For those of us who spend our lives working in, with, or around nonprofit organizations, this is generally thought of as a pretty easily answered question… but is it really? Recently, several of the clients we serve have received contributions from vendors and service providers that may challenge, or at least stretch, the definition of what gets recorded as a contribution. Before we delve into specific situations, let’s review the basics.
Contribution Definition and Criteria
The Federal Accounting Standards Board (FASB) Accounting Standards Codification (ASC) glossary contains the following definition for “contribution”:
“a contribution is an unconditional transfer of cash or other assets to an entity or a settlement or cancellation of its liabilities in a voluntary nonreciprocal transfer by another entity acting other than as an owner.”
Under this definition, whether receiving an asset from a donor or cancellation of a liability by a creditor, two criteria must be met. First, the transaction must be unconditional, and second, it must be nonreciprocal.
Perhaps the easiest contribution to identify is when an individual gives cash in response to a fundraising appeal, expecting nothing in return and placing no conditions on the gift – such as requiring the organization to raise an additional $1,000,000. Other, more complex, situations may involve donated assets or canceled liabilities, but the overarching concept is still the same: the gift must be unconditional and nonreciprocal.
Donations from Service Providers
With this basic understanding in mind, there are some important considerations to look at relating to a trending arrangement playing out at many nonprofits who depend on third party service providers to achieve their mission. Increasingly, service providers or potential service providers offer to make a substantial up front “unrestricted contribution” to the nonprofit organization if selected to provide the service. Examples of these vendors could include a provider of food services, a dormitory operations manager at a college or a facilities maintenance contractor at a healthcare provider. Within the vendor’s contract, some of which have terms for up to ten years, is a carefully worded section describing how the vendor will amortize the contribution across the contract term and disclosing that the college or healthcare provider will be required to repay a prorata portion of the “contribution” to the vendor in the “unlikely event” the nonprofit organization terminates the contract before the end of the contract period.
In general terms, regardless of what the service provider calls it, this up-front inducement probably does not meet the definition of a contribution since the organization would be required to repay a portion of the balance if the contract is cancelled. This requirement makes the “gift” conditioned upon completion of the contract with the vendor. In fact, in most cases, the credit recorded when the “contribution” is received should be recorded as a liability that is amortized monthly as a reduction of the expense for food service, facilities maintenance or dormitory operations. If the organization decides to change vendors before the contract period ends, the unamortized liability is due back to the vendor.
Obviously, if the nonprofit organization is counting on this “contribution” to meet their revenue budget in year one of the contract, this is not good news.
Key Considerations for “Contributions” through Contracts
Since up-front inducements seem to be the new way for vendors to gain clients, let’s discuss a few steps an organization can take to ensure these arrangements meet the organization’s objectives:
- Be careful upon seeing the word “contribution” in a service provider’s proposed contract. In most cases, some or all of the upfront cash received will end up being recorded as a liability and not a contribution.
- Carefully consider the contract length and the consequences of exiting the contract early. For example, most food service provider contracts at a college are cancelled well before 10 years have elapsed.
- When comparing proposals, include amortization of the up-front inducement when considering the total cost of the contract.
- Insist that the contract include performance measures that must be achieved by the vendor during the contract term. Include a penalty clause that reduces the amount of the up-front inducement that must be refunded if these performance measures are not achieved.
- If the vendor truly wants the up-front payment to be a contribution, make certain it is both unconditional and nonreciprocal. To achieve this objective, generally, the contribution would not be mentioned within the contract, but rather would be a separate transaction not tied in any way to the contract award.
So, maybe determining whether a cash receipt is a contribution is not that difficult after all. Just recognize that many vendors are using up-front cash inducements as a way to gain access to nonprofit organizations. Because of this, it is important to carefully read all contracts and be certain to understand the consequences of accepting these “contributions.”
Billy Minch is an Atlanta-based Member in the Audit Division of Warren Averett CPAs and Advisors, serving clients in the firm’s educational institution, nonprofit, governmental and single audit practice areas. He advises nonprofit clients on a number of complex areas, including educational institution accreditation, federal, state and private grant compliance, board member training and accounting considerations. He may be contacted at email@example.com or (678) 686-6502.