When the Financial Accounting Standards Board’s (FASB’s) new revenue recognition standard was released in 2014, many organizations and businesses were unsure on how it would affect them. In particular, not-for-profit organizations were unclear on the potential impact. However, the new standard applies only to revenue from “exchange transactions,” also known as reciprocal transactions. Many not-for-profits receive contributions, which are nonreciprocal, and therefore, different rules apply. To determine whether to apply the new revenue recognition standing to a particular transaction, one must first determine whether the transaction is reciprocal or non-reciprocal.
In Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers, the FASB defines a contribution as an unconditional transfer of cash or other assets to an entity in a voluntary nonreciprocal transfer. It specifically distinguishes contributions from exchange transactions, which it describes as reciprocal transactions where each party receives and sacrifices approximately equal value.
That means that contributions do not fall within the rules in ASU 2014-09, including its voluminous disclosure requirements. Instead, you generally should report contributions in the period you receive the pledge or commitment to donate. Restrictions imposed — directions given by the donor — as to how or when the funds may be used do not change the timing of recognition.
However, when the donor’s gift is available only after certain requirements are met by your organization, the timing may be different. Specifically, you should not recognize a conditional promise to give as revenue until the conditions are substantially satisfied. For example, a promise to give that requires a minimum matching contribution cannot be recognized until the match is received. Transfers of assets with donor-imposed conditions should be reported as refundable advances until the conditions are substantially met or explicitly waived by the donor.
But, you can recognize a conditional promise to give upon receipt of the promise, if the possibility is “remote” that the condition will not be met. An example is a grant requiring you to submit an annual report to receive subsequent annual payments on a multiyear promise.
Determining whether a grant is an exchange transaction—where the grantor expects goods and services for its money—or a type of restricted or conditional contribution—where the grantor intends to make a gift to support the organization—can be more complicated. For example, a grant based on the number of meals or beds a not-for-profit provides its client population could be considered an exchange transaction, because it is essentially a contract to provide goods or services. Similarly, a research and development grant could be characterized as an exchange transaction if the grantor retains intellectual property rights in the outcomes.
A grant that is an exchange transaction is subject to ASU 2014-09’s five-step framework:
- Identify the contract (or contracts) with a customer;
- Identify the performance obligations in the contract;
- Determine the transaction price;
- Allocate the transaction price to the performance obligations in the contract; and
- Recognize revenue when (or as) you satisfy a performance obligation.
For example, say you received a fixed-fee grant to perform specific research for a governmental agency, and the agency will own the outcome. The grant is a contract because the parties each receive something of equal value—grant funds and research (step 1). The provision and delivery of the research is the performance obligation under the contract (step 2). The fixed fee is the transaction price (step 3). With only one performance obligation, the entire transaction price is allocated to it (step 4), and you will recognize the grant revenue when you deliver the research to the agency (step 5).
This is a simplified example. Not-for-profits can find it challenging merely to determine whether a grant is an exchange transaction or a contribution—or a combination of the two, requiring “bifurcation” for proper accounting treatment. Additionally, when a grant is an exchange transaction, it can be tough to identify the performance obligations, when they are satisfied and the proper allocation of the transaction price to those obligations.
Sidebar: FASB provides more guidance
The determination of how and when to recognize grant and contribution revenue can be tricky for many not-for-profits, particularly those receiving government funds. The good news is that the FASB recently issued Accounting Standards Update No 2018-08 that provides more guidance. The amendments in this update have two main provisions:
- To provide a more robust framework to determine when a transaction should be accounted for as a contribution under Subtopic 958-605, or as an exchange transaction accounted for under other guidance such as Topic 606; and
- To provide additional guidance about how to determine whether a contribution is conditional.
The amendments in this update help to provide clarity about whether the grant revenues of not-for-profits should be included within the scope of Topic 606.