How to account for contribution revenue

How to account for contribution revenue

To learn how to account for contribution revenue, we first need to understand the definition of contribution – an unconditional transfer of cash or other assets, as well as unconditional promises to give, to an entity or a reduction, settlement, or cancellation of its liabilities in a voluntary nonreciprocal transfer by another entity acting other than as an owner.

The resource provider in this case may receive some indirect value, some sort of societal benefit, but that is not going to be enough to make this into a reciprocal transaction or exchange transaction. Because in an exchange transaction potential public benefit is actually secondary to the potential direct benefit that is provided to the donor.

This is why contributions (and contribution as a term) – is unique and is distinguished from exchange transactions, investments by owners and other nonreciprocal transfers:

• Exchange transactions – reciprocal transactions in nature in which each party received and sacrifices approximately commensurate value.
• Investments by owners and distributions to owners – are nonreciprocal transfers between an entity and its owners.
• Other nonreciprocal transfers – include transactions such as imposition of taxes or legal judgements, fines, and thefts, which are not voluntary transfers.

There are key elements that we have to evaluate when it comes to contributions

• Unconditional transfer of assets or
• Settlement or cancellation of liabilities
• Voluntary
• Non-reciprocal

For example, in one case there could be an unconditional transfer of cash, so debit to cash and credit to contributions revenue. In another example there could be a cancellation of debt recorded as an unconditional revenue in which case debit would be to liability (cancelling that liability) and crediting unconditional revenue. The goal is to always evaluate whether its voluntary and whether its nonreciprocal. So, when evaluating contribution revenue it is necessary to look at are there any conditions attached to that transfer when we are looking at the liabilities at how they have been settled and then voluntary and nonreciprocal.

Based on what was discussed earlier in this article we can now start looking at what does not constitute a contribution. If the primary beneficiary is the public, then it’s a contribution when the primary beneficiary is the organization providing the resources then it’s an exchange transaction. So, the main question to ask here is who is benefiting from the transaction.

Any time we are acting as an owner or an investor or there is a distribution to an owner or involuntary non-reciprocal transfers the transaction would not be considered a contribution.

Contributions can be of financial instruments and non-financial (also known as gifts in kind). Some of the examples of financial instruments would be cash, stocks, pledges or promises to give whereas non-financial instruments could be in the form of goods and / or services. In a case of a pledge – as long as that pledge is unconditional – it can be recorded by debiting accounts receivable and crediting revenue (so if there are no conditions assigned to this pledge revenue can be recognized, there is no need to wait until the cash is received – an unconditional promise to give can be recognized as a contribution at that point in time of nonexchange transaction).

Some examples of non-financial contributions can be goods or services (food donated to homeless shelter or clothes to salvation army, supplies to day care center or nonprofit school). An example of contributed services would be time contributed by a professional like an accountant or a lawyer for example. Preparing income tax return for a nonprofit (form 990) could be recorded as a contributed services as the preparation requires a specialized skill and the accountant or CPA has that skill and the nonprofit would be required to file 990 annually with the IRS (so meets the requirement of both test: 1) specialized skill; 2) service is necessary would have been acquired via monetary means if was not contributed. So, in that scenario a journal entry would be a debit to accounting services expense account and a credit to contribution revenue.

Consideration for recognizing contribution revenue

How and when contribution revenue is recognized? The first step would be to evaluate whether the transaction is exchange or nonexchange. When we have determined that the transaction is non-exchange, the next step would be to evaluate whether the transaction is conditional or unconditional (are there barriers that need to be overcome to be entitled to receive the cash). Once we have narrowed it down and have determined that this is unconditional revenue, then the final step would be to evaluate whether we have any restrictions on this asset (does it have to be used for a particular purpose of at a particular point in time.)

