Inside the Nonprofit Balance Sheet (2024)

A balance sheet is a foundational document that provides important insights into acompany’s financial healthat a particular moment in time. Unfortunately, for those without accounting expertise,balance sheets can sometimesfeel indecipherable. For nonprofit organizations, understanding a balance sheet can be evenmore difficult, due tospecialized nonprofit accounting rules that are slightly different from the rules for-profitcompanies must follow.Because nonprofit corporations are driven by a mission, not monetary profit, and rely on thesupport of donors toachieve their goals, nonprofit balance sheets reflect an extra level of transparencydesigned to highlight anyassets encumbered by donor restrictions.

This article explains the unique rules for nonprofit balance sheets, including how theyclassify assets andliabilities and how they differ from for-profit balance sheets. In addition, it explores howto read a balance sheetto interpret what it says about a nonprofit organization’s financial health.

What Is a Nonprofit Balance Sheet?

A nonprofit balance sheet is technically known as a statement of financial position. Itprovides a detailed overviewof a nonprofit’s financial health at a specific moment in time, often the last day ofa month, fiscal quarteror year. It outlines three primary areas: the organization’s assets (such as cash,investments, property andequipment), liabilities (such as payroll, loans and other expenses) and net assets (thevalue of its assets minusits liabilities, which would be called owner’s equity on a for-profit balance sheet).

Balance sheets serve several basic nonprofit accountingpurposes. Inaddition to providing important information about a nonprofit’s financial stability, anonprofit balance sheetcan, for example, be analyzed to reveal insights about a nonprofit organization’sliquidity and workingcapital. Nonprofit balance sheets also aid in the auditing process. While the InternalRevenue Service (IRS)doesn’t audit nonprofits, federal and state agencies can, depending on anonprofit’s size and spending.In particular, large nonprofits’ financial statements often are independently auditedto enhance theircredibility to donors and other stakeholders. Lastly, nonprofits use their balance sheetsfor tax filing purposesand to apply for tax-exempt status.

Key Takeaways

• A nonprofit balance sheet, also known as a statement of financial position, providesstakeholders, such asmembers, donors, volunteers and board members, with insights into the financial healthof the organization.
• Balance sheets for nonprofits are like those from profit-driven companies but differlargely in how theycategorize and record net assets (called equity on for-profit balance sheets).
• Nonprofits categorize and record assets differently, primarily because the revenue theyreceive from grants,donations and fundraising often comes with restrictions.
• Analyzing a nonprofit balance sheet can add to your understanding of theorganization’s working capitalposition, its reliance on debt for funding operations, the existence of any restrictionson assets andasset-growth patterns developed over several years.

Nonprofit Balance Sheet Explained

There are two types of accountingapproaches nonprofits can use when building theirbalance sheets: cash or accrual.They mainly differ in thetiming of how they recognize revenue and expenses.

Cash-basis accounting recognizes revenue and expenses at the time monies are received orpaid. It’s a simple,easy-to-use method often selected by smaller organizations. One drawback of the cash-basisapproach, however, isthat it can sometimes paint an inaccurate picture of a nonprofit’s financial health.For example, a nonprofitmay have a large amount of cash on hand, signaling a healthy financial position. But thecompany may have expensesexpected to exceed its cash level that won’t hit the books for two months. Thecash-basis methodwouldn’t reflect the looming cash crunch.

The accrual method recognizes revenue at the time it is earned — at the time a donorpledges money, to cite anonprofit-specific example — and expenses at the time they are incurred. In bothcases, this may or may not bewhen funds are exchanged. Accrual-basis accounting is considered a more accurate way todepict anyorganization’s current financial situation because it matches revenue and expenses towhen they’reearned or incurred within the same fiscal period.

