The Truth About Fund Accounting: Can Nonprofits Benefit? 

     Fund accounting is a system that's used to track the amount of cash assigned for different purposes and the usage of that cash. Well, today I want to unpack the truth about this idea of fund accounting.

Fund accounting is tedious and prone to errors.

     First of all, moving cash for combined transactions is tedious and it results in an incredible amount of errors. I've seen it. For example, you receive one donation check and that single check includes funds that are for a building or capital campaign as well as funds for operations, or “non-restricted funds”. Since you can’t split a check, you’ll have to deposit it into a single bank account. Once you record this check, you’ll have to manually move the appropriate cash to the other account, requiring you to figure out how much was intended for the other purpose at a later date. But, what if the check is returned NSF…? You’ll have to decipher and rewind all of the above transactions. 

     Fund accounting leads to similar challenges on the expense side too. For example, you may write one payroll check to an employee when, in reality, that employee’s pay is actually funded from three different sources. So what do you do then? Move cash… again. Before you know it, you’re spending a whole lot of time moving cash around to accomplish one very important goal: using funds for the purposes in which they were received. There’s got to be a better way! 

Fund accounting is NOT required by GAAP

     Yes, you read that correctly. Fund accounting is not required by Generally Accepted Accounting Principles (GAAP), which are the accounting standards that apply to most nonprofits. However, fund accounting is required for governmental entities, so if that describes you, disregard this article- it’s just for nonprofits! 

What is required of nonprofits? 

What really matters is that funds are tracked by their purpose, and that the fulfillment of that purpose is maintained for accountability purposes. But here’s the good news- there's a better way! Let me introduce you!

     Nonprofits are required to report on the balances of funds with restrictions and funds without restrictions. So how can you do this more efficiently? Well, that will definitely depend on your accounting system. I want to give you two examples: 

Using Project Codes in Blackbaud Financial Edge

      This system allows you to accomplish this using what they call “project codes.” They also have a system that allows you to actually create funds, without tracking the cash separately, rather to co-mingle the cash and use an inner-fund to track the balance at any given time. 

Using Classes in Quickbooks

      Quickbooks accomplishes this same goal by using what they call “classes.” But here’s a pro-tip I discovered when working with a client who is a Quickbooks user. Quickbooks officially recommends that classes be used only for income and expenses. Assets and liabilities should not receive class codes in Quickbooks- only income and expenses. So what does that look like for nonprofit Quickbooks users? If you receive $100 but need to designate it for two different purposes of $50 each, you would create two separate $50 deposit lines, and then check the “class” feature on the right hand side of that transition entry. If you don’t see the class features there, it means your company has not yet set it up, and you’ll want to do a quick Google or Youtube search for a help article on how to configure classes in Quickbooks.

     This tip will also work on the expense side within Quickbooks. For example, if you write a check, and the check needs a split, you would create two separate line items for the appropriate classes. Although Quickbooks calls them “classes” they’re more commonly known by GAAP as net assets- either net assets without restrictions or net assets with restrictions. 

So how do you check your class balances in Quickbooks? 

This requires a few additional steps: 

•  Run an “income statement” or a “statement of activities” (same report with two different names depending on the system you’re using) 
•  Run the report by class, and it will have columns for each of these restrictions or classes. This will show you money coming in and out by class (income and expenses) so that you can verify that the transactions were coded correctly. 
•  Keep in mind that everything without restrictions is going to show up in a column called “not specified” and while I wish we could change this, we’ll have to get used to the idea that “not specified” just means “not restricted.”
•  Finally, you’ll run what you could call a “custom balance sheet” or a “net asset report.” This will take anything from a prior year and bring it in as a “balance” and then subtotal and subtract the net activity from that current year. This will result in a current balance for those restrictions.

     Think of your nonprofit like one big pot of soup. You probably have a  lot of different ingredients coming into the pot, but you don’t need to spend a ton of time separately tracking where your carrots, or your meat, or your potatoes go. You can just put it all in the same pot. But the net asset report is like the size of the spoon that is obligated to each program or purpose for which you’ve agreed to accept funds. In other words, you’re obligated to spend it out in the way you agreed when you took it in. 

     I hope this has been helpful to you. If you’re overwhelmed, feel like this is just all too much, or you’d just prefer to have a guide through the process, I'm happy to help! You can schedule a strategic consult with me here! I'd love to help you create a strategy for implementing this in your organization.