Exchange vs. Nonexchange transactions

When it comes to evaluation of exchange versus nonexchange transactions the first question we need to answer is “is this a reciprocal transaction?”. If this is a reciprocal transaction, then this type of exchange transaction would not fall under FASB ASC Topic 958-605, but rather would fall under FASB Topic ASC 958-606 or FASB ASC 958-610 (depending on the type of transaction). ASC 605 applies to contributions and there are several transaction types to which 605 does not apply (listed below).

Scope of ASC 958-605 does not apply:

• Exchange transactions
• Agency transactions
• Tax exemptions, tax incentive or tax abatement
• Transfer of assets from government entities to business entities
• Third party payer

Exchange transaction is defined where a resource provides (for example a government agency, a foundation, a corporation, or other entity) receives a commensurate value in return for the resources transferred.

Agency transaction occurs when an organization or a donor provides to a recipient organization and indicates to that recipient organization to provide the good to the ultimate beneficiary, so there are three parties involved. The middle organization (the original recipient organization) acts as an agent (or intermediary) in this scenario. The funds come from the donor to the intermediary and then from the intermediary to the ultimate beneficiary organization. So, in that scenario it wouldn’t be revenue for the intermediary, it would actually be recorded as a liability.

Tax exemptions, tax incentives and tax abatements do not qualify as contributions under the topic 605, so they will be excluded from this standard.

Transfer of assets from government entities to business entities – these types of transactions really ramped up during COVID-19 era, when there was a lot of covid-related funding (like PPP loans, shuttered venue grants, employee retention credit etc.). For-profit organizations were scoped out of 958-605, so they were forced to either apply it by analogy or use IFRS IAS 20 (IFS section for accounting for government assistance) standards or gain contingencies guidance for recognizing these types of transactions.

Third party payer there is an existing exchange transaction. For example, if someone goes to the doctor and receives doctor care, the doctor is going to recognize service revenue for that patient. When there is a third party paying the bill, it doesn’t mean that there is no longer an exchange transaction because there was a benefit received by the person who received the doctor services. Even when the government is paying the bill (for example through Medicare or Medicaid) – for the doctor’s office it is still patient revenue (no matter who pays, this is not a contribution). A similar example would be for receiving a scholarship – when student receives a scholarship to go to college from a third party who pays the college directly, that student would still be considered college’s “customer”. So, in this the college would be recognizing tuition revenue (there wouldn’t be new revenue involved). So, in both of these examples – the revenue wouldn’t qualify as a contribution, but rather would be an exception to 605 under a third-party payer exception.

How do you know if a transaction is an exchange transaction versus a contribution?

There are several metrics that need to be looked at to determine whether a transaction is an exchange transaction.

• Who is the ultimate beneficiary? The resource provider is not synonymous with he general public. If it’s the public who is benefiting – then it’s more likely a contribution.
• Execution of the resource provider’s mission or positive sentiment is not a commensurate value. For example, if a larger nonprofit organization has its mission to provide access to visual arts to the world and this nonprofit organization gives money to an art school to purchase art supplies for students so they can learn to paint. In this case there wouldn’t be a direct benefit to the larger nonprofit because they do not get anything in return, the benefit is going to the students who will be able to learn and create art. So even though the mission of the larger nonprofit has been advanced by this contribution, it would not have a commensurate value.
• Expressed intent – is there a pledge card that is sent by the resource provider or is there a purchase order? A pledge card would typically be indicative of a contribution.
• Does the resource provider have full discretion of the amount of transferred asset? If the resource provider determines how much to transfer, then it would be indicative of a contribution. If there is a list of items that need to be paid for and the amount is determined by the recipient – this would typically be an exchange transaction.
• If the penalties assessed on the recipient for failure to comply with the terms of the agreement are limited to the delivery of assets or services already provided and the return of the unspent amount, the transaction is generally indicative of a contribution. In other words, if a recipient didn’t spend the money and has given it back – this is not really a penalty. When there is an “economic forfeiture” – not only recipient has to give the money back they also have to pay a 5% fee (or other % amount) – now that would typically be indicative of an exchange transaction. So, the main difference is whether you only need to give the money back for failure to comply (typically a contribution transaction) or money back plus penalty (typically an exchange transaction).