For example, a nonprofit might receive a grant in March whose funds are restricted until thecompletion of a projectin August. The accrual method recognizes the grant revenue in August (assuming the milestoneis achieved), while thecash-basis method would record it in March when the cash is received. As a result, acash-basis balance sheetwouldn’t reflect the nonprofit’s obligation to complete the project in thefuture and would appearcash-rich in March. A disadvantage of the accrual method is that it can create cash flowmanagement problems if theorganization doesn’t separately — and rigorously — manage its cash flow.For example, underaccrual accounting, the nonprofit would record the restricted grant under discussion here asan asset in March,regardless of whether the cash is in hand. In such a case, a close reading of theaccrual-basis balance sheet wouldreveal the nonprofit’s true liquidity, because the grant asset, incorporated into thecash or accountsreceivable account, would be offset by a deferred revenue liability (reflecting theobligations of the restrictedgrant). These accounts are illustrated in the accompanying sample nonprofit balance sheet,above. As the obligationsare satisfied, the deferred revenue is reduced on the balance sheet and the grant revenue isrecorded on thestatement of activities (the nonprofit equivalent of the for-profit income statement).

It’s important to remember that the balance sheet is just one part of the overallfinancial picture fornonprofit organizations. To fully understand a nonprofit’s financial health,it’s critical to view thebalance sheet in combination with other core financial statements,including the statement of activities, whichdetails a nonprofit’s revenue and spending on various programs and activities (theequivalent of aprofit-and-loss or income statement in a for-profit organization); the statement of cashflows, which providescritical details about the timing and sources of cash moving in and out of the organizationover a specific period;and the statement of functional expenses, which segments expenses into three broadcategories (programs, managementand general, and fundraising) and provides specific details on each expense.

Balance Sheet vs. Statement of Financial Position

A for-profit balance sheet and a nonprofitstatement of financial positionare mostly the same, although they differ in how they categorize assets and record them.Both contain three primarycomponents — taught in any accounting 101 course— though theirnomenclature can differ.

Assets

Broadly speaking, an asset is a tangible or intangible item of value that a company owns oris owed. Tangible assetscan be seen and touched, such as property and buildings, while intangible assets, such aspatents, cannot.Nonprofits categorize assets in the following three ways, depending on whether they’retangible or intangible,as well as the amount of time it would take to convert them to cash, known as liquidity:

• Current assets: Current assets can be converted to cash relativelyquickly, defined as within ayear. This includes cash but also accounts for short-term investments (such assecurities), accounts receivableandcontributions receivable (such as pledges from donors and grants). It also includesprepaid expenses, such asinsurance or software subscriptions. As part of their mission, some nonprofits mightalso carry inventory as acurrent asset, for example, to sell or offer in return for donations. Current assets arereported on the balancesheet at their current value.
• Fixed assets: Fixed assets are tangible items that areconsidered“noncurrent,”meaning that the nonprofit would expect them to have a useful life greater than oneyear. These includeproperty,such as land and buildings; equipment, such as computers, furniture and fixtures; andany improvements made toleased property. Nonprofits record fixed assets as capital expenses at the time ofpurchase and record theasset’s depreciation over time.
• Other long-term (or noncurrent) assets: These are assets thatdon’t fit the definition ofacurrent or fixed asset. They include intangible assets, such as intellectual propertyand patents, which can beamortized over time, as well as long-term investments in securities that are expected tobe held for longer thanoneyear. It also includes goodwill, which occurs when one company acquires another andrefers to the amount paidabovethe acquired company’s book value. Goodwill can be attributed to the intangiblevalue of the acquiredcompany’s brand name, customer base and reputation.

Liabilities

Liabilities are the opposite of assets, representing what an organization owes to anotherentity. A nonprofit balancesheet categorizes liabilities in the following two ways, based on when the expense is due:

• Current liabilitiesare short-term debts that companies expect to paywithin a year. Examplesincludeaccounts payable, accrued expenses (such as salaries and rent) and short-term loans orportions of long-termloansdue within a year. It also includes revenue that a nonprofit has yet to receive butexpects to receive in thenext12 months. For example, if a grant is awarded but is expected to be paid in the nextyear, it’s treatedlike ashort-term loan until paid, in the event the nonprofit is unable to use the grant forsome reason. The same istruefor deferred or unearned revenue, which refers to funds a nonprofit receives for goodsor services expected tobedelivered in the next 12 months, such as membership fees over the course of a year.
• Long-term liabilities are obligations due in more than a year. They caninclude portions ofmortgages or other financing, such as leases, pensions, deferred compensation andaccrued expenses. They alsoinclude deferred revenue for goods and services expected to be delivered in more than ayear.

