presents Non-Profit Endowments and FAS 117-1 Compliance ChallengesCompliance Challengesmedia.straffordpub.com/products/non-profit-endowments... · 2010. 9. 10. · Non-Profit Endowments

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Non-Profit Endowments and FAS 117-1 Compliance Challenges

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Compliance ChallengesMaking Tough Decisions on Asset Classification and Disclosures

A Live 110-Minute Teleconference/Webinar with Interactive Q&A

Today's panel features:Barry Hawkins, Partner, Shipman & Goodwin, Stamford, Conn.

Kim McCormick, Audit Partner, Not-For-Profit Industry Group, Grant Thornton, San Jose, Calif.Harold Parsons Principal LarsonAllen Minneapolis

Q&

Harold Parsons, Principal, LarsonAllen, MinneapolisBrian Zygmunt, Senior Manager, Crowe Horwath, Chicago

Thursday, September 16, 2010

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Non-Profit Endowments And FAS 117-1 Compliance

Challengesg

Sept. 16, 2010Sept. 16, 2010

Barry Hawkins, Shipman & Goodwin Kim McCormick, Grant Thornton [email protected]

Harold Parsons, LarsonAllen

[email protected]

Brian Zygmunt, Crowe Horwath,[email protected] [email protected]

Today’s Program

• Key Aspects Of UPMIFA Slides 6 through 21 (Barry Hawkins)

• FAS 117-1 Review Slides 22 through 28FAS 117 1 Review Slides 22 through 28 (Kim McCormick)

• Post-FAS 117-1: Accounting, Disclosure Issues Slides 29 through 37 (Harold Parsons)(Harold Parsons)

• Post-FAS 117-1: Accounting, Legal Cycles Slides 38 through 50 (Kim McCormick)

• Post-FAS 117-1: Foundation Policy Revisions Slides 51 through 55• Post-FAS 117-1: Foundation Policy Revisions Slides 51 through 55 (Brian Zygmunt)

5

Key Aspects Of UPMIFA y p

Barry Hawkins, Shipman & GoodwinBarry Hawkins, Shipman & Goodwin

Introduction

1. UPMIFA (2006) replaced UMIFA (1972) (which was the law in 48 states) as the primary source of law governing the investment, management and expenditure of donor g g , g pgenerated dollars.

2. Economic impactA $1 4 t illi i 2004 A. $1.4 trillion in 2004

B. 5.2% of GDP in the U.S. C. Employment significance D Types of NPOs and endowment funds D. Types of NPOs and endowment funds

7

Legal Obligations Of An NPO Board 1 Prudently manage and invest the funds to maximize the return 1. Prudently manage and invest the funds to maximize the return

of assets (at least for endowment funds)

2. Spend a portion of “return on investment” for current needs of p pthe NPO and retain the balance in investments to provide for future needs, being mindful of inflation and the long term viability of an endowment fund

3. Abide by the restrictions imposed by the donors on a separate fund-by-fund basis

4. Follow state law (UMIFA/UPMIFA), which supplies standards if not specified by donor

8

Examples Of Endowment RestrictionsExamples Of Endowment Restrictions

1 “This money should be kept intact and the income from it is for 1. This money should be kept intact and the income from it is for Bowdoin College.”

True endowment – No use restriction 2. “This money should be kept intact and the income from it is for y p

the purchase of books for the Bowdoin College Library.”True endowment, combined with use restriction

3. “This money should be kept intact for the period of 10 years, during which the income from it should be used only for theduring which the income from it should be used only for the purchase of books for the Bowdoin College Library, and thereafter the money may be used for the general use of Bowdoin College.”

Endowment for a term of years, and thereafter the money h ti t i tihas no time or use restriction.

Almost any combination is possible in this highly flexible concept of restriction.

9

Common Misconceptions

1. Board-restricted or quasi-endowment“This money is set aside for investment and is to be used for

the construction of a new library after it reaches $10 million ”the construction of a new library after it reaches $10 million.

2. Pooled investments vs. separate use, restrictions

3. Creditor reliance, borrowing capacity and insolvency risk. The types of donor restrictions are highly significant to those who read and rely upon the financial reports of any NPOand rely upon the financial reports of any NPO.