After we have completed our evaluation and have concluded that it is an exchange transaction, then we would go through a traditional 5 step evaluation process (see below). The first step would be to identify the contract (we have to look at the definition of a contract). The second step would be to identify performance obligations (we need to determine whether or not performance obligations are distinct). The third step would be to determine the transaction price. Once we determined the transaction price, the fourth step would be to allocate it to the performance obligations identified in step two (because we recognize revenue once we meet the performance obligations). And finally in step five we recognize the revenue at the performance obligation satisfaction (either over time or point in time recognition).

Nonexchange transactions: Conditional versus unconditional contributions

Definition of condition – a condition is a donor stipulation that represents a barrier that must be overcome before the recipient is entitled to the assets transferred or promised. Failure to overcome the barrier gives the contributor a right of return of the assets it has transferred or gives the promisor a right of release from its obligation to transfer its assets.

For example, there is a condition set for a nonprofit to serve 1,000 low-income families and if the 1,000 low-income families are not served (or a smaller amount of families served) the funding needs to be returned to the fund-provider. From the standpoint of revenue recognition – these conditions are going to prevent recognition because there is a possibility that you might have to give the funding back (if the funding was provided in advance) so it would actually be recorded as a liability instead of revenue until the condition is met.

Based on this, we can determine that presence or absence of a barrier is of paramount importance to determine whether contribution is conditional or unconditional. With that let’s take a look at three main indicators of a barrier:

1. Measurable performance-related barrier or other measurable barrier. Example would be a certain number of individuals served or a certain quantifiable output or outcome (% of homeless population decrease etc.), or a match requirement (if you raise $10,000, I will give you $10,000). There has to be a certain “number” achieved before you can meet this barrier and if that “number” is not achieved, then you haven’t met this barrier.
2. Limited discretion by the recipient on the conduct of an activity. Limited discretion is different from a restriction. Limited discretion related to how you use the funding. For example, nonprofit organizations that are subject to Uniform Guidance typically have federal grants that define allowable costs for the funding (for example a $100,000 federal grant that has a strictly predefined budget that stipulate that $70,000 can be used for program-related payroll, $20,000 for program materials and $10,000 for program-related travel). Another example would be a requirement to have a specially qualified employee for a research and development grant in a certain disease area, so this employee would have to conduct the activity. In this example, even though the funding might go to a hospital, unless this specific doctor (qualified individual) conducts the research, the hospital would not be entitled to it.
3. Stipulations that are related to the purpose of the agreement. Is the stipulation related to the purpose of the agreement? For example, providing annual financial statements would not be considered a stipulation that is purpose related for a Supplemental Nutrition Assistance Program (SNAP), but a certain number of low-income families served would. Because annual financial statements would not be related to the purpose of the program, but the low-income families provided with supplemental nutrition would be related to the purpose of the program. As such, after we identify all the stipulations of the contribution, we need to go through each one of the stipulations and evaluate whether they are related to the purpose of the contribution.

When performing evaluation on the existence of barriers in the contribution and determining whether contribution is conditional or unconditional going through the three main activities described above will help to make the correct determination. The most important conclusion to make from this article is that if there is a condition embedded within the contribution, then it actually prevents the recognition of the revenue until the condition is met and is recorded as a liability:

Dr.	Cash	$100,000
Cr.	Refundable Advance (liability account)	$100,000

For an example if a nonprofit received $100,000 in cash as a conditional contribution, then cash is debited, and refundable advance is credited. Refundable advance in this case would be a liability account, similar to deferred revenue, with the one differentiating factor that refundable advance is recorded for nonexchange transactions.