Net Assets

If a nonprofit company sold all of its assets today and paid all of its liabilities, theremaining monies would beits net assets. In the for-profit world, that remainder is called equity, which getsdistributed amongowners/shareholders. Why the difference in terminology? Nonprofits have no owners orstakeholders, so they have noequity or distributed profits. These differences ultimately reflect the different missionsfor nonprofit andfor-profit companies. The goal of for-profit companies is exactly that: more profits.Nonprofits, on the other hand,need to generate revenue but only as a means to an end: to support a mission. Despite thesedifferences, somenonprofits have profited — metaphorically speaking only, of course — by applyingfor-profitaccounting principles to their nonprofit missions.

Nonprofits categorize net assets in a unique way, known as fund accounting, that reflectsrules around how funds(usually in the form of donations, grants and fundraising) are received. It also providestransparency about how thefunds will be used to fulfill the mission. Nonprofits traditionally categorized net assetsin one of three ways,but, beginning in 2018, the Financial Accounting Standards Board (FASB) consolidated andrenamed net assetclassifications for nonprofits as follows:

• Net assets without donor restrictions (formerly “unrestricted netassets”): WithFASB’s changes, unrestricted net assets were renamed “net assets withoutdonor restrictions”— but the definition remained the same. Nonprofits can use these assets as theysee fit. For example,membership dues and museum admission fees typically have no restrictions, meaning thatnonprofits can use themtopay salaries, rent or any other organizational expenses.
• Assets with donor restrictions (formerly “permanently restricted netassets” and“temporarily restricted net assets”): Permanently andtemporarily restricted net assetswere combined by FASB’s 2018 action into the single category of assets with donorrestrictions, which canbeused only according to limitations placed by the donor. An endowment fund for ascholarship is an example of apermanently restricted asset. The fund is set up to generate income that can be usedonly for the scholarship,and,usually, the principal amount is permanently restricted and can never be spent.Temporarily restricted assetscomewith initial limitations that can be lifted pending certain circ*mstances, usuallyrelated to periods of time ormeeting specific conditions. This might include a grant for an explicit achievement thatisn’t payableuntilthe achievement is accomplished.

In the event that restricted funds can’t be used for the required purpose or during thespecified period oftime, the nonprofit must seek permission from the donor to use them for another purpose,petition a court to modifythe restrictions or return them to the donor.

How to Read a Nonprofit Balance Sheet

A nonprofit balance sheet should tell board members, donors, auditors and other stakeholderswhether the organizationhas the resources necessary to fund operations in the short and long terms. To probe thatquestion, it’simportant to know what to look for when reading a nonprofit balance sheet. Any balance sheetanalysis should startwith understanding the following three key themes that can be learned from the data:

• Trends: A balance sheet reflects a moment in time and doesn’tnecessarily give a completeviewof nonprofit financial health. Most balance sheets compare current results to those ofthe most recent priorperiodbut, to better understand trends, be sure to review multiple previous balance sheets.Have net assets steadilytrended upward in recent years? Does an influx of restricted assets limit availablefunds for day-to-dayexpenses?
• Liquidity: In general, a nonprofit balance sheet should demonstratethat the organization hasmorecurrent assets than current liabilities — meaning, can its liquid assets cover itsshort-term obligations,such as rent, salaries or any other immediate expenses? Liquidity also factors into long-term planning fornonprofits. Balancesheetsshould also show unrestricted net assets that can be converted to cash to respond tochanges in marketconditions,such as an economic downturn or an unexpected acquisition opportunity.
• Debt: Most nonprofits have some form of financing from banks or otherfinancial institutions.Theymay also issue bonds to raise funds. When debts outweigh assets, however, a nonprofitcould find itself unabletomeet its payment obligations. This could impact the nonprofit’s credit, making itmore difficult to securefuture financing, or it could lead to a financial crisis. Lower debt, on the other hand,reflects greaterfinancialflexibility and stability.

Interpreting the Financial Health of Nonprofits

The next step in reading a balance sheet is to use the information it presents to calculatethe financial metrics and keyperformance indicators (KPIs) that aremost helpful in clearly interpreting a picture of the nonprofit organization’s short-and long-term financialhealth. Among these are months of cash on hand, the current ratio, months of liquidunrestricted net assets (LUNA)and leverage ratio.

