Nonprofit Accounting: A Complete Guide to Accounting for Nonprofits

What is nonprofit accounting?

Nonprofit accounting is a system of financial management, recordkeeping and reporting designed for nonprofit organizations. Unlike for-profit businesses, nonprofits operate to fulfill a mission rather than generate profits for owners or shareholders. They may also qualify for federal income tax exemption under Section 501(c)(3) or another provision of the Internal Revenue Code. However, forming a nonprofit under state law doesn’t automatically make an organization tax-exempt.

Nonprofits that prepare financial statements under generally accepted accounting principles (GAAP) follow nonprofit-specific standards established by the Financial Accounting Standards Board (FASB), including Topic 958, Not-for-Profit Entities.

One important difference in nonprofit accounting is how organizations classify their net assets. Under FASB’s financial reporting standards, nongovernmental nonprofits that follow GAAP use two categories:

• Net assets without donor restrictions: Resources that aren’t subject to donor-imposed restrictions. However, some funds may be set aside by the board for reserves or other purposes, so this doesn’t necessarily mean the money is available to spend immediately.
• Net assets with donor restrictions: Resources that donors have restricted to a specific purpose or time period. This category also includes certain endowment gifts that must be maintained in perpetuity. How much can be spent from an endowment depends on the donor’s instructions and applicable law.

Here are a few other key terms and concepts you’ll encounter in nonprofit accounting:

• Programs: The services and activities a nonprofit provides to fulfill its mission. Organizations track program expenses and may also track revenue associated with individual programs.
• Donor restrictions: Limits donors place on how or when their contributions can be used. For example, a donor might specify that a gift can only support a particular program. Contributions without donor restrictions can generally support programs, administrative expenses or other organizational needs.
• Fundraising: Activities that solicit donations and other contributions, such as direct mail campaigns, email newsletters and fundraising events.
• Administration (management and general): Activities needed to manage and operate the nonprofit, including governance, accounting and general office support. Shared expenses should be allocated using a reasonable, documented method. For example, an employee’s salary may be divided among programs, administration and fundraising based on the work they perform.

Nonprofits following GAAP must also report expenses by both function (such as programs and fundraising) and type, also called natural classification (such as salaries and rent). Expense allocations should reflect how resources are actually used, not be adjusted to make administrative costs appear smaller. While donors may pay attention to overhead costs, which generally include administration and fundraising expenses, low overhead doesn’t necessarily mean a nonprofit is more effective. Spending on staff, technology and other operational needs is often essential to delivering quality programs.

Nonprofit accounting vs. nonprofit bookkeeping

Nonprofits rely on good bookkeeping and accounting to manage their finances and stay compliant. The terms are often used interchangeably, but there’s a difference between the two.

• Nonprofit bookkeeping: Bookkeeping involves recording day-to-day transactions, including donations, grants, expenses and payroll, along with any donor restrictions on gifts. These records help nonprofits keep track of the money coming in and going out.
• Nonprofit accounting: Accounting uses those records to assess the organization’s financial health, prepare reports and make financial decisions. Accountants prepare financial statements, including the statement of financial position (similar to a balance sheet), statement of activities (similar to an income statement), statement of cash flows and, often, a statement of functional expenses, which breaks down costs by function and type. They also help ensure financial reporting follows applicable nonprofit accounting standards.

What’s the difference between nonprofit and for-profit accounting? 

Nonprofit and traditional business accounting follow many of the same principles, but there are some important differences in how organizations handle revenue, expenses and financial reporting. Nonprofits must account for donations, grants and donor restrictions, while for-profit businesses typically focus on sales, expenses and profitability. Here’s how they compare:

One of the biggest practical differences is how nonprofits handle money designated for a particular purpose. For example, if a donor gives $10,000 to fund a scholarship program, the nonprofit must track that restriction and account for the money accordingly. A business receiving $10,000 in ordinary sales revenue generally doesn’t face the same donor-imposed restrictions.

How nonprofit accounting works: Key records and compliance requirements

Nonprofits must maintain detailed financial records and meet strict reporting requirements at both the federal and state levels. Together, these responsibilities ensure transparency, support decision-making and help organizations stay compliant.

Here’s a closer look at the key records nonprofits must maintain and the compliance requirements they need to meet.

