Adjusting Grant Liability for Payables
When accepting a grant, you initially incur a liability, because the grant must be spent in future, or paid back. This means that your financial statements at the end of the year will show a dollar amount for such grant money that has not yet been expended.
Organisations also have to report accounts payable and, if you do accrual accounting, accrued staff annual leave. Chances are that some, or all, of these amounts will be paid from grants. If the grant liability is not adjusted for such items, the organisation will appear to have more liability than they really do. In accrual accounting this will also reduce the surplus, or increase the deficit.
Without an adjustment, it works like this: if you use grant money to pay for an item that is sitting in Accounts Payable, two things will happen: Your accounts payable liability will reduce, and your grant liability will also reduce by the same amount. This would mean that for one dollar paid, you would get a reduction of two dollars of liability, something that should not be possible.
This also applies to the annual leave liability. If a staff member on leave is usually paid out of a grant, we have the same problem of reducing two dollars of liability with one dollar of payment, but the complication is that we do not exactly know when this will occur, and it may even be paid out of a grant that the organisation does not yet have. For this, we generally determine the percentage of staff wages that is usually paid from grants, and adjust for that percentage.
For many organisations, the effect of this on the Financial Position is not big enough to worry about it too much, especially as the effect does not accumulate through the years. But for many highly grant dependent groups, this can make the organisation appear as though they are in debt (more liabilities than assets), when they aren’t.
This is one of those nerdy accounting issues, where traditional accounting doesn’t work for not-for-profits, and which a lot of accountants get wrong for this reason.