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The Challenges of Non-Profit Accounting

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Last editedJun 20223 min read

While non-profits don’t operate purely with profit in mind, they still need accounting systems to record transactions, reimburse employees and manage cash flow. So, what is non-profit accounting and how does it differ from traditional business accounting? Here are the unique challenges that non-profit accountants face.

What is non-profit accounting?

Non-profit accounting describes the systems used by a non-profit organization for recording and reporting all business transactions. A non-profit organization differs from a business in that it doesn’t exist purely to earn profit. Instead, it receives donations from third party stakeholders, including donors and government bodies. There are several ways in which non-profit accounting differs from for-profit accounting.

Non-profits offer a service or program rather than goods for sale. It’s possible for non-profits to operate several programs, but each one needs to be accounted for individually.
Because there are no investors, non-profit accountants record net assets on the balance sheet in place of equity.
Some assets come with donor restrictions attached, which means they can only be used for specific purposes or programs.

These are just a few examples of how non-profit accounting can differ from general business accounting.

What do non-profit accountants do?

The everyday tasks of non-profit accountants include standard bookkeeping, auditing, and budgeting tasks. Accountants need to understand how to record and report all financial activity generated by the non-profit, with the aim of showing how the non-profit is benefiting its chosen cause.

What do non-profit accountants do that differs from small business accountants? One key difference is that they need to have an in-depth specialty knowledge of all state and federal laws related to non-profit organizations. Charity organizations have a 501(c)(3) status under IRS regulations, which means they are tax-exempt, but they’re still required to file an IRS 990 tax form accordingly. They’ll also need to prepare important financial statements such as the statement of cash flow and statement of functional expense.

Accounting for non-profit challenges

Any non-profit accountant will need to be aware of the most common challenges associated with this field.

1. Preparing the correct financial statements

Non-profit accounting comes with its own set of terminology, extending to the financial statements. There are three key statements that must be created and maintained:

Statement of financial position (balance sheet)
Statement of activities: (income statement)
Statement of cash flows

Additional reports used in non-profit accounting include things like donation tracking reports, grant fund reports, and program restriction statements. These all need to be maintained with regular updates for accuracy.

2. Accounting for grants and donations

Two of the main ways that nonprofits generate funding is through government grants and donations. Grant writing presents its own challenges to tackle, starting with the fact that you’ll need accurate financial statements to secure the grant in the first place. The grant sender will need regular updates to continue funding. Both grants and donations often come with restrictions, meaning they can only be used for certain types of expenses or programs.

Accountants need a way to track grant funds separately from other funds, ensuring they’re covering the correct expenses. You might even set up a separate non-profit checking account for each class of funding.

3. Filing taxes with the IRS

Although nonprofits are tax-exempt, you still need to file a 990 tax return with the IRS each year to maintain this tax-exempt status. Restrictions are severe if you don’t maintain this basic level of reporting. In fact, if you fail to file a return for three years, the tax-exempt status is automatically taken away and you could face fines on top of this.

Fortunately, the 990 form is straightforward particularly if your accounting team is up to date with all financial statements and records.

Non-profit accounting: the bottom line

From dedicated non-profit checking accounts for grants to specialty tax forms, there are a few unique challenges to keep in mind. As with regular accounting, one of the best ways to remain in control of your recording and reporting responsibilities is with dedicated accounting software.

Modern accounting software helps automate basic, everyday tasks like revenue reconciliation, vendor payments, invoicing, and expense reporting. You can track expenses to be sure your grant and donation funds are used in line with any restrictions. It’s also possible to connect fundraising systems and donor management apps to the accounting software, allowing you to control all financial tasks from a central dashboard. This helps reduce many of the challenges that non-profit accountants face.

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