Financial records and documents

Nonprofit accounting relies on accurate, well-organized records that show how funds are received, managed and spent. These documents support financial reporting, demonstrate accountability to donors and help ensure compliance with regulatory requirements. Key records include the following:

Financial statements:

• Statement of financial position (balance sheet)
• Statement of activities (revenue and expenses)
• Statement of cash flows
• Analysis of expenses by type and function, such as salaries and rent across programs, management and general activities, and fundraising. Under GAAP, this can appear in a separate statement, in the notes or within the statement of activities.

Supporting financial documentation:

• General ledger and chart of accounts
• Bank statements and bank account reconciliations
• Donation records, including pledges and any donor restrictions
• Donor acknowledgment letters
• Grant agreements and financial reports
• Records supporting financial transactions and audit trails
• Employment records and payroll documentation

Organizational and compliance records:

• Bylaws and articles of incorporation
• IRS determination letter confirming tax-exempt status, if applicable
• Annual IRS Form 990-series filings, as applicable
• State registration certificates and annual filing confirmations, as required
• Approved annual budgets
• Board meeting minutes and resolutions
• Contracts with vendors, consultants and service providers
• Insurance policies and coverage documentation

Federal tax requirements for nonprofits

Nonprofits must also comply with federal tax regulations that govern how they report financial activity and maintain their tax-exempt status.

IRS Form 990 filing requirements and deadlines

Form 990 gives the IRS and the public a detailed look at a nonprofit’s finances, activities and operations. Most tax-exempt organizations must file an annual return or notice, although the required form depends on the organization’s size and type. Churches and certain other organizations are generally exempt from annual filing requirements.

The IRS filing thresholds generally work as follows:

• Form 990-N: Organizations with gross receipts normally $50,000 or less may be eligible to file this electronic notice instead of a full return.
• Form 990-EZ or Form 990: Organizations with gross receipts below $200,000 and total assets below $500,000 may generally file either return.
• Form 990: Organizations with gross receipts of $200,000 or more, or total assets of $500,000 or more, generally must file this return.
• Form 990-PF: Private foundations generally file this return regardless of their financial size.

These are general thresholds, and exceptions apply depending on the organization.

What Form 990 reports

Form 990 provides information about an organization’s finances, management and activities. Depending on the organization and applicable reporting requirements, it may include:

• Revenue, expenses, assets and liabilities
• Governance and management policies
• Executive compensation and information about board members and key employees
• Program services and accomplishments
• Fundraising activities and expenses
• Additional schedules covering specific activities, such as lobbying or political campaign activity

Filing deadlines and extensions

Form 990-series returns and Form 990-N are generally due on the 15th day of the fifth month after the organization’s tax year ends. For nonprofits operating on a calendar year, that’s May 15. If the deadline falls on a weekend or legal holiday, it moves to the next business day.

Organizations filing Form 990, 990-EZ or 990-PF can request an automatic six-month extension by submitting Form 8868 by the original filing deadline. However, Form 990-N filers can’t request an extension, and an extension to file doesn’t extend the deadline for paying any taxes owed.

Unrelated business taxable income (UBTI)

Tax exemption doesn’t cover every source of income. According to the IRS, income from a business activity that is regularly carried on and isn’t substantially related to the nonprofit’s tax-exempt purpose may be taxable. Certain exceptions and exclusions apply. And even if the proceeds support your mission, that alone doesn’t make the activity tax-exempt.

For example, if a nonprofit regularly operates a business unrelated to its mission, the income may be taxable even if all the profits go toward its programs.

Organizations with $1,000 or more in gross income from an unrelated business generally must file Form 990-T in addition to their annual information return, if required. Nonprofits with multiple unrelated businesses generally must calculate taxable income separately for each activity rather than use losses from one to offset income from another. Keep separate records for these activities and consult a nonprofit tax professional if you’re unsure how the income should be classified.

State compliance requirements

In addition to federal obligations, nonprofits must follow state laws governing registration, fundraising and financial reporting. Requirements vary considerably, and an organization may have obligations in more than one state.

According to the National Council of Nonprofits, most states require nonprofits to register before asking residents for donations. You may also have additional registration or reporting obligations in states where your nonprofit holds charitable assets, runs programs or has a business presence. 

