Nonprofit Financial Statements: A Key Aspect of Transparency

Financial transparency is not just a regulatory requirement for nonprofit organizations—it’s a cornerstone of trust and efficiency. Effective financial management helps nonprofits demonstrate their commitment to their mission and builds confidence among donors, grantmakers, and other stakeholders. The best way to do this is through accurate nonprofit financial statements.

This comprehensive guide explores the essential nonprofit financial statements required by the IRS, provides practical templates and examples, and shows how DoJiggy’s tools can streamline your financial management processes. Let’s begin!

How Do Nonprofits Differ from Businesses?

Both nonprofit organizations and for-profit businesses play crucial roles in the economy but operate under fundamentally different principles and regulations. Understanding these differences is essential for anyone involved in either type of organization’s financial and accounting practices.

Differences in Tax Requirements and Obligations

Under IRS section 501(c)(3), nonprofits are typically exempt from federal income taxes, provided they engage in activities that benefit the public. In contrast, for-profit businesses are subject to federal, state, and local taxes. To maintain their preferred tax status, nonprofits must ensure that their operations align strictly with their tax-exempt purposes.

Differences in Governance Structures

Nonprofit organizations must operate under a board of directors or trustees, who oversee the organization’s activities and ensure they align with its mission. These boards are usually composed of volunteers who are not compensated for their governance roles and have fundraising responsibilities. 

For-profit businesses, however, are often owned and operated by their shareholders or private owners who seek to maximize profits, and their boards often include paid members who have a direct stake in the company’s profitability.

Stakeholder Expectations

Nonprofit stakeholders primarily consist of donors, volunteers, and the communities they serve. All of whom expect the organization to fulfill its mission effectively and responsibly. 

In for-profit businesses, stakeholders are primarily owners and shareholders who expect a financial return on their investments.

Real-World Examples: Investment Decisions

• A nonprofit might decide to invest in a new community program that offers extensive social benefits but does not generate profit. 
• A for-profit business might choose to invest in a new product line that promises high returns, even if it does not contribute to social welfare.

Revenue and Profits

• Nonprofits typically reinvest any surplus revenues into their programs and services to further their charitable mission. 
• For-profit businesses distribute profits among shareholders as dividends or reinvest them to drive future growth and profits.

Comparison of Performance Metrics

• A nonprofit’s success is measured by how effectively it achieves its mission and impacts its chosen cause. This might include metrics like the number of people helped or the extent of issue awareness raised. 
• A for-profit business measures success in terms of profitability, growth, and market share.

These distinctions highlight the unique challenges and responsibilities nonprofit organizations face compared to their for-profit business counterparts. Understanding these differences helps properly manage and guide nonprofits toward achieving their missions while maintaining transparency and accountability to their stakeholders.

Learn the ten steps to establish a 501c3 nonprofit organization.

Understanding Nonprofit Financial Statements

As we have discussed, nonprofits fundamentally differ from for-profit businesses in that they aim to serve the public good rather than generate profit for owners or shareholders. This difference requires a unique approach to financial reporting that provides a clear picture of how funds are allocated and used within the organization. To this end, there are four financial statements and one IRS form nonprofits must file annually. 

What is the Nonprofit’s Board of Directors’ Role in Financial Management?

The board oversees the organization’s financial practices, ensures ethical management, and maintains fiscal responsibility. Depending on the nonprofit’s size, paid staff or volunteers may compile the nonprofit reports, but the Board is responsible for their accuracy.

The Four Required Financial Statements for Nonprofits

Nonprofits must file four financial statements annually to remain in compliance with the IRS and maintain their charitable status. But beyond that requirement, nonprofits must show financial transparency to their donors. Regular, detailed financial disclosures, easy access to financial reports, voluntary audits, and adherence to recognized accounting standards can build donor trust.

Required nonprofit financial statements include the following:

1. Statement of Financial Position – Balance sheet
2. Statement of Activities – Income statement
3. Statement of Cash Flow
4. Statement of Functional Expenses

1. The Statement of Financial Position (AKA The Balance Sheet)

The Statement of Financial Position provides a snapshot of the organization’s financial status at a particular point in time, detailing assets, liabilities, and net assets. This statement is also used in business and is more commonly known as the Balance Sheet.

Something to keep in mind about each of the balance sheet categories:

• Assets are what your organization owns. Assets should be categorized into current and non-current, helping stakeholders understand what resources are readily available versus what is invested long-term.
• Liabilities are what your organization owes to vendors, employees, or others. This offers insights into short-term obligations and longer-term debts.
• Net Assets are the difference between your assets and your liabilities. Net assets are divided into restricted and non-restricted categories (meaning with or without donor restrictions), clarifying how much of the organization’s funding is flexible or bound by donor stipulations.

2. The Statement of Activities (AKA the Profit and Loss Statement)

This financial statement summarizes the organization’s revenue and expenses over a fiscal period, providing insight into operational effectiveness. This statement is called the P&L or profit and loss statement in business.

Something to keep in mind about each of the P&L categories:

• Revenue categories include donations, special event and program revenues, grant monies, and investment income. Understanding and diversifying your revenue streams becomes more clear with this income breakdown.
• Expenses are broken down by program, administrative, and fundraising costs, highlighting resource allocation.