Then when the condition is met, and barrier has been overcome Refundable advance liability account is being reversed and contribution revenue is recorded:

Dr.	Refundable Advance	$100,000
Cr.	Contribution Revenue	$100,000

Let’s take a look at a specific example of the wording for conditional versus unconditional revenue:

• Example #1:
• A resource provider promises to contribute dollar for dollar of contributions received by a nonprofit organization up to $1,000,000 over the next 12 months. When can they recognize the contribution? The answer to this question would be – they can recognize the matched revenue as soon as they start receiving original contribution. So, in this case they could recognize revenue each month for the next 12 months and stop recognizing once you recognize the $1,000,000 of the 12-month period is expired (whichever comes first).

• Example #2:
• Donor makes an additional pledge of another $1,000,000 if the nonprofit organization raises $500,000 in funds on its own. When can the nonprofit recognize the revenue? In this case the nonprofit cannot recognize that additional $1,000,000 pledge until they raise $500,000, because if they only raise $450,000 – they don’t get any additional funds. As such, in this case they can’t recognize the revenue until that barrier of raising $500,000 is met, only then they can recognize the revenue. Hence, in this case, that pledge would not be recorded. Only when the barrier is met and a full $500,000 is raised a receivable pledge can be recorded on the books with corresponding contribution revenue.

Restricted versus unrestricted grants and donations

Definition of donor-imposed restriction – a donor stipulation (donors include other types of contributors, including makers of certain grants) that specifies a use for a contributed asset that is more specific than a broad limit resulting from the following:

• The nature of nonprofit entity
• The environment in which it operates
• The purposes specified in its articles of bylaws or incorporation or comparable documents for an unincorporated association

The general idea here is that a restriction has to be more specific than a general mission of the not-for-profit organization. For example, if a resource provider donates funds to a nonprofit school for “education”, that would not be considered a restriction as this would be too general. But if the donor would stipulate that the funds are to be used specifically by the art department that is narrower than the overall school environment when it comes to education, so in this case it would be considered a restriction. So, the evaluation comes down to the assessment of whether there is a narrower restriction than the purpose of the organization and if it is, then there would be a restriction.

Restriction placed by donor could be:

1. Time restrictions (where a nonprofit might have to hold the donation for a particular amount of time)
2. Purpose restrictions (where the donation is specifically restricted to a certain activity of purpose narrower than the overall purpose of the organization)

Restrictions are allowed for recognition; however, a footnote disclosure must be made in the notes to the financial statements. Hence net assets with restrictions need to be segregated out from the assets without donor restrictions. An important distinction that needs to be made here is that only donors have the right to restrict not-for-profit resources. External and internal parties, other than donors, can designate resources and allocate resources but not restrict. So, a board of directors would be able to designate a certain amount of funds for remodeling of a campus for example, but the board would not be able to restrict those funds.

Some of the example of restrictions could be as mentioned earlier remodeling for a specific purpose (purpose restriction), or the funds must be used in fiscal year ending June 30, 2026 (time restriction), or funds must be invested until June 30, 2040 (earnings may be used by the nonprofit recipient in any capacity – so earnings would be unrestricted), but the investment principle is restricted (time restricted).

The last point I’d like to mention in this article is that sometimes nonprofit organizations receive restricted funds and meet those restrictions within the same year. For example, a nonprofit school receives $5,000 for teacher continuing education and the funds are used for continuing education within the same fiscal year. In this case a nonprofit organization can elect to treat this contribution as unrestricted. This is an accounting policy election to treat these types of contributions as unrestricted revenue because the amount was received and used in the same period and therefore is deemed to be unrestricted. In terms of presentation either way is acceptable (it can be recorded as either unrestricted or restricted and then the release from restricted needs to be recorded). However, if the policy election was made to treat these types of contributions as unrestricted the policy needs to be clearly documented.

In conclusion, accounting for contributions can get very complex and some deep analysis is required for correct accounting for contributions. If you need help with accounting for contributions or with setting up proper processes and procedures for your organization, feel free to schedule a free consultation with me and I will walk you through the process and with providing guidance and necessary tools for your organization.