Categories of Funds

An organization that receives many restricted contributions, each having a different kind of restriction, is faced with the practical problem of having to keep track of and report on many separate funds. While it is possible to keep separate records on any number of restricted funds, these funds are usually grouped by the type of donor restriction. For example, in a college building fund drive, one donor may specify that a gift is to be used for a new chemistry building; another may specify a dormitory. Both represent restricted contributions to a category of fund generally referred to as Building Funds.

In the past, a wide variety of names has been given to various categories of funds. However, four categories or groupings of funds have historically been most frequently used by not-for-profit organizations for reporting purposes. The description or title indicates the general type of restriction on the funds. The following are the four groupings most commonly encountered.

Current unrestricted fund. Several titles are given to the fund that includes the general activities of the organization. It may be known as the Unrestricted Fund, Operating Fund, General Fund, Current Fund, Current General Fund, or most commonly, the Current Unrestricted Fund. This fund contains no restricted resources, and the board can use amounts in the fund as it chooses to carry out the purposes for which the organization exists.

All unrestricted contributions, gifts, and other income should be recorded in this fund. Except for transactions involving one of the other categories of funds, all transactions of the organization are included in this fund. If the organization never receives restricted gifts or contributions, this fund would show all activity.

Board-designated funds. Board-designated funds are a subcategory of unrestricted funds. They are established when the board acts to transfer or segregate part of the unrestricted funds into a fund that the board intends to use for a specific purpose. Remember that the board cannot create legal restrictions, for it can always change its mind later. The board designates certain resources for certain purposes, often as part of the budgeting process. Occasionally, the board may wish to formally (although not legally) segregate the resources it wishes to utilize for a specific purpose, especially when that purpose may extend over a long period of time.

Current restricted fund. Various titles are given to the fund that accounts for resources given to an organization to be spent as part of the normal activities, but only for certain specified purposes. It may be known as the Current Restricted Fund, Fund for Specified Purposes, Donor-Restricted Fund, or just plain Restricted Fund. For example, the $15,000 given to the Johnstown PTA for public education on drug abuse would be added to such a fund. In some organizations, such amounts are relatively small and they are often used in the year received or in the following year.

Many restricted gifts are for a particular purpose that the organization normally carries out as a part of its current activities. However, a contribution may be for a purpose that is not normally part of the organization's regular activities, or perhaps it will be some time before the money is needed. Contributions restricted by donors for purposes other than current activities (for example, a contribution to a building fund or an endowment fund) are usually accounted for in a separate fund category.

Restricted endowment fund. This title is given to the fund that contains resources donated to the organization with the stipulation by the donor that only the income earned by these assets can be used while the original gift is kept intact, either forever (permanent endowment) or for a stated time (term endowment). Generally, the income itself is not restricted and can be used to carry out the organization's ongoing activities, but some endowment gifts also have restrictions on the uses to be made of the income.

If term endowment gifts are received, they must be kept in the endowment fund for a period of time, after which the original amount can be used as desired by the board, unless some other purpose was specified by the donor. Another possibility is a gift, the income from which is paid to the donor until death; the gift then becomes available for other uses.³

Some donors, while not formally placing restrictions, may express a “preference” that the gift be put in the endowment fund. However, if the actual decision is left to the board, such amounts are legally unrestricted and should be added to the current unrestricted fund. (The board may, if it wishes, then transfer such gifts to an unrestricted board-designated fund, as noted earlier.) Legally unrestricted gifts should not be added to a restricted endowment fund. All amounts in a restricted endowment fund should bear legal restrictions that the board cannot normally alter without a cy-près ruling from a court of law.

Fixed asset fund. Several titles may be given to the fund in which the cost of fixed assets (land, buildings, furniture and fixtures, equipment, etc.) is recorded. This fund may be referred to as the Land, Building, and Equipment Fund, Fixed Asset Fund, or Plant Fund. Such a fund will usually also include unexpended restricted building fund contributions.