There isn’t a single registration threshold or filing deadline that applies nationwide. States have different revenue thresholds, exemptions and rules for online fundraising. You’ll need to check the requirements in each state where your nonprofit operates or raises money, including whether you must register as a charitable solicitor, maintain a corporate registration or apply separately for state tax exemption.

Annual reporting requirements also vary. For example, California’s attorney general generally requires registered charities to renew their registration four months and 15 days after the fiscal year ends. That’s May 15 for organizations using a calendar year, although extensions may apply. New York and Minnesota have their own filing instructions and deadlines.

Some states accept a copy of IRS Form 990 as part of their annual reporting requirements, but additional state forms, fees or filings may still be necessary.

Best practices for accounting for nonprofits

Nonprofit organizations must balance mission-driven work with responsible financial tracking and management. Here are some best practices nonprofits should follow:

1. Establish internal controls.

Good internal controls can help your nonprofit avoid costly accounting mistakes and protect against fraud. Here are a few practices worth putting in place:

• Payment approvals: Require a second approval for checks or electronic payments over a certain amount.
• Separate duties: Whenever possible, have different people handle payments, record transactions and reconcile accounts.
• Bank reconciliations: Reconcile your bank accounts every month and have someone else review the results.
• Major purchases: Set clear rules about who can authorize large purchases and expenses.

2. Follow GAAP principles.

GAAP provides a consistent framework for preparing financial statements. Not every nonprofit is required to prepare GAAP financial statements, but grant agreements, lenders or state laws may require them.

If your nonprofit follows GAAP, pay particular attention to these areas:

• Classifying net assets: Keep track of donations and grants with donor restrictions, including when those restrictions have been satisfied. This helps ensure you’re reporting net assets with and without donor restrictions correctly.
• Reporting expenses by type and function: Track both what you’re spending money on, such as salaries and supplies, and where those expenses belong, such as programs, administration or fundraising. Use a reasonable, documented method to allocate shared costs.
• Disclosing liquidity: Identify which financial assets are available to cover general expenses over the next year and explain how your nonprofit manages its cash and other financial resources.
• Recognizing contributions: Record unconditional promises to give when they’re made, even if the money hasn’t arrived yet. Conditional contributions generally aren’t recognized as revenue until the conditions are met. A condition is a hurdle the nonprofit must clear to receive the money, such as raising matching funds, while a restriction limits how or when the money can be used. Review grant agreements carefully to determine how contributions should be recorded under FASB’s contribution guidance.

3. Use high-quality accounting software.

No matter who manages your books, choosing the right accounting software can make it much easier to track your nonprofit’s finances and prepare financial reports. Look for features such as fund and grant tracking, reporting by program, approval controls and integration with your donor management system. Just remember that even the best software needs to be set up correctly and backed by sound accounting practices.

Several accounting platforms are designed specifically for nonprofits, including:

• Aplos: Aplos combines fund accounting with donation management and nonprofit financial reporting. It’s worth considering if you want to manage donations and accounting in one system, particularly for a smaller nonprofit or church.
• Financial Edge NXT: Blackbaud Financial Edge NXT offers fund accounting, budgeting, accounts payable and financial reporting. It also connects with Blackbaud’s fundraising products, making it an option for nonprofits that want their finance and fundraising teams working with connected information.
• Sage Intacct: Sage Intacct offers more extensive financial management capabilities, including fund and grant accounting, budgeting, automated allocations and financial reporting. It may be a good fit for nonprofits managing multiple grants, programs or funding sources.

You can also use one of the more traditional best accounting software platforms to manage nonprofit finances. Some options include:

• QuickBooks Online: QuickBooks Online can be configured for nonprofit bookkeeping, although it isn’t a dedicated nonprofit accounting system. Its class tracking feature, available in Plus and Advanced, lets you organize transactions by program or funding source. However, organizations with complex donor restrictions may need additional tools or customized reporting. Our QuickBooks Online review explains this platform’s features and limitations.
• Oracle NetSuite: Oracle NetSuite offers financial management tools for nonprofits with more complex accounting needs. Its Social Impact program provides software donations and other assistance to eligible nonprofits, although implementation and additional services may involve costs. See our NetSuite Accounting review for more information.
• FreshBooks: FreshBooks provides invoicing, expense tracking and general accounting tools that may work for smaller nonprofits with relatively simple finances. However, it doesn’t offer the same specialized fund accounting capabilities as nonprofit-focused platforms, so organizations with restricted donations or complex reporting needs should consider those limitations. Read our FreshBooks review to learn more.