10

UMIFAUMIFA

Allowed pooled or total return analysis of the portfolio Allowed investment in equity and other alternative investments Allowed NPOs to delegate investment authority to professional

managersg Allowed NPOs to adopt spending plans that recognized and spent

both realized and unrealized appreciation Required spending plan to be prudent but required maintenance of Required spending plan to be prudent but required maintenance of

historic dollar value as a legal requirement

11

Creation Process For UPMIFA

1. 2001 study committee – Uniform Law Commission 2. The prior adoption of Uniform Prudent Investor Act in 46 states

clearly indicated need to extend modern trust standards to NPOs yorganized as corporations.

3. Drafting committee 2002-2006 A. Timing

B P B. Process 4. Since July 2006, UPMIFA has been adopted in 49

jurisdictions, a near-record pace, with three more adoptions in process and expected in the next year, leaving only Pennsylvania p p y , g y ywithout UPMIFA and following its own statute, which even pre-dated UMIFA.

12

The New Law:The New Law:What Does UPMIFA Do?

1 Pr dence is adopted as the artic lated standard for in estment 1. Prudence is adopted as the articulated standard for investment management and expenditure. UPIA standards for the trust world are extended to charitable corporations.

2. Elimination of HDV and substitution of multi-faceted prudence standards become the linchpin of legal authorization for endowment expenditures. A prudent spending policy must be adopted by each NPO.

3. Greatly improved standards for modifying or eliminating restrictions imposed by donors, which have become outmoded, wasteful or impracticable

13

Elimination Of HDV As A “BrightElimination Of HDV As A Bright Line” Restriction

Boards may now adopt spending policies that will go below (invade) Boards may now adopt spending policies that will go below (invade) HDV, if it is prudent to do so.

The standards to be considered:1. Duration and preservation of endowment fund2. Purposes of the institution and the fund3. General economic conditions4. The possible effect of inflation/depletion5. Expected total return from income and appreciation6. Other resources of the institution7 Th i t t li f th i tit ti7. The investment policy of the institution

The key is to maintain long-term viability and short-term flexibility.

14

Other Possibilities WithinOther Possibilities Within Endowed Spending Authorization

1 The bracketed 7% presumption of 1. The bracketed 7% presumption of imprudence in Sect. 4d A. Available if bright line is still desired B. Limited acceptance C. Three-year rolling average determination D. No presumption of prudence below 7% E. See next slide for state enactments

2. The small fund exception in comments A. Under $2 million B. 60 days notification to regulator before spending below HDV level

C ? C. Will they know about the requirement? D. Only Maine and New Hampshire have this requirement. E. Does require some non-profits to track HDV even with UPMIFA

15

Enactment Of 7% Presumption OfEnactment Of 7% Presumption Of Imprudence Option

1 The basic option has been enacted in the U S Virgin Islands and 13 1. The basic option has been enacted in the U.S. Virgin Islands and 13 states: California, Maine, Maryland, Montana, Nevada, New Hampshire, North Dakota, Oregon, Rhode Island, Tennessee, Texas, Utah and Wyoming.

2. New York (passed by General Assembly but not yet signed by the governor) would make the 15th jurisdiction with the 7% option.

3 California version of option does not apply to endowment funds held 3. California version of option does not apply to endowment funds held by foundations supporting higher educational institutions.

4. Texas uses percentages ranging from 5% to 9%, depending upon total asset sizetotal asset size.

5. Ohio has a reversed presumption of prudence for expenditures below 5% of rolling average value.

16

Release Or Modification Of Restrictions

What is new?

Clearer, more articulated language. Under UMIFA, it was unclear that would happen if a court released a restriction because it was impracticable or wasteful. Under UPMIFA, modern cy pres and deviation concepts from trust law are mandated to NPOs.

Sect. 6(d) allows a new departure for small (less than $25,000), old ( ) p ( , ),(more than 20 years) – 60 days prior notice to charitable regulator.

17

UPMIFAUPMIFAAccounting Rules And FSP FAS 117-1

1. Sect. 4A of UPMIFA specifies that unless donor specifically provides to the contrary in the gift instrument, the assets in an endowment fund are donor-restricted assets until they are

i t d f dit b th i tit tiappropriated for expenditure by the institution.

2. Note: This does not require the institution to determine what portion of the endowment is “permanently restricted ” which is anportion of the endowment is permanently restricted, which is an accounting concept, not a legal requirement.