3. Statement of Cash Flows

This financial statement tracks the flow of cash in and out of the organization, which is crucial for assessing liquidity and financial stability. It tracks three types of cash flows: cash from operations, cash from investments, and cash from financing.

Something to keep in mind about each of these categories:

• Operating Activities include all cash received and spent on the core activities of the nonprofit.
• Investing Activities reflect purchases and sales of long-term assets, providing insights into the organization’s investment strategies.
• Financing Activities show cash flows related to borrowing and repaying debts, as well as receiving funding from donors.

4. Statement of Functional Expenses

This required statement provides a detailed look at how expenses are divided among program services, administrative costs, and fundraising efforts. The statement of functional expenses is unique to nonprofits and ensures that expenses align with the organization’s mission and industry norms.

Something to keep in mind about each of these categories:

• Program Services expenses are those that directly contribute to the nonprofit’s mission.
• Administrative Costs include general management and office expenses.
• Fundraising Expenses cover the costs associated with raising funds via events and campaigns.

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IRS Form 990 for Nonprofits

Another form that must be filed annually is the IRS Form 990, which is actually a tax compliance form rather than a financial statement. The 990 provides the IRS with an overview of an organization’s activities, governance, and detailed financial information. Nonprofits that fail to file Form 990 for three consecutive years will automatically lose their tax-exempt status.

Form 990 serves multiple purposes:

• Transparency:  An exempt organization must make available for public inspection its annual Form 990. This allows the public to evaluate how the organization manages its funds and fulfills its charitable mission.
• Accountability: Helps the IRS ensure that organizations adhere to the conditions of their tax-exempt status.
• Compliance: Acts as an enforcement tool for the IRS to check financial discrepancies and adherence to nonprofit regulations.

The form varies in complexity depending on the size and scope of the organization, with smaller nonprofits eligible to file simpler versions, like Form 990-EZ or Form 990-N (for organizations with gross receipts less than $50,000). 

When Are These Reports Due Each Year?

Nonprofit organizations must file their financial statements annually to maintain compliance with IRS regulations. These statements should be submitted alongside the organization’s Form 990. 

The deadline for submitting Form 990 is the 15th day of the fifth month following the end of the organization’s fiscal year. For instance, if a nonprofit’s fiscal year ends on December 31, Form 990 is due by May 15 of the following year.

Master Nonprofit Financial Statements

Mastering these four critical financial statements is essential for any nonprofit committed to maintaining accountability and transparency. 

With DoJiggy’s comprehensive suite of templates and tools, your organization can achieve not only compliance but also a deeper understanding of your financial health, enabling better decision-making and increased trust among stakeholders.

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Frequently Asked Questions About Nonprofit Financial Statements

What are the key financial statements for a nonprofit?

Nonprofits must prepare and submit to the IRS the Statement of Financial Position, Statement of Activities, Statement of Cash Flows, and Statement of Functional Expenses each year to track and report their financial health.

How frequently should financial statements be prepared?

Nonprofits should prepare financial statements annually for IRS compliance and ideally quarterly or monthly for internal management.

Why is the Statement of Functional Expenses specific to nonprofits?

This statement details how funds are allocated among program services, administrative costs, and fundraising, highlighting the organization’s commitment to its mission. Donors do not like to see organizations spend a large percentage of their budget on fundraising or administrative costs. This report clarifies what percentage of funds are used to support an organization’s mission and beneficiaries. 

What steps can improve nonprofit financial reporting?

Adopting specialized accounting software, regular staff training, and using standardized reporting templates can enhance reporting accuracy.

What challenges do nonprofits face in financial reporting?

Challenges include keeping accurate records, complying with regulatory requirements, managing restricted funds, and often limited financial expertise.

Are there recommended digital tools for nonprofit financial management?

DoJiggy provides tailored solutions for donation management and integrates with accounting software via Zapier. Quickbooks is the most commonly used accounting software for nonprofits and businesses, but many other options are available.

Can volunteers help with financial management?

Yes, skilled volunteers can and often do assist with nonprofit bookkeeping, financial analysis, and reporting. Where possible, professional oversight is recommended for compliance and accuracy.

What is the difference between restricted and unrestricted funds?

Restricted funds are donations with donor-imposed restrictions for specific purposes, whereas unrestricted funds can be used at the organization’s discretion. Grants are often awarded for specific purposes, making them restricted funding.

How can nonprofits ensure compliance with financial regulations?

Regular internal audits, staying updated on nonprofit accounting standards, and consulting with financial experts can help ensure regulatory compliance.

Learn More about Nonprofit Financials with DoJiggy

Explore the following resources from our blog to enhance your understanding of nonprofit financial management and related topics. Here are some useful blogs to provide you with deeper insights and innovative ideas to help your nonprofit thrive in today’s challenging environment.

• 6 Strategies for Stewarding Your Major Donors – Explore effective techniques for nurturing relationships with major donors, an essential aspect of nonprofit fundraising.
• 3 Necessary Qualities to Look for in a Nonprofit Accountant – If you’ve determined you need a nonprofit accountant, it’s time to analyze your choices. We’ll help you get started here.
• How to Launch a Membership Program for Your Nonprofit – Discover the benefits of establishing a membership program, including ideas for membership benefits and strategies for successful implementation.