Months of cash on hand: The formula for months of cash on hand measuresliquidity by dividingcurrent assets by the organization’s average monthly expenses. The result reveals howlong a nonprofit can payits bills without need for any additional income. For example, if a company has $100,000 incurrent assets, withmonthly expenses of $20,000, it has five months of cash on hand to support operations. Threeto six months of cashon hand is normal for nonprofits. The greater the number of months, the healthier theorganization’sshort-term outlook.

Current ratio: This KPI takes a slightly longer term look at liquidity bydividing current assets bycurrent liabilities, reflecting a nonprofit’s ability to meet its obligations over theensuing 12 months. Forexample, if a nonprofit lists current assets of $100,000 and current liabilities of $90,000on its balance sheet,its current ratio is 1.11. The higher the ratio, the better — up to a point. Atoo-high ratio may indicate theorganization has excess money that could be invested or otherwise put to use. Ratios below1.0, however, indicatepotential difficulty meeting expenses over the next 12 months.

Months of LUNA: Because nonprofits often have funds tied up in restrictedassets they can’talways easily access, months of LUNA — that is, liquid unrestricted net assets —looks at how manymonths of freely available funds a nonprofit has available to cover expenses. Monthly LUNAis calculated bysubtracting the value of the assets a nonprofit owns but can’t liquidate quickly(property and equipment) fromits unrestricted funds, then dividing that number by average monthly expenses. The formulalooks like this:

Months of LUNA = (Unrestricted net assets - equity in propertyand equipment) / Average Monthly Expenses

For example, say a nonprofit has $200,000 in unrestricted assets. It also owns its buildingand equipment, worth$225,000, but still owes $75,000 in loans for them. The nonprofit averages $10,000 inmonthly expenses. Months ofLUNA would, therefore, be five: $200,000 (property and equipment value) – $150,000(the outstanding loan) ÷$10,000 (monthly expenses) = 5 months of LUNA. Nonprofits should strive for at least threemonths of LUNA.

Leverage ratio: Ideally, stakeholders prefer that nonprofits limit long-termreliance on debt inorder to fund operations; the leverage ratio KPI helps with that evaluation. To calculateleverage ratio, dividetotal liabilities by total assets. For example, if a nonprofit lists $15,000 in totalliabilities on its balancesheet and has $100,000 in total assets, its leverage ratio would be 15%. A leverage ratio of10% or less indicatesthat the organization doesn’t require much in the way of loans or bonds to maintainoperations, reflecting astrong financial position and future flexibility. Increases in leverage ratio over time,however, could warrantconcern that the organization will struggle to meet its future debt obligations.

Common Mistakes in Interpreting Nonprofit Balance Sheets

Reading nonprofit balance sheets poses particular challenges because of the unique accountingrules nonprofitorganizations must follow. For example, someone unfamiliar with nonprofit accounting rulesmay misinterpret theactual amount of funds available to the organization, due to the presence of restrictedfunds. This can lead toinaccurate assumptions about financial performance that lead to misinformed planningdecisions.

Avoid the following three common mistakes to get a more accurate assessment of anonprofit’s balance sheet

Focusing Only on One Section

A balance sheet is a puzzle. Looking at only one piece obscures the big picture. For example,a nonprofit could showstrong growth in current assets in a given year, with sharp increases in fundraising andgrants. This might give theimpression that the organization is financially strong — if you overlook theliabilities section. Zeroing inon liabilities could indicate that the nonprofit’s debt increased substantially duringthe same period becauseof expenses related to remodeling its headquarters. The resulting squeeze in net assetscould put the organizationin a weaker long-term financial position.

Not Understanding Context

Sometimes a “bad” number in a nonprofit balance sheet isn’t necessarilybad, as long as the readerunderstands the context. For example, a typical balance sheet interpretation is that highernet assets (assets minusliabilities) is “good” and lower net assets is “bad.” But because anonprofit’s goalis to put donations to work fulfilling its mission, the accumulation of too much“surplus” (a part ofnet assets) isn’t always a good thing. When it comes to increasing net assets,nonprofits must perform abalancing act: They should have enough unrestricted net assets to cover a period ofoperating expenses — say,six months — but it should not trend up over time to the extent that it makes donorsthink their moneyisn’t being used for its purpose, and/or it creates a potential noncompliance issuewith tax authorities.

