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Nonprofit Financial Reporting FAQs: Statement of Functional Expenses

March 12, 2019

Attention nonprofits...is your organization prepared to include the statement of functional expense in its financial statements? This is now a required statement.

Is your Organization ready to include the statement of Functional Expense report and related cost allocation disclosures? As part of applying the adoption of the Accounting Standard Update (ASU) 2016-14, Presentation of Financial Statements of Not-for-Profit Entities, the functional expense report is now a required statement for all not for profit organizations.

What is the functional expense report?

The functional expense report presents your organization’s expenses by..

  1. Natural classification
    • Salaries
    • Occupancy
    • Utilities
  2. Function
    • Program
    • Management and general
    • Fundraising

FAQs

Below are several of the questions that have repeatedly come up since ASU 2016-14 was issued. Hopefully the answers to these questions will provide clarity to some of the common questions and concerns related to reporting the schedule of functional expenses in the financial statements.

Does my organization need to have a Cost Allocation Plan?

A written cost allocation plan helps an organization create and apply consistent methodologies for allocating costs incurred in the day to day operation of the organization. Proper allocation provides information about how much it costs to run each part of the organization. This information is also required if your organization has received any federal or state funding or any type of contract related reporting.

Here are some typical components of a cost allocation plan:

Personnel costs (salaries, wages and related costs) are typically the most significant expense for an organization, which means it is critical that these expenses are allocated properly. In addition to documenting allocation methods by function, it is equally as important to educate your staff on the importance of properly reporting their time.

The most common allocation methods for personnel costs are:

  • Time and effort, usually supported by a timesheet;
  • Job description, typically for an employee that only works on one program/function;
  • Time study, a document that evaluates and summarizes actual time as a basis for future allocations.

Occupancy and related expenses are generally another significant category of expenses for an organization. The most common allocation methods used for occupancy and related expenses are:

  • Square-footage. For example, if your building is 2,000 square-feet; but one program utilizes one room which is 500 square feet, then 25% of your occupancy and utility charges would be allocated to that specific program.
  • Full Time Employee (FTE). For example, if 80 of the organization’s employees work in one function and there are a total of 100 employees, then 80% of the organization’s expenses are to support that function.

Lastly, it is important to periodically review and update your organization’s allocation methodologies especially when there are changes in your organization such as adding or removing office space, a program, staff positions, etc.

Am I correctly allocating my organization’s investment expenses?

With the adoption of the new ASU 2016-14, organizations are required to net all investment-related expenses, both internal and external, with investment return on the statement of activities. As a result, these expenses can no longer be included in the statement of functional expenses for financial statement purposes. However, for the Form 990, it is required that investment expenses be included on the statement of functional expenses and is typically included in the management and general function.

External investment expenses consist of fees paid to outside investment advisors. Direct internal investment expenses are the expenses that are directly involved in the supervision of the strategic and tactical activities involved in generating investment return. These expenses include, salaries, benefits and other costs associated with the employee(s) responsible for the development and execution of the investment strategy.

Will my statement of functional expenses agree to the Form 990’s functional expenses schedule?

If your organization has investments expenses, in-kind revenue or a different basis of accounting for financial statement purposes then the financial statement and the form 990 statement of functional expenses will not agree. The Form 990 include investment expenses in the functional expenses, as just mentioned. In-kind revenue (unless goods and materials) are not included as revenue and expenses on the Form 990. These are the most common differences that we see.

We will be continuing to provide additional resources for financial reporting. Stay tuned for our next blog on How to identify and report Joint Costs. Questions? Contact us.

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