Before making a decision, compare the software’s nonprofit-specific features, plan restrictions, integration options and total costs, including any implementation or training expenses.

4. Keep lines of communication open.

No matter which software you use, communication is an important part of managing your nonprofit’s finances. Tiffany Couch, a CPA and CEO of forensic accounting firm Acuity Forensics, recommends keeping staff and board members informed about the organization’s financial health and any issues the accounting team uncovers.

“Make sure you have a CPA who will walk you through your numbers — ensuring that you understand the profit-and-loss statement, the balance sheet and your cash flow statement,” Couch advised. “The more knowledgeable you become, the more empowered you are to make financial decisions that support your organization.”

Couch emphasized that regular communication between accountants and decision-makers helps nonprofits make informed choices and plan for the future. “If you don’t have a CPA assisting you in this process, find one who will.”

Common nonprofit accounting scenarios

Here are a few examples of how nonprofits handle different types of contributions:

• Donor-restricted gifts: A donor gives your nonprofit $25,000 specifically for youth programming, with no additional conditions. Under GAAP, you would record the contribution as revenue with donor restrictions. As you spend the money on qualifying program expenses, you release the corresponding amount from net assets with donor restrictions to net assets without donor restrictions. The program expenses are recorded separately.
• In-kind donations: Say a local business donates $5,000 worth of office supplies to your nonprofit. You would generally record the gift as contribution revenue, along with an asset if you’re saving the supplies for later or an expense if you’re using them right away. You’ll also need to document how you determined their fair value. Under GAAP, donated nonfinancial assets must appear separately from cash contributions on your statement of activities. And when you send the donor an acknowledgment, describe the supplies rather than putting a tax-deduction value on them.
• Volunteer time: Just because someone volunteers their time doesn’t mean you can count it as contribution revenue. Under GAAP, you generally recognize donated services if they create or improve a nonfinancial asset. You can also recognize services that require specialized skills, are performed by someone with those skills and would otherwise need to be purchased. You can still track other volunteer hours for your own records, even though they don’t count as revenue.

Keep in mind that GAAP and IRS reporting rules aren’t always the same. For example, even if you recognize donated services or the free use of facilities in your financial statements, the IRS Form 990 instructions say not to include their value as revenue or expenses in Parts VIII and IX. You can still describe these contributions in the section about your nonprofit’s programs. Your accountant can help make sure they’re reported correctly.

Do nonprofits need accountants?

Nonprofits need reliable financial oversight, but not every organization can afford a full-time accountant or dedicated accounting and finance team. As a result, bookkeeping and other financial responsibilities sometimes fall to staff members or volunteers who don’t have accounting experience. That can lead to costly mistakes, according to Couch.

These mistakes aren’t necessarily intentional. Someone unfamiliar with nonprofit accounting may overlook donor restrictions, misclassify expenses or miss important filing deadlines. And when a volunteer or staff member leaves, the organization may struggle to pick up where they left off if records and procedures aren’t well documented. Even if you can’t hire an accountant full-time, it’s worth getting professional guidance when you need it.

“Don’t have a mindset of scarcity when it comes to ensuring you have appropriate resources in terms of handling your money,” Couch advised. “There are plenty of CPAs who would be willing to provide a discount or pro bono services.”

The role of accountability in nonprofit accounting

At its core, nonprofit accounting comes down to accountability. Nonprofits answer to a broad mix of stakeholders, all with their own expectations. That group usually includes:

• Donors and foundations that fund programs and operations
• Beneficiaries who receive services
• Board members who oversee the organization
• Government agencies that oversee tax-exempt status and compliance
• Members of the public who support the organization’s mission
• Volunteers who contribute their time and expertise

That’s why getting your accounting right matters. Clear financial records show how funds are used, help maintain donors’ trust and give supporters confidence that their contributions are making a difference.

Mike Berner contributed to this article. Source interviews were conducted for a previous version of this article.