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A Short Course in Not-for-Profit Accounting - Installment 4

0 Ron Bauers
money2 Editor's Abstract

In his 4th installment, Ron Bauers gives a brief history of accounting standards and introduces FASB, the Financial Accounting Standards Board. He then presents the ten elements of financial accounting.

Ann Drinan

What Are The Elements of Accounting?

History of Accounting Standards

Historically, several organizations have been established to develop generally-accepted accounting principles (GAAP). In 1939 at the request of the Securities and Exchange Commission (SEC), the American Institute of Certified Public Accountants (AICPA) created the Committee on Accounting Procedure (CAP), which was composed of practicing CPAs. This body developed standards through a problem-by-problem methodology and without any conceptual framework. In 1959 CAP was replaced by the Accounting Principles Board (APB), which was composed not only of CPAs but also representatives from the private sector and academia. The APB attempted to establish a conceptual framework to promote a structured standards approach. However APB failed as a result of low productivity, controversial accounting issues, and the failure to correct ongoing accounting scandals. In 1971 the Wheat Committee was commissioned to fix the APB, but instead recommended a new body that became the Financial Accounting Standards Board (FASB) in 1973.

Financial Accounting Standards Board (FASB)

Specifically, FASB is the third part of the Financial Accounting Foundation, which has as its mission to establish and improve financial accounting standards and reporting, and to guide and educate the public, users, issuers and auditors. All interested parties are required to provide a due process for the establishment of GAAP, and must respect all perspectives and viewpoints of the other interested parties.

There are several important differences between the APB and FASB to help achieve its objectives. FASB has a smaller but full-time compensated membership, and greater autonomy from other organizations. FASB members must sever all relationships with previous employers, and membership in FASB is not dependent upon being a CPA but may include anyone.

An important part of the work of FASB is to create a framework for developing accounting standards – this is established through the Statements of Financial Accounting Concepts. In a previous installment I discussed the SFAC No. 4 on Objectives of Financial Reporting by Nonbusiness Organizations. In this installment I discuss SFAC No. 6 Elements of Financial Statements (1985), which replaces SFAC No. 3 to include not-for-profit-organizations.

Elements of Financial Accounting

The elements of financial statements are defined to establish a strong theoretical structure that maintains consistency throughout the development of GAAP. There are ten basic but interrelated elements of financial accounting that are defined in SFAC No. 6. Key terms are highlighted in bold italics.

  1. Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.
  2. Liabilities are probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions.
  3. Equity is the residual interest in the assets of an entity that remains after deducting its liabilities. In a business enterprise, the equity is the ownership interest. In a not-for-profit it is defined as net assets. There are no owners in a not-for-profit.
  4. Comprehensive income is the change in net assets of an entity during a period from transactions and other events and circumstances from non-owner sources. It includes all changes in net assets during a period except those resulting from investments by owners and distributions to owners.
  5. Revenues are the inflows or other enhancements of assets of an entity or settlements of its liabilities (or a combination of both) during a period from delivering or producing goods, rendering services, or other activities that constitute the entity’s ongoing major or central operations.
  6. Expenses are the outflows or other using up of assets or incurrence of liabilities (or a combination of both) during a period from delivering or producing goods, rendering services, or other activities that constitute the entity’s major or central operations.
  7. Gains are increases in net assets from peripheral or incidental transactions of an entity and from all other transactions and other events and circumstances affecting the entity during a period except those that result from revenues or investments by owners.
  8. Losses are decreases in net assets from peripheral or incidental transactions of an entity and from all other transactions and other events and circumstances affecting the entity during a period except those that result from expense or distributions to owners.
  9. Investments by owners are increases in net assets of a particular entity resulting from transfers to it from other entities of something of value to obtain or increase ownership interests in it. Assets are most commonly received as investments by owners, but that which is received may also include services or satisfaction or conversion of liabilities of the enterprise. (Does not apply to not-for-profits.)
  10. Distributions to owners decrease net assets of a particular entity resulting from transferring assets, rendering services, or incurring liabilities by the enterprise to owners. Distributions to owners decrease ownership interests in an enterprise. (Does not apply to not-for-profits.)

The first three elements – assets, liabilities, and equity – describe resources and claims on resources for a moment in time. The remaining seven elements describe transactions, events, and circumstances that affect an entity during a period of time. The first three elements are changed cumulatively by the remaining seven elements through the interaction called “articulation.”

Until the next installment, here are three things that you can do for yourself:

  1. On any set of financial statements, business or not-for-profit, locate the elements described in this installment.
  2. Determine if specific elements are located in or on specific parts of the financial statements.
  3. Discover where these elements articulate. (This may be more difficult.)

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