by Mark McCallick, CPA.CITP
Founder of NonProfit Connect™
This is the 2nd Blog of the series on configuring QuickBooks for use in a Nonprofit organization. In Quickbooks for Nonprofits: Planning and Implementation, I mentioned that the very first step in configuring Quickbooks is to have an implementation meeting and I recommended using a questionnaire to facilitate the meeting and act as a “centerpiece.” The PDF “QuickBooks Implementation Questionnaire” can be used for this purpose.
Some of the main goals of the implementation meeting are to produce a consensus on the definition of:
- The Chart of Accounts
- Funding Sources
Building Your Chart of Accounts
One of the outcomes of the implementation meeting should be a listing of the accounts that your organization will need in order to provide the reporting required by all the users of the Financial Statements. By attending this meeting and participating in it, your Accountant(s) will have a very good idea of the types of accounts they/she/he will need to satisfy the needs of most users.
The implementation meeting should provide an agreement on the names of accounts so that all readers will have a mutual understanding of the terms and types of transactions captured in each account.
So what exactly is a “Chart of Accounts”?
It is a detailed listing of minor categories under the major categories of “Assets, Liabilities, Net Assets, Revenue and Expense.” Think of it as the foundation for a building you are about to construct. The stronger the foundation the stronger the building. The same holds true of the Chart of Accounts. Another way to think of it is as a “filter;” a filter through which information from the “outside” world will enter your accounting system. The manner in which that filter is setup will be the basis for the reports. If the filter is too summarized, the reports will be too summarized. If the filter is too detailed, the reports will be too detailed. So you can see that if we are to “Start with the End in Mind,” we need to let the reports dictate the construction of the Chart of accounts – not the reverse.
The “FASB,” Your Audit report and Your Tax Return
You would think that if you have defined all accounts in the major categories of “Assets, Liabilities, Net Assets, Revenue and Expense” you would be finished building your chart of accounts. This would have been so if you were working in the “For Profit” sector, but unfortunately many nonprofits (that fall into the category of Voluntary Health and Welfare Organizations) have to make one more distinction in the “Expense” section of their chart of accounts. They need to keep track of the “functional” expenses directly related to:
- Management and Administration and
The reason that many nonprofits must do this is because of “Statement of Accounting Standards # 117- Financial Statements of Not-for-Profit Organizations.” The body of women and men who guide the accounting world (in the U.S.) in matters of Generally Accepted Accounting Principles (GAAP) are known as the Financial Accounting Standards Board and they perform this by issuing “Statements of Financial Accounting Standards (SFAS).” One of the requirements of SFAS # 117 is that “voluntary health and welfare organizations provide a statement of functional expenses that reports expenses by both functional and natural classifications.”
The statement of functional expenses is unique to nonprofit organizations and this statement has become extremely important to the taxing authorities (IRS & State tax agencies), funders, philanthropists and sophisticated readers of the Financial Statements of Nonprofit Organizations. This is because the statement of functional expenses hopes to show the amount and percentage of each dollar spent in the three functional expense categories of “Program,” “Management & Administration” and “Fundraising.”
Take a look at your Audit report and your 990 (see Return of Organization Exempt From Income Tax Form page 10, part IX) and, if SFAS #117 applies to your organization, you will see the statement of functional expenses.
The logic behind this classification is that the more a nonprofit spends on its’ Programs, the more efficient it is in performing its’ mission. This ratio and the statement of functional expenses has become a barometer for a very important group of readers of the financial statements and as such, we need to reflect this in the chart of accounts of a nonprofit organization to which SFAS # 117 applies (and this is a large group of nonprofit organizations).
So how does a nonprofit organization report expenses by both functional and natural classifications? Is this akin to asking your accountant to “jump and not come down?” Maybe not –because your implementation meeting will provide you with the raw material for your natural classifications and I will suggest two methods that you can employ to use QuickBooks to setup the “functional expense categories.”
The first method I suggest is one I have used at many of my nonprofit clients. I offer this methodology as a suggestion and a guide. I believe that all nonprofits are unique and as such my hope is that you can take the best of this suggestion and use it to create your own unique chart of accounts.
Suggested Method #1
In Quickbooks, create the three functional expenses categories of Program, Management & Administration and Fundraising by creating an expense account for each. These accounts will be “major categories” and you will not post transactions directly to these accounts. Next setup “sub-accounts” underneath each major functional expense category as needed. This may seem redundant in that, as an example, you will have the sub-account “Salaries” under each major functional expense category – but the reality is that you do have salaries in each category (an example of this may be the Executive Director’s salary that may be split between the three major categories).
The best part of this methodology is that you can create a report in QuickBooks that not only shows how you spent in the functional and natural categories but you can modify the report to show the percentages of total expenses related to each functional expense category. This is very important information to many readers of the financial statements. See the short video “Tips for Setting Up and Using Quickbooks” explaining this methodology using a sample nonprofit organization . Also, see the attached sample chart of accounts in Excel™ for an example of using this method.
Suggested Method #2
The second methodology is for you to take a serious look at the “Unified Chart of Accounts (UCOA)” which was created by a number of major nonprofit support organizations including the National Center for Charitable Statistics (NCCS), The California Association of Nonprofits (CAN), CompassPoint Nonprofit Services and The California Society of CPAs. These organizations have other very beneficial information for nonprofit organizations on a number of different topics.
A great resource is the “Unified Chart of Accounts Toolkit.” This tool kit gives you the ability to restore a sample Quickbooks database using your version of QuickBooks (most organizations with at least the 2007 version of QuickBooks should be able to restore and open this sample database). The spreadsheets will also give you a “visual” of the logic in the design of the UCOA. The main difference in the UCOA and the method I use most (See suggested method #1 above) is that while my method creates the major functional expenses directly in the chart of accounts, the UCOA employs the QuickBooks utility of “Classes” to create these functional categories.
In order to get the most out of QuickBooks in your nonprofit, you should combine your chart of accounts with the “Customer/Jobs” and “Classes” utilities found in the software. My next 2 blogs will cover how you can combine those utilities with your chart of accounts to create some very useful reports which can be run by “Funding Source” or by “Program” all within the same Quickbooks setup!
My next Blogs in this series will be:
STEP 3 (Blog 3 of 6 in series): QuickBooks “Customer/Job” utility in a Nonprofit Environment
STEP 4 (Blog 4 of 6 in series): QuickBooks “Classes” utility in a Nonprofit Environment
STEP 5 (Blog 5 of 6 in series): Coding transactions with QuickBooks “Customer/Job” and “Classes” utilities
STEP 6 (Blog 6 of 6 in series): Creating Financial reports in QuickBooks for a Nonprofit Organization
About the Author: Mark McCallick, CPA.CITP has a practice dedicated to nonprofit organizations and small business. He has served nonprofit organizations for over 25 years and is a Certified QuickBooks Pro Advisor. He is also the founder of the website www.nonprofit-connect.com whose mission is to provide nonprofit organizations with a forum to collaborate with one another and share access to resources and best practices in the nonprofit industry. You can contact Mark McCallick at email@example.com or firstname.lastname@example.org.