3. Note: Legally, endowment funds are always restricted, either f ti f b th d b t i t d l hfor time, purpose or for both, and become unrestricted only when appropriated for expenditure by the institution.

18

UPMIFAUPMIFAAccounting Rules And FSP FAS 117-1 (Cont.)

4. Reconciliation of FSP FAS 117-1 with Sect. 4a of UPMIFA? (a) They apply different concepts. (b) The law (enactment of UPMIFA by state statute) trumps a

contrary interpretation by FASB.

5. To the extent that FSP FAS 117-1 requires strict adherence to HDV or changing other asset classifications to “restore” HDV level, the two are essentially in conflict and cannot be reconciled.y

19

UPMIFAUPMIFAAccounting Rules And FSP FAS 117-1 (Cont.)

6. What are the options available to a NPO? (a) Contest the FSP FAS 117-1 requirements, by court action,

persuasion or regulatory interpretation (b) Live with FSP FAS 117-1 by acting as though it governs

instead of statutory law, and adopt a spending policy which identifies what portion of endowment the NPO believes it is obligated to retain permanently

(c) Take concerted action to have FASB adopt a new classification scheme for non-profit accounting for endowment funds

20

Concluding Concerns And Issues

1 R b hi l Thi i d f lt t t t D 1. Remember overarching rule – This is a default statute. Donor restrictions govern.

2. How to draft around UPMIFA

1638986 v.1

21

FAS 117-1 Review

Kim McCormick, Grant ThorntonKim McCormick, Grant Thornton

Endowment Accounting And DisclosuresFSP FAS 117 1 (ASC 958 205)FSP FAS 117-1 (ASC 958-205)

Recap

Endowments of not-for-profit organizations: Net asset classification of funds subject to an enacted version ofNet asset classification of funds subject to an enacted version of

UPMIFA, and enhanced disclosures

• The classification of net assets subject to UPMIFAj

• Expanded disclosure requirements – whether subject to an enacted version of UPMIFA

• Effective for fiscal years ended after Dec. 15, 2008

23

Endowment Accounting And DisclosuresFSP FAS 117 1 (ASC 958 205)FSP FAS 117-1 (ASC 958-205)

Recap – Actions Already Taken

• Governing board concluded what portion of endowment is permanently restricted net assets (PRNA) – fund of permanent durationpermanent duration

• Recorded cumulative effect of change in accounting to reclassify accumulated and unappropriated endowment earnings from URNA to TRNA and re-instated purpose restrictions, as applicable

• Added significant new disclosures regarding endowment g g gfunds

• Dealt with accounting and disclosures for underwater endowments

24

endowments

Endowment Fund DisclosuresDisclosure RequirementsDisclosure Requirements

• Description of governing board’s interpretation of relevant law underlying net asset classification

• Description of endowment spending (distribution) policy(ies)Description of endowment investment policy(ies)• Description of endowment investment policy(ies)– Return objectives and risk parameters– How the objectives relate to spending policy(ies)How the objectives relate to spending policy(ies)– Strategies for achieving objectives

• Composition of endowment by net asset class

25

p y• Endowment roll-forward by net asset class

Sample Endowment Composition Disclosure (No Underwater Funds)(No Underwater Funds)

Endowment Net Asset Composition by Type of Fund As of June 30, 200Y

Temporarily Permanently Unrestricted Restricted Restricted Total

Donor-restricted endowment funds $ - $ 49,774 $ 97,959 $ 147,733 Board-designated funds $ 8 247 $ - $ - $ 8 247Board designated funds $ 8,247 $ $ $ 8,247

Total funds $ 8,247 $ 49,774 $ 97,959 $ 155,980

26

Sample Endowment Composition Disclosure (Underwater Funds)(Underwater Funds)

27

Sample Endowment Roll-Forward Disclosure (Ongoing Year)(Ongoing Year)

28

P t FAS 117 1Post-FAS 117-1: Accounting, Disclosure g,

Issues

Harold Parsons, LarsonAllenHarold Parsons, LarsonAllen

UPMIFA Vs. FAS 117-1UPMIFA Vs. FAS 117 1• The disconnect between the law and accounting

117-1: Permanently restricted amounts: The organization’s governing board determines what must be retained (preserved) permanently consistent with the relevant law.