The principal reason for using this fund is that the board wants to separate these assets from the unrestricted fund (see the earlier discussion on fixed asset reporting). The unrestricted fund will then represent more closely the current activity of the organization, that is, the funds available for current program use (see also the discussion of expendable versus nonexpendable funds, which follows). Fixed assets such as buildings are not really available in the sense that they cannot be readily converted to cash and expended. Therefore, many boards believe that fixed assets should be placed in a separate fund.

The use of a separate fixed asset fund is largely a board decision, and there is no reason why a separate fund must be established. Because a separate fixed asset fund is more likely to create considerable confusion for the reader of the statements, without offering any real advantage, we do not recommend the use of a separate fixed asset fund in external financial statements even though this is presently the predominant practice. (If a separate fixed asset fund is not maintained, unexpended gifts restricted by donors for the acquisition or improvement of fixed assets would be included in the current restricted fund until spent for the intended purpose, at which time the amounts would be transferred to the unrestricted fund.)

Fixed assets are a necessary part of the resources that are available to the board for achieving the purposes for which the organization was formed; creating a separate fixed asset fund may imply to some that fixed assets are somehow not related to the day-to-day operations of the organization.

Segregating fixed assets into a separate fund also causes considerable bookkeeping problems. This is particularly true if the organization records depreciation on its fixed assets in the current unrestricted fund. Charging depreciation in the current unrestricted fund and then transferring this depreciation to the fixed asset fund is very confusing to most readers.

Other types of funds. Other specialized fund groupings may be encountered reflecting either donor restrictions or board decisions regarding the use of unrestricted resources. For example, colleges and universities often have Loan or Scholarship Funds, Custodian or Agency Funds, Annuity and Life Income Funds, and Retirement of Indebtedness Funds. Usually the title is descriptive of the nature of these resources or their intended use.

Occasionally a donor will give such a large sum of money, often for endowment purposes, that the board will want to create (or the donor asks the board to create) a separate fund bearing the name of the donor (or some other name specified by the donor), rather than merely burying this separate fund in the financial statements with all other similar funds. Examples would be the Howard Geckler Scholarship Fund or the Agnes Christiansen Memorial Fund. The principal reason for this separate reporting is to be able to track and give the donor public recognition for a substantial gift.

Alternative Fund Groupings

Expendable and nonexpendable. In some cases, statement users may find it useful to see funds classified based on their availability for current expenditure to further the organization's objectives:

The theory behind this approach is that the board has basically only two kinds of funds—those that are currently expendable for the organization's program, and those that are not. The nonexpendable funds are more in the nature of “capital-type” funds.

Managed fund groups. Some organizations prefer to group their funds according to the use made of the resources. These organizations typically have three groups:

1. Operating funds (including current unrestricted and current restricted funds);
2. Plant funds (as described earlier);
3. Endowment funds (which, in this format only, may include board-designated endowment funds).

If this format is used, all fund balances must be clearly labelled as to the extent they are unrestricted or donor-restricted.

A Typical Set of “Fund” Financial Statements

Exhibit 1 shows the simplified statements of a not-for-profit organization having the traditional four separate funds—a current unrestricted fund, a current restricted fund, a fixed asset fund, and an endowment fund. This presentation is typical of a small organization using fund accounting. The format makes separate accountability of each fund quite evident. It also shows the main problem associated with fund accounting—the difficulty in getting an overall picture of the organization's affairs without a careful review of all the statements.

The principal advantage of fund accounting is that the activities of each fund are reported separately. Accountability is quite evident since the reader can see exactly what has taken place. This is the stewardship aspect.

The principal disadvantage of fund accounting is that it is difficult to comprehend the total activities of the organization without a careful review of all the statements and perhaps a little bit of pencil pushing. For example, what was the total excess of income over expenses for all funds? To answer this question it is necessary to add three figures. Be careful to pick out the right figures ($33,000 + $1,000 + $71,000 = $105,000).

