Nonprofit Organization

A nonprofit organization, also called a not-for-profit organization, is an entity formed to pursue a purpose other than generating profit for owners. Charities, universities, hospitals, museums, religious bodies, trade associations and foundations are common examples. A nonprofit may earn more than it spends in a year, but any surplus must be used for its mission rather than distributed to members, directors or officers. It has no shareholders and no owners' equity.

In the United States, nonprofits are usually formed as nonprofit corporations under state law and then apply to the Internal Revenue Service for federal tax exemption. The best-known category is the 501(c)(3) organization, which covers charitable, religious, educational and scientific bodies and allows donors to deduct their gifts. Other subsections of section 501(c) cover social welfare groups, labor unions, business leagues and social clubs, which are generally exempt from income tax but whose donors usually cannot deduct contributions.

• Exempt organizations must use their income for exempt purposes; private benefit and private inurement to insiders are prohibited.
• Income from a regular business that is not substantially related to the mission is unrelated business income and may be taxed.
• Most exempt organizations file an annual information return, Form 990 or a shorter version, which is public and discloses revenue, expenses, executive pay and governance practices.
• 501(c)(3) organizations face limits on lobbying and may not campaign for or against political candidates.
• State attorneys general oversee charities, and many states require registration before soliciting donations.

US nonprofits follow US GAAP, with specific rules in ASC 958 issued by the Financial Accounting Standards Board (FASB); governmental entities, such as public universities, follow standards set by the Governmental Accounting Standards Board instead. A nonprofit's set of statements is:

• A statement of financial position, in place of a balance sheet, showing assets, liabilities and net assets.
• A statement of activities, in place of an income statement, showing revenue, gains, expenses and the change in net assets.
• A statement of functional expenses, or equivalent disclosure, analyzing expenses by both nature and function: program services, management and general, and fundraising expenses.
• A statement of cash flows.

Since ASU 2016-14, net assets are split into those without donor restrictions and those with donor restrictions. Contributions are generally recognized as revenue when an unconditional promise is received, even if the cash arrives later, while conditional promises are recognized only once the conditions are met.

A food bank receives $1,200,000 of unrestricted donations, a $300,000 grant restricted to buying a refrigerated truck, and $150,000 from a fundraising dinner. It spends $1,050,000 on food distribution programs, $180,000 on management and general costs and $120,000 on fundraising, and buys the truck for $300,000. Releasing the restriction moves $300,000 from net assets with donor restrictions to net assets without donor restrictions. The change in net assets without donor restrictions is $1,200,000 plus $150,000 plus $300,000 released, minus $1,350,000 of expenses, or an increase of $300,000 (the truck is capitalized and depreciated, not expensed). The program expense ratio, program spending divided by total expenses, is $1,050,000 divided by $1,350,000, or about 78 percent.

Donors and watchdog groups look at program expense ratios, fundraising efficiency and reserves of unrestricted net assets. Critics note that focusing on low overhead can starve nonprofits of the systems and staff they need. Accounting issues that often arise include valuing donated goods and services, distinguishing conditional from unconditional grants, allocating shared costs among functions and tracking restricted funds, including endowment funds. Many nonprofits must also have an audit, either because of state law, lender requirements or the federal Single Audit rules for organizations that spend $1,000,000 or more of federal awards in a year (the threshold was raised from $750,000 for fiscal years beginning on or after 1 October 2024).