Your nonprofit likely receives funds from different sources to meet your fundraising needs. Cash donations from supporters, corporate partnerships, grants, and many other revenue streams might contribute to your organization’s ability to operate and make an impact. It’s essential to keep track of those channels to measure their success and to ensure you’re following up with donors to communicate your appreciation.
With so many revenue channels, your organization needs to ensure you’re reporting on the different sources and contributions correctly within your accounting system. This process is referred to as revenue recognition, an important process that looks a little different for nonprofits than it does for for-profit companies.
What is Nonprofit Revenue Recognition?
Jitasa’s guide to nonprofit revenue recognition defines the term as the “procedures charitable organizations use to record and report the funding they receive. It’s essential for financial transparency, accountability, and effective resource management.”
Nonprofit revenue recognition can be slightly more complex than that for for-profit companies since the funds nonprofits receive sometimes have conditions that affect the timing in which you report the income. We’ll cover these types of funds further later in this article.
How your organization recognizes revenue is essential to comply with financial regulations, but it also helps you ensure the nonprofit metrics that you pull and examine in various reports are correct. For example, if you receive deferred donations, how you recognize the revenue communicates when that money will actually be available to your nonprofit to use.
Best Practices for Nonprofit Revenue Recognition
1. Comply With Financial Regulations
Not only does revenue recognition support your organization’s internal financial structure, but having clear reporting is also legally required. There are three main sets of standards with which your nonprofit should remain compliant:
- Financial Accounting Standards Board (FASB): The FASB oversees both nonprofit and for-profit accounting. As the financial governing body within the U.S., its standards codify revenue reporting.
- Generally Accepted Accounting Principles (GAAP): GAAP is essentially the playbook for accounting and financial management for all types of organizations.
- IRS tax reporting: In order to properly file your nonprofit tax return (Form 990), your nonprofit needs to properly recognize its revenue throughout the year.
There are penalties for not complying with these accepted standards and legal requirements, one of which is losing your organization’s tax-exempt status if you repeatedly fail to file your annual tax return. Following these regulations also demonstrates to your supporters and community that your nonprofit is trustworthy, boosting donor confidence.
If you have questions about these regulations and your nonprofit’s compliance, it’s always a good idea to check with a nonprofit financial professional to ensure you’re following all necessary guidance.
2. Establish Your Financial System
The core of proper revenue recognition is establishing accepted practices so everyone at the organization is on the same page about how to record revenue. In order to follow these practices, your nonprofit should have its own systems in place for compliance. Here are a few things to consider:
- Accounting software: Before you start thinking about reporting, it’s important that your nonprofit has a centralized accounting system where you record all transactions and income for your organization. A good accounting system will offer tools that you can also leverage to designate restrictions or conditions for funding.
- Financial Roles: Within your organization, establish who will own documenting day-to-day financial data. This task usually falls to a nonprofit bookkeeper. But if employees at your organization are wearing many hats, don’t let this one get lost in the shuffle. You might consider recruiting a volunteer or an outsourced accounting firm to ensure transactions are consistently and correctly recorded in your financial system.
- Cash vs. Accrual Accounting: These are the two primary systems of accounting. Cash accounting is simpler. It tracks when money comes into and goes out of your organization, and that’s when it’s reported. However, most organizations benefit from leveraging accrual accounting, which recognizes revenue and expenses as you become aware of them.
For example, if in May, a donor pledges a gift of $1000 that your nonprofit receives in August, you would record that gift in August if you used cash accounting and in May if you used accrual accounting.
Establishing sound revenue recognition practices for your nonprofit helps form the foundation of effective financial management at your nonprofit. It can inform everything from your year-end fundraising campaign goals to donor engagement practices.
3. Understand Fund Transactions and Types
Another aspect of responsible financial management is developing diversified revenue streams. Just as the money is coming from different sources, like DAFs or employer matching gifts, the income will likely fall into different financial categories.
Let’s look more closely at some of the major financial categories. The first two are transactions, which primarily determine when revenue is recognized. The latter three impact when your organization can use the funds, which is important to understand for your nonprofit’s cash flow.
Understanding these transaction and fund types will make your own documentation process easier and ensure you comply with revenue recognition requirements.
Establishing a proper system of revenue recognition sets your nonprofit up for success. As you implement the best practices we’ve covered, always double-check any questions or concerns you have with a nonprofit financial professional, who can apply general revenue recognition principles to your specific financial situation to ensure compliance.
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