The statement presentation in Exhibit 1 is quite a simple form. Some organizations incorrectly record unrestricted investment income in the endowment fund and then transfer this income to the current unrestricted fund below the caption “Excess of income over expenses.” In this exhibit, $20,000 would have been shown in the endowment fund and would then have been shown in the current unrestricted fund as a transfer. This would have been incorrect. Unrestricted endowment income is, by definition, unrestricted, and all such income should be reported directly in the current unrestricted fund. If this income had been handled incorrectly as a transfer, the excess of income in the current unrestricted fund would appear to have been an excess of only $13,000, because the transfer-in of the $20,000 would have appeared after the excess-of-income caption. Few readers would realize from this incorrect presentation that the current unrestricted fund actually had an excess of income of $33,000.

One way to simplify fund accounting statements is to show all funds on a single statement in columnar format. In this format, each fund is shown in a separate column side-by-side.

Interfund borrowing. As was previously noted, one of the problems with having a number of separate funds is that there is sometimes difficulty in keeping all the transactions completely separate. For example, in the McLean Community Service Center illustration, the current unrestricted fund often runs out of cash over the summer months and the board authorizes a cash loan from the other funds. In theory one can easily keep track of these borrowings, but it does create one more area where the reader who is not careful or knowledgeable can become confused. Exhibit 2 shows the balance sheet for the four funds used by the McLean Community Service Center. Notice the number of interfund transactions.

Note that the current unrestricted fund has borrowed $31,000, that is, $3,000 from the current restricted fund, $5,000 from the fixed asset fund, and $23,000 from the endowment fund. While this is perfectly clear to the person knowledgeable about fund accounting, or to the careful reader, some readers are neither knowledgeable nor careful.

Two words of caution with respect to interfund borrowings are as follows:

1. A fund should not borrow from another fund unless it is clear that the borrowing fund will, within a reasonable time, have the financial resources to repay. It is not appropriate financial management to finance a deficit operation on an ongoing basis through interfund borrowing.
2. Before resources are borrowed from legally restricted funds, advice should be sought from legal counsel as to whether such borrowings are permissible. It would appear entirely inappropriate for an organization to raise funds for a building addition (as in the Bethesda Methodist Church example above) and then “lend” such amounts to help finance general operations of the organization.

The statements presented above were fairly simple statements. There were only four funds, and the restricted funds were carefully combined to eliminate unnecessary detail. Some organizations, however, attempt to break out the restricted funds into a number of separate funds—one for each major donor. As the number of funds increases, there will be more transfers between funds and the complexity will increase. Fund accounting and reporting can become very difficult, not so much because the concepts are difficult, but because of the confusion created by so many funds. It is not enough merely to report the activities of the organization; it is equally important that the statements be effective in communicating what has actually happened. If this is not accomplished, the statements have not served their purpose and the treasurer has failed in a most important responsibility.

Elimination of Funds for Reporting Purposes

More and more not-for-profit organizations are reevaluating the need to report their financial affairs on a “fund accounting” basis, even for internal purposes. Instead they are presenting a consolidated Statement of Activities showing all activity for the year, and a consolidated Statement of Position carefully disclosing in line captions or in footnotes all pertinent information on the restricted funds. This approach gives appropriate recognition that a not-for-profit organization is a single entity and not a series of separate entities called “funds.” GAAP specifically requires the reporting of certain financial information by net asset classifications rather than funds.

This does not mean the organization will not keep detailed internal bookkeeping records on a fund accounting basis. It will still have to do so, or it will lose track of whether it is complying with donor-imposed restrictions. Rather, it means that for reporting purposes the organization will carefully combine all the activity for the year in a meaningful manner. This is not always easy to do but, if carefully done, adds greatly to the reader's understanding of the organization's overall financial picture.

If an organization wishes, it is still possible to present a reasonably concise balance sheet showing the traditional funds, while making all the disclosures required by GAAP. An example of such a balance sheet follows in Exhibit 3.

While it is theoretically possible to also present the statement of activities in this same format, the authors do not recommend this for most organizations, as the resulting statement would be quite complex and difficult to understand.