Accounting for income of NFPs
Significant change is coming.
Accounting by not-for-profit (NFP) entities for different types of income is about to become significantly different. The Australian Accounting Standards Board has revised the standards that address matters such as grant funding, contributions of assets, peppercorn leases and volunteer services.
A key change is a replacement for some transactions of the criteria of control as a determinant of the timing of recognition of income, with the criteria of satisfying performance obligations in an enforceable agreement. This brings consistency with the new accounting standard on revenue, AASB 15, which will be used to account for some funding transactions of not-for-profit entities.
Which standards are changing?
AASB 15 Revenue from Contracts with Customers replaces AASB 118 Revenue. It sets out a new 5-step model for the recognition of revenue based upon identifying and separately accounting for material performance obligations contained in contracts with customers. The existence of multiple performance obligations increases the possibility of recognising portions of the total transaction price at different points in time.
AASB 1058 Income of Not-for-Profit Entities applies to transactions:
- Where an NFP receives services from volunteers; or
- Where an NFP acquires or constructs an asset for consideration significantly less than fair value. In such cases, the NFP uses appropriate standards to recognises any asset, then any liability arising under the transaction. Any difference between the two is generally recognised as income.
AASB 2016-8 Amendments to Australian Accounting Standards – Australian implementation Guidance for Not-for-Profit entities adds guidance to AASB 15 so that it may be interpreted in an NFP context. The guidance assists preparers to determine whether income should be accounted for under AASB 15 or AASB 1058, through explanations and illustrative examples. As a result, Appendix F of AASB 15 contains important information for NFPs on the meaning of a customer, sufficiently specific promises, and the contextual meaning of enforceable.
AASB 1004 Contributions is reduced as various NFP income matters are now addressed by AASB 1058. However, it still exists, covering public sector specific matters such as:
- parliamentary appropriations;
- accounting for the administrative arrangements; and
- contributions by owners in a public-sector context.
There are also links to the new AASB 16 Leases, which removes the distinction between finance and operating leases so that all but short-term or low value leases are recognised at inception on the balance sheet.
When are the standards effective?
This suite of accounting standards applies to annual reporting periods beginning on or after 1 January 2019. Early adoption is permitted provided all the changing standards are first applied at the same time.
Which types of transactions are covered by these standards?
Financial statement preparers will need to understand transactions and the legal arrangements behind them so they may make the appropriate classifications that determine which accounting standards apply.
A common situation amongst NFP entities is lease arrangements known as peppercorn leases. These involve terms and conditions that at inception are significantly below those that apply in the market, and are agreed to by the lessor principally to assist the NFP to further its objectives.
Such transactions are within the scope of AASB 1058 as the NFP is receiving an asset, the right to use, whose fair value is significantly more than the consideration offered (the present value of the future lease payments). This may result in the difference being recognised as income at the beginning of the lease, and recognised as expense over the term of the lease.
Transitional provisions allow existing leases to continue to be recognised on the basis previously applied.
An optional treatment is now specified for NFP entities to recognise as income the fair value of services provided by its volunteers, provided the fair value may be measured reliably.
This accounting remains mandatory for some government sector entities, with the existing rules transferred from AASB 1004 to AASB 1058. Those entities captured by the mandatory application must apply it if fair value can be measured reliably and those services would have been purchased if they had not been donated.
There are substantial additions to the requirements for presentation and disclosure, especially under AASB 15. Financial statements will require:
- more disaggregation of income;
- more specific accounting policy disclosure including details of the performance obligations where relevant; and
- more analysis and reconciliation of balance sheet items arising under these standards, such as contract assets and liabilities.
Although there are lesser requirements for some items under the Reduced Disclosure Regime, many entities will need to give thought to the layout and content of their financial statements on an ongoing basis, as well as in the periods of change.
The changes brought by these standards are significant. Recognising this, the AASB has included some provisions termed practical expedients that reduce the workload. Availability of such expedients depend on which transition method is used.
- Full retrospective application means adjustments are made to equity at the beginning of the earliest comparative period presented (for example 1 January 2018 for a 31 December balance date NFP). Under this method, an option exists not to measure certain assets at fair value.
- Partial retrospective application also involves making the adjustments for change in accounting at the beginning of the earliest comparative period, but using one or more of the practical expedients.
- Cumulative effect application means adjusting equity at the beginning of the current period (e.g. 1 January 2019) and leaving the comparative information unchanged. In this case, some practical expedients are not available. Also, disclosure is required of revenue that would have been presented if AASB 1004 had applied to the current period.
Michael Gummery, Director, HLB Mann Judd.