June/July 2016 Newsletter
XRB Out of Control? – Should accountants dictate how non-financial information is reported?
Give ‘em Contra – Dealing with refunds and re-payments.
Non-Charity Financials – How to present these?
Charity Financials – Dare to Tier 2.77
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XRB Out of Control?
Earlier this month the NZ Trustees Association, a kind of umbrella organisation for people serving as Trustees with about 400 members, sharply criticised the new financial reporting rules saying they had created an ‘absolute windfall for the accountancy profession’, led to ‘sizeable increases’ in audit and accountancy fees, and generally bemoaned ‘financial and resource-based suffocation of small charities’. “There has been a sledgehammer for a peanut reporting system imposed on Charities that will have far-reaching implications for small to medium Charities.” they say.
Meanwhile, XRB is going full steam ahead writing a new accounting standard (and also accompanying audit standard) for a Statement of Service Performance for the higher Tiers, which so far have escaped them. The key problem with this, and the similar requirements for Tier 3 and 4, is that accountants in New Zealand have declared themselves the experts in non-financial reporting as well as financial and, through the audit function, also the arbiters of non-financial performance.
Whether accountants are qualified to do this, and whether they are independent enough from financial concerns to be able to assess non-financial performance objectively, is a subject of some international debate. The debate is not so much about Charities but about social and environmental reporting of corporates, something that some countries, Australia amongst them, have started to legislate around. Some standards have emerged internationally to measure such performance and ensure consistency and truthfulness in reporting, however these standards have not been developed by accountants. The ones gaining traction internationally, such as AccountAbility, or the Global Reporting Initiative are developed by independent not-for-profits, and the independence of these standards from financial reporting standards is largely seen as the basis for their credibility.
Nowhere else have financial and non-financial reporting requirements been mixed up in a suite of accounting standards like they are now for Charities in New Zealand. And nowhere else are small Charities required to follow the kind of stringent reporting regime now being introduced in New Zealand. Most countries require no more than a simple questionnaire to be filled in each year. According to Transparency International, which publishes an international ‘Corruption Barometer’, the not-for-profit sector is being perceived by New Zealanders themselves as one of the least corrupt institutions (well below the media, the business sector or political parties) and the second-least corrupt country in the world. Why the hammer has come down on New Zealand Charities, and where the impetus for these changes came from, has always been the most puzzling aspect of them.
If XRB does, indeed, have the mandate to impose non-financial reporting requirements as they have started doing, Charities may only be the guinea pigs to ensure that when the New Zealand government has to react to international pressure to introduce some mandatory corporate social responsibility reporting, such reporting is firmly in the hands of the accounting profession and is done according to business principles.
”Contra” Transactions: When Income is not Income, and Expenditure not Expenditure.
It happens to all of us: sometimes members or clients accidentally get overcharged, or part of a grant has to be refunded, or we paid too much to someone else and get a refund. The accounting treatment of this trips many people up.
Let’s say you run an after-school care service and a parent has set up an automatic payment to cover the fees for the child each week. At the end of the term the parent forgets to cancel the AP and accidentally pays for another two weeks. Of course, you have to refund this money. But what kind of expense is this?
The parent paid for something they never should have paid for, so those payments should not appear as ‘income’ in your reports. Many people create a special ‘refunds’ account in expenditure for these situations, but a refund is not expenditure, and there should be no such account. Refunds should always be coded against the account of the original transaction. If there is an income account ‘Parent Fees’ where the overpayment has been recorded, then the refund must also be recorded in this account. These kinds of transactions are often called ‘contra’ transactions.
Another situation is the refunding of a portion of a grant. If you have received, say, $3,000 from a grantmaker and found you could not spend $500 of it, which you refund, then you have effectively received a $2,500 grant. This is often erroneously recorded as $3,000 grant income and an expenditure item of $500 called ‘refunded grant’ or similar.
Without such ‘contra’ entries some organisations’ accounts would become wildly inaccurate as their figures include payments and receipts that were simply made in error as income or expenditure. An organisation may show a higher income from parent fees only because of more erroneous payments in that year, not because they have actually received more – and that would make this figure meaningless.
Non-Charities: How Should You Present Your Accounts?
There are no accounting standards governing the financial statements of small not-for-profits that are not Charities. Incorporated Societies must submit financial information each year, including income and expenditure and assets and liabilities, according to the Societies Act. Charitable Trusts have no reporting obligations.
The format usually only becomes an issue if a not-for-profit employs an accountant to compile the financials, or commissions an audit. Accountants are generally bound by their professional standards to apply best accounting practice, and an auditor has to check for compliance with relevant accounting standards. In practice most accountants apply taxation principles to generate such financial statements and this is often accepted by auditors. However, such financial statements will almost certainly be accrual-based.
Although the Financial Reporting standards recently introduced for Charities don’t apply to other not-for-profits, they have given accountants the option of compiling cash-based financial statements in accordance with the Tier 4 standard anyway (without the non-financial information requirements), and auditors can use this as a ‘relevant’ accounting standard. Where CCA has been asked to compile financials for such entities we have done so as this is the most economical solution.
Often not-for-profits generate their own reports, and as long as they are not misleading or hard to comprehend for an outsider we generally accept them at CCA, and audit them in this format. They often do not have Notes as people feel unsure about the technical language often used in those. The Notes are generally a tool to provide information which is not self-evident from the accounts, such as if you have used any unusual ways to arrive at your figures. They don’t have to be – and shouldn’t be – full of jargon.
Charities: Tier 2 vs Tier 3
CCA has been recommending using Tier 2 instead of Tier 3 to some of our clients. This has created some confusion with some accountants, who assume that the lowest Tier is always the best to report under as it involves he most accounting concessions, and some have very firmly encouraged groups to change already supplied Tier 2 accounts to Tier 3.
The Tier 2 accounting standards are internationally uniform and are very close to the respective international accounting standards for businesses, which have been applied in New Zealand for quite some time now. This means that creating Financial Statements under Tier 2 is generally a lot more similar to how things were done in previous years than using the new Tier 3 and 4 standards, which are unique to New Zealand and contain some peculiarities that haven’t existed in accounting practice before. In general this should mean that both auditors and accountants will be more familiar with the accounting underlying Tier 2 statements, which should limit compliance and audit costs.
For the service-based type of organisations that most not-for-profits are there are no significant accounting concessions between Tier 2 and Tier 3. We have been recommending Tier 2 for these (and other) reasons:
- Statement of Cash Flows: Tier 2 allows a layout of this Statement that is generated by accounting software such as MYOB, Quickbooks (Reckon), MoneyWorks and others. Tier 3 only allows the layout that at the moment is only produced by Xero. This means additional manual adjustments have to be done for everyone not using Xero, which is the most expensive accounting software currently on the market for small and medium entities.
- Accruing Grants: Tier 3 only allows grants with a legally enforceable ‘use or return’ condition to be recognised as liabilities. Under Tier 2 organisations can continue to accept a moral/constructive obligation and recognise all unspent grants as liabilities, as is the actual practice in the sector.
- Related Party Transactions: Tier 3 mandates related party transactions to be disclosed even if they are not significant if they are ‘below market value’. In Tier 2 Related Party transactions are subject to the same materiality principle as everything else.
- Statement of Service Performance: This is not mandatory under Tier 2 as yet, but has to be done under Tier 3 (this will likely change).