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The basic components of accounting for non-profits consists of income in the form of donations and expenses that relate to charitable programs and services. Unlike a regular corporation, a non-profit does not produce or sell a product, nor does it carry an inventory or calculate the cost of goods sold. Instead, the accounting system for a non-profit is concerned with sources of income, restrictions placed on use of funds, and the categorical allocation of expenses between direct and indirect program costs.
A non-profit is a business without a profit motive. Its operational purpose lies in providing a public service. Although a non-profit is legally a corporation and operates on a financial landscape that has all of the same trappings as an ordinary for-profit corporation, the accounting inputs are different. Instead of products, it has programs. Donations replace sales on the books in the income category. Assets and liabilities may look the same in both instances, but non-profits often have restrictions on assets and specialized terms in place for liabilities that cause them to be treated or valued differently on financial statements.
The basic distinction in accounting for non-profits is in sources of income. An ordinary non-profit has income from individual donations, grants from foundations and corporations, and grants and contracts from government agencies. It can collect program fees and take out loans. The most important accounting concern is the restrictions placed on these sources of income that have to be properly carried on the books.
Non-profit income is either restricted or unrestricted. Income that is restricted means that it can only be used to cover specified expenses or for designated purposes. For example, a grant from a foundation will typically come with a contract that limits the use of the funds to direct expenses for a program running in the current year. This means the funds cannot be transferred to a different program, used to pay general overhead, or applied to cover budget shortfalls from a prior year. Accounting for non-profits has to take all of these restrictions into account and properly assign income to expenses it can legally cover.
Further, non-profit expenses are often circumscribed by the restrictions placed on sources of income. For example, a government grant for a program can stipulate that no more than two percent of the total amount can be used for program-related travel expenses. Government grants are sometimes restricted from covering certain types of expenses altogether when the jurisdiction at issue prohibits public money from being spent in certain ways, such as on particular types of medical treatments. The most problematic restriction on expenses in accounting for non-profits concerns the amount of program money that can be allocated to administrative or indirect expenses. Many grants set a maximum percentage that can be directed to these types of expenses, which has to be monitored as part of the accounting system.