is limited to the repayment of funds not spent on a specific program, that doesn’t count as conditional.
The standards emphasize that only the agreement is to be analyzed to determine whether funding is conditional or unconditional. Neither the recipient’s likelihood of achieving the milestone nor the donor’s likelihood of demanding return of the funds should be considered.
If the agreement is found to be unconditional, the recipient recognizes the revenue on receipt. For conditional agreements, the recipient recognizes revenue as the barrier is overcome, or as milestones are achieved. If the agreement is ambiguous, recipients should treat the funding as conditional.
For a deeper understanding of the new guidance for grants and contributions, I recommend PWC’s eBook. This article by CLA has a nice flowchart you can download and give to your clients. This update to the FASB standards may change the ways your clients are reporting their contributions and grants, so be sure you’re aware and can help them out.