Not Considering Trends Over Time

One way to identify directional trends when assessing a nonprofit’s financial health isto look at more thanone balance sheet. Ideally, looking at several years of balance sheets provides greaterinsight into whether anonprofit’s financial outlook is improving or declining. For example, a current ratiolower than 1.0 suggestsfinancial weakness. While a current ratio below 1.0 isn’t ideal, looking at balancesheets for the two prioryears might indicate that the current ratio has been rising slowly but steadily, providing areason for optimism.

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With the right background, a nonprofit balance sheet — aka the statement of financialposition — need notbe mysterious to interpret. It’s important to keep in mind, however, that balancesheets by any name are onlyone piece of the financial puzzle for nonprofit organizations. Reading a balance sheetprovides critical, top-levelfinancial information, but a nonprofit’s statement of activities, statement offunctional expenses and cashflow statement must be evaluated together to see the full picture of theorganization’s financial outlook.

Nonprofit Balance Sheet FAQs

What insights can be determined from your nonprofit balancesheet?

A nonprofit balance sheet provides important details about the organization’s financialhealth at a specificmoment in time, usually the last day of a month, fiscal quarter or year. It lists detailsabout thenonprofit’s total assets, liabilities and net assets, which is the difference betweenassets and liabilities.A nonprofit’s balance sheet provides members, donors, volunteers, board members,auditors and other interestedparties with a high-level view of the organization’s ability to fund operations tosupport its mission.

Where to find a nonprofit’s balance sheet?

A nonprofit’s balance sheet can be found in several ways. For example, it’sincluded with theorganization’s annual report and it’s also submitted annually to the InternalRevenue Service using Form990.

When do nonprofits need the balance sheet?

Nonprofit balance sheets are required in several instances. The Internal Revenue Service(IRS) requires nonprofits tofile financial information using Form 990 when they set up theorganization and annually thereafter, with thebalance sheet required as part of the form. Only very small nonprofits — those with$50,000 or less in annualrevenue — are allowed to file a postcard-size form that doesn’t require balancesheet details. A balancesheet is also necessary whenever nonprofits apply for tax exemptions. Nonprofits also mustsupply balance sheets ifand when state or federal agencies request audits for any reason. Finally, nonprofits needto provide balance sheetsto members, donors, prospective donors and other stakeholders, usually as part ofindependently audited financialstatements, to build support for their mission and to encourage continued investments. Thisis usually doneannually.

How often should a nonprofit update its balance sheet?

Nonprofits should update balance sheets whenever they need to provide new financialinformation to stakeholders, butotherwise at least annually. Balance sheets should also be updated whenever nonprofits applyfor tax exemptions.Finally, nonprofits should update their balance sheets whenever they provide reports tomembers, donors andprospective donors. Most nonprofits provide updated financial reports annually.

How to do a balance sheet for a nonprofit?

Nonprofit balance sheets detail the financial value of three key components of theorganization: assets, liabilitiesand net assets. These are usually listed along the left side of the balance sheet and aresegmented into groups,based on the type of asset or liability and its liquidity (current, noncurrent, tangible orintangible). The balancesheet also details whether net assets are unrestricted (free to be spent as the nonprofitwishes) or restricted(limited by donors in how they can be spent). Balance sheets often compare these values to aprior period, such asthe previous year.

What are the four basic financial statements for a nonprofit?

The four main nonprofit financial statements start with the statement of financial position(the nonprofit equivalentof a balance sheet). The other three are the statement of activities (similar to an incomestatement), which detailsthe organization’s revenue and its spending on various programs and activities; thestatement of cash flows,which details the nonprofit’s sources of cash and how that money moves into and out ofthe organization; andthe statement of functional expenses, which provides more detailed information on expenses.

Why does a nonprofit have to show financial statements?

The main reason nonprofit organizations should want to produce financial statements is thatthey are often crucial tobuilding donor support and, in general, enhance a nonprofit’s credibility with all itsstakeholders. Butnonprofit financial statements are also necessary for multiple reasons. The Internal RevenueService (IRS) requiresnonprofit financial statements every year, whether or not the nonprofit is tax-exempt. TheIRS also requestsfinancial statements whenever nonprofits apply for tax-exempt status. Also, while the IRSdoesn’t auditnonprofits, state and federal agencies can, at which time they’ll require financialstatements.