UPMIFA: There is no concept of a specific amount that must be permanently retained. p y

• “Endowment fund” means an institutional fund or part thereof that, under the terms of a gift instrument, is not wholly expendable by the institution on a current basis.p y

• One of the considerations with investing and appropriations is “the duration and preservation of the endowment fund.”

30

UPMIFA Vs. FAS 117-1 (Cont.)

• Issues that arise

UPMIFA Vs. FAS 117 1 (Cont.)

– You do not have to “replace” endowment funds that are underwater.

• You might want to reconsider your spending policy but thereYou might want to reconsider your spending policy, but there is no obligation to stop spending.

• What you must do is follow the law regarding prudence.Underwater funds can create a perception of being an unhealthy– Underwater funds can create a perception of being an unhealthy organization.

– Is it possible to raise new money to make up for past losses?H d i b d’ i i f h l ?– How do you communicate your board’s interpretation of the law?

31

UPMIFA Vs. FAS 117-1(Cont.)( )

Alternative presentation in the pStatement of Financial Position

NET ASSETSUnrestricted:

Undesignated 1,050,000 g , ,Accumulated Endowment Losses (1,800,000)

Total Unrestricted Net Assets (750,000)Temporarily Restricted 1,200,000Temporarily Restricted 1,200,000 Permanently Restricted 15,500,000

Total Net Assets $ 15,950,000

32

Reclassification Of Net Assets• TIS 6140.23 Changing Net Asset Classifications Reported in a Prior

Year (TPA issued in May 2010)

Reclassification Of Net Assets

• Are individual net asset classes, rather than net assets in the aggregate (total net assets) relevant in determining whether an NFP’s correction(total net assets), relevant in determining whether an NFP s correction of net asset classifications previously reported in prior years’ financial statements is an error in previously issued financial statements?

• Yes: Individual net asset classes, rather than net assets in the aggregate (total net assets), are relevant in determining whether an NFP's correction of net asset classifications previously reported in prior years' financial statements is an error in previously issued financial statements.

33

Reclassification Of Net Assets (Cont.)• Reclassifications of net assets - that is, simultaneous increases in one

net asset class and decreases in another - shall be made if any of the

Reclassification Of Net Assets (Cont.)

net asset class and decreases in another shall be made if any of the following events occur: – a. The NFP fulfills the purposes for which the net assets were

restricted. b D i d i i i i h h f i– b. Donor-imposed restrictions expire with the passage of time or with the death of a split-interest agreement beneficiary (if the net assets are not otherwise restricted).

– c. A donor withdraws, or court action removes, previously , , p yimposed restrictions.

– d. A donor imposes restrictions on otherwise unrestricted net assets. For example, a donor may make a restricted contribution that is conditioned on the NFP restricting a stated amount of itsthat is conditioned on the NFP restricting a stated amount of its unrestricted net assets. Such restrictions that are not reversible without donors’ consent result in a reclassification of unrestricted net assets to restricted net assets.

34

D fi i Th E d t F dDefining The Endowment Fund

• Not all permanent funds are endowment funds.

• The commentary for 117-1 A8(b) notes that endowment funds are not analogous to perpetual trusts in part because “none of the ongoing d i i b t ith th i t t f th t t di t ib ti fdecisions about either the investment of the trust or distributions from the trust are within the purview of a beneficiary organization’s governing board.”

35

D fi i Th E d t F d (C t )Defining The Endowment Fund (Cont.)

• Do the disclosures fit the circumstances?

• What should be considered in and what can be considered out?– Perpetual trusts where the NFP is not the trustee– Perpetual funds held at a community foundation where the NFP

named itself as the beneficiary– Charitable remainder trusts prior to termination of the trust– Charitable remainder trusts prior to termination of the trust– Pledges receivable to the endowment fund

• Judgment can be used.Judg e ca be used.

36

D fi i Th E d t F d (C t )Defining The Endowment Fund (Cont.)

• The endowment fund roll forward does not need to tie back to the• The endowment fund roll-forward does not need to tie back to the statement of activity or financial position.

37

Post FAS 117-1: A ti L l C lAccounting, Legal Cycles

Kim McCormick, Grant ThorntonKim McCormick, Grant Thornton

Reminders: Underwater Endowments

Making The Determination

Once an organization determines how much should be classified as permanently restricted in accordance with the appropriate state law and donor intent, that amount is compared to the current market value to determine whether or not there is an underwater endowment.not there is an underwater endowment.

