Accounting has two primary forms: Commercial
or for-profit and Fund or not-for-profit. Both share many
common aspects. However, there is a marked difference in the
accounting procedures, management objectives and reporting
requirements between the two. Before examining some of these
differences, let's review the generally accepted definition
of a fund.
"A fund is defined as a fiscal and accounting
entity with a self-balancing set of accounts recording cash
and other financial resources, together with all related liabilities
and residual equities or balances, and changes therein, which
are segregated for the purpose of carrying on specific activities
or attaining certain objectives in accordance with special
regulations, restrictions or limitations."
More simply stated, you must set up separate
funds based on regulations, restrictions and limitations.
They must be treated as separate entities. Each fund must
have their own general ledger and must provide individual
revenue, expense, income and balance sheet reports. They must
also be reported on in-total for the entire organization.
Fund accounting is different from multi-company
commercial accounting. Fund accounting encompasses most aspects
of commercial accounting. However, it goes beyond the requirements
of a commercial system both in form and function.
Attempting to use a commercial system for
fund accounting is akin to trying to use a wrench to drive
nails rather than a hammer. The wrench will work, but it will
be a slow painful process.
"My accountant says that I can
use a commercial system."
If your accountant is telling you this, be suspect of their
judgment. The FASB (Financial Accounting Standards Board)
and the GASB (Governmental Accounting Standards Board) make
a clear distinction between the two forms. These boards are
the policy making bodies for the accounting profession.
"Since I only have one fund,
I can use a commercial system."
You could use the commercial system for recording your entries
if you are not required to encumber. However, you are still
confronted with fund accounting regulations and reporting
which the commercial system cannot properly address. If you
are a tax exempt organization per Section 501 of the Internal
Revenue Code of the USA, you are a nonprofit fund accounting
operation. If you are a federal, state or local government
organization, you are a fund accounting operation.
A separate chart-of-accounts is maintained
for each fund. Commercial systems can maintain separate revenue
and expense accounts, but co-mingle balance sheet accounts.
This is not permitted in fund accounting. Accounts Payable
in fund accounting is special. It allows you to mix items
from multiple funds for payment with a single check. Fund
accounting software will automatically handle the offset postings
to cash and/or payable accounts by fund. Other functions like
encumbrance processing, grant tracking and budget controls
are also often required.
Fund accounting reports are designed to measure
performance against budgets and income versus expenses. Commercial
system reports are designed to measure income versus expenses
only. Fund accounting must provide for both types of reports.
Some funds (Enterprise) need commercial type reports because
they have a correlation between monies received and spent.
Other funds need budget performance because there is no correlation
between revenues and expenses. Example: There is no correlation
between tax monies received and expenses incurred for snow
Commercial systems usually have restrictive
account numbering schemes which do not accommodate most fund
accounting requirements. One needs account numbers with total
flexibility. The accounting basis needs to be selectable by
fund, Cash or Accrual. Commercial systems do not provide this
The Financial Accounting Standards Board
(FASB) enacted new reporting requirements in 1995 that required
new accounting and reporting standards for not-for-profit
organizations. FASB 116 deals with the accounting treatment
for those operations. FASB 117 defines the financial statement
requirements. These requirements include the Statement of
Financial Position and Statement of Activities. These are
specialized statements that go beyond the requirements for
regular commercial accounting. They require financial information
to be presented by restricted and unrestricted fund groups.
In June 1999, the Governmental Accounting
Standards Board (GASB), published comprehensive changes in
state and local government financial reporting. This revolutionary
reporting standard provided a new look and focus for reporting
public finance in the United States.
The new standard called for financial statements
prepared using full accrual accounting for all of the government's
activities, not just those that cover costs by charging a
fee for services, which was previously required. Typically,
those funds were parks, utilities, etc. Today, the vast majority
of local governments operate on a Cash or Modified Accrual
Reporting is required on all capital assets,
including the infrastructure, in the government-wide statement
of net assets and will report depreciation expense. The format
of the newly required reports represents an extensive departure
from those of the past. They require new information, grouping
and layout specifications that will be challenging to fulfill.
Government-wide statements are required,
consisting of a statement of net assets and a statement of
activities. These statements will distinguish between government
and business type activities as-well-as reporting by component
units. Fund based financial statements are required that provide
information about the government's major and other government
and enterprise funds. These reports include, by fund, balance
sheets, statements of revenue, statements of cash flows, expenditures
and changes in fund balances.
What happens if one does not comply with
these standards? In my opinion, the most serious repercussion
will be a lack of confidence shown toward an institution which
does not comply with these standards. The result of that lack
of confidence will undoubtedly result in high funding costs.
The recent institutional financial scandals will further fuel
the requirement for more in-depth and accurate financial reporting.
Most governmental agencies operate on budgets
that are established by law. Administrators are not permitted
to exceed budget limits without budget amendments that have
been legislated. Many have spending limits for vendors that
cannot be exceeded without a formal bid or special approval
process. Tests are applied during the entry of financial data.
Reports indicate that limits have been exceeded when produced.
Most nonprofit fund accounting systems do not address these
requirements. Government fund accounting provides mechanisms
to monitor these requirements so they are properly followed.
If you are a government operation, be sure to determine if
the fund accounting software you select addresses these important
controls. Naturally, the user can tailor the controls and
their extents to meet their specific needs.
In March, 2006, the GASB released a white paper which identifies key differences between financial reporting for governments and for-profit business entities. Here is a link to that document: GASB Article.
Grant reporting requires both current and
to-date financial performance. That is, one needs to report
on activity for the period, year and to-date since the grant
was received. This is another function lacking in most commercial
systems. Grant administration typically requires the allocation
of overhead expenses to grants based on an established formula.
This goes beyond the scope of the typical commercial system.
The planning of one's budget is a major project
in fund accounting because the number of accounts is large.
These budgets are typically executed at the line item level.
Quality fund accounting systems offer mass change tools. These
tools provide the ability to apply mass changes to categories
of line items quickly. For example, salaries, travel, utility
expenses can be adjusted for all funds and departments with
a minimum of effort. The vast number of routine line items
can be quickly handled so that one can concentrate on the
more complex budget issues.