Fund accounting is a bookkeeping system used by nonprofit organizations (NPO) that focuses on accountability rather than profitability. You may be wondering what the difference between fund accounting and regular accounting is?
Unlike commercial businesses that use regular accounting to manage expenses and profits, fund accounting ensures that costs and income are allocated for their designated purposes. So, want to know more about what fund accounting is?
What Is a Fund?
Every NPO operates differently. Each entity has distinct ways of working as well as handling fundraising and administrative activities. Separate funds are designated for various functions or purposes to track where revenues are used and expenses are incurred.
Some funds are specifically allocated to a particular objective. This happens when donors require donated funds for a specific purpose and not for general administration or funding programs.
What Is Not a Fund?
One of the major mistakes NPOs make is segregating assets by fund type. Creating separate bank accounts for fund allocations is unnecessary because this only leads to extra work for the accounting staff.
Another mistake is setting up funds for every project, program, mission, or activity that the NPO operates. This practice commonly happens in religious and missionary organizations.
Who Uses Fund Accounting?
Fund accounting manages assets, contributions, donations, income from fundraising activities, and funding from outside sources. So what is fund accounting for example? Some entities using fund accounting include:
- Churches or religious organizations
- Animal rescue organization
- Charitable organizations
- Government agencies
- Educational institutions
- Nonprofit nursing homes
- Foundations for the arts
The Principles of Fund Accounting
To properly manage the assets and funding separately without opening multiple bank accounts, the NPO must set up an accounting system with program codes for their transactions. These codes contain unique identifiers for donors, grants, projects, and locations, which help determine the funding sources.
This system also shows how efficiently an organization uses funds for a particular purpose. If fund accounting is done correctly, it provides transparency for external stakeholders.
Created reports must adhere to GAAP (Generally Accepted Accounting Principles) standards. So now, if you ask, ‘Is fund accounting a GAAP compliant endeavor?’, the answer is yes.
The Purpose Behind Fund Accounting
The primary purpose of fund accounting is to properly manage the various sources of revenue an NPO receives. It also monitors the attached donor’s restrictions on the use of funds.
So what is fund accounting in asset management? It is about breaking up finances into appropriate fund categories to help prevent revenue from being misused.
Types of Fund Categories
To better understand the system of fund accounting, it’s vital to identify the main categories of funds.
Unrestricted Funds
These funds are a part of the NPO’s annual fund and for general operating costs. Annual funds usually come from donations, and they are placed in unrestricted funds, which are spent on utility bills for a company headquarters.
Board-Designated Funds
In this category, the NPO’s Board of Directors designates a fund for a specific purpose. Instead of the donors, the board of directors determines how the funds are used.
Restricted Funds
Restricted funds are when donors place restrictions on donated assets for a designated purpose. This means that the NPO can only use the funds for the purpose as specified by the donor.
Endowment Funds
An endowment fund is an asset that earns additional income for the NPO. The interest accrued by using this type of fund can be restricted or not, depending on the instructions of donors.
Fixed Asset Funds
Fixed asset funds are monetary assets designated to pay for the organizations’ long-term investments, such as land, vehicles, equipment, or buildings. These assets require monthly payments over time and fixed asset funds cover these recurring costs.
Bank Accounts and Fund Accounting
Although fund accounting is a critical component in internal control, it does not require any special or separate banking rules. An NPO doesn’t need to create multiple bank accounts for each fund as these involve more work and costs.
All of an NPO’s cash can be placed in one bank account, and only tracking the use of funds should be broken down into individual segments.
When to Use Fund Accounting
Almost all NPOs use fund accounting, and for them to easily track the assets, they must use different financial statements such as:
- Statement of Financial Position
- Statement of Activities
- Statement of Functional Expenses
- Cash Flow Statement
Using segments allows NPOs to easily track their assets against restricted donations, allowing the organization and donors to see how funds are used.
When Your Organization Might Need It
Fund accounting is crucial for creating financial reports, tracking fund restrictions, and generating accurate financial statements.
With this system, the accounting staff can provide reports with updated spending information, budget variances, forecasts, and monitoring program spending against restrictions imposed by donors.
What Are the Benefits of Fund Accounting for Nonprofits?
Fund accounting can help your organization in various ways that include:
- Plan fundraising initiatives.
- Remain transparent with donors.
- Streamline accounting process, which leads to better efficiency.
Fund Accounting Software and Technology
Using manual spreadsheets and accounting methods is difficult for any entity. It’s very prone to human errors and quite laborious. Thanks to fund accounting software and technology – the process becomes automated and much easier.
Fund accounting software manages the basic needs of your fund accounting and reduces the need for manual processes to provide transparency across teams. It has a self-contained and self-balancing ledger specific for a particular project, donation, or grant.
The Future of Fund Accounting
There is ongoing research by the Accounting Standards Board (AcSB) regarding the process improvements of tracking and reporting of revenues of NPOs. The AcSB is examining current practices, including fund accounting compared to the deferral method and the use of the restricted fund method.
Fund Accounting Can Be Invaluable
Now you’ve learned what fund accounting is and how it can benefit your organization. If you need expert help in managing your assets and streamlining the processes in your organization, find an accountant with a great deal of experience in this industry who offers bookkeeping services for NPOs