If market value is below amount calculated asIf market value is below amount calculated as permanently restricted endowment, the fund is underwater.

39


Recording Losses

In the absence of donor stipulations or law to the contrary, losses on permanently restricted endowment funds are recorded as follows:

1 Reduce temporarily restricted net assets to the extent that1. Reduce temporarily restricted net assets to the extent that there is appreciation from the SPECIFIC underwater fund accumulated there

2. Reduce unrestricted net assets

40

Sample Endowment Composition Disclosure (Underwater Funds)(Underwater Funds)

41


Required Disclosures

• Aggregate amount of the deficiencies for all donor-restricted endowment funds for which the fair value is less than the level required by donor stipulation or law at the reporting datereporting date

• Depending on the severity, a discussion of the p g yorganization’s liquidity and operating needs as affected by these underwater endowments

42


Other Best Practice Disclosures

• Any change in organization’s spending rate, based on underwater situation

• Description of how deficiencies originated and how accounted for

43


Endowments Emerging Back Above Water

In the absence of donor stipulations or law to the contrary, subsequent gains on underwater endowment funds are recorded as follows:

1. Re-instate unrestricted net assets for SPECIFIC endowment funds that were underwater (back to sea level)( )

2. Increase temporarily restricted net assets

44

Net Asset Classification With UPMIFA:Putting It All TogetherPutting It All Together

• Step I: New gift comes in for endowment, without explicit donor language affecting initial net asset classification

– Managed as one fund, likely part of an investment poolAll classified as PRNA for financial reporting purposes– All classified as PRNA, for financial reporting purposes

45

Net Asset Classification With UPMIFA:Putting It All Together (Cont )Putting It All Together (Cont.)

• Step II: Investment activityp y– Allocated to fund based on unitization or pro-rata share– PRNA normally does not increase or decrease – Increase or decrease is to TRNA

• Exception: In underwater situations, TRNA cannot be negative so URNA would be decreasedbe negative, so URNA would be decreased.

• Very important: That URNA “deficit” is within the endowment

46


• Step III: Moneys are spent elsewhere for the same purpose– No effect on either the fund balance or on net asset

classification– A time restriction is still in place until appropriation, and

thus the funds are unavailable for spending for that purpose.p p

– In other words, unlike with net asset classification for UMIFA endowments, the “deemed spent” rule does not

l h d th i l ifi ti t URNA f

47

apply here, and there is no reclassification to URNA for financial reporting purposes.


• Step IV: Board approves funding from the endowment for next year’s budget– No effect on either the fund balance or net asset

classification until next year is reached

48


• Step V: Next year is reached, and the amounts approved are now available for spending.– Fund balance is reduced by that amount, even if the

cash is not yet transferred. In effect, the cash is due to the corresponding non-endowment fund where it will bethe corresponding non-endowment fund where it will be spent (operating fund, plant fund, etc.).• Alternative treatment: In a corresponding board-

designated endowment fund until the cash is moved– The UPMIFA time restriction for accounting purpose

expires because appropriation for accounting

49

expires, because appropriation for accounting purposes is now deemed to be complete.


• Step V (Cont.)– If the fund has no purpose restriction (beyond being an

d t) th i l ifi ti f th t fendowment), there is a reclassification of those amounts from TRNA to URNA.• Very important: Such net assets are no longer associated with

the donor endowment Remember the only URNA amountsthe donor endowment. Remember, the only URNA amounts associated with donor endowments are negative URNA (“deficits”) when the fund is underwater.

– If the fund has a purpose restriction, the reclassification would notIf the fund has a purpose restriction, the reclassification would not occur until the amounts are spent or deemed spent for that purpose.• Without the time restriction, such amounts are now available

50

,for spending, and the deemed spent rule would apply.

P t FAS 117 1Post FAS 117-1: Foundation Policy y

Revisions

Brian Zygmunt, Crowe HorwathBrian Zygmunt, Crowe Horwath

ASC 958 205 Policy ConsiderationsASC 958-205 – Policy Considerations

Investment policy• Investment policy• Return Objectives• Risk parameters• Relationship between return objectives and risk parameters

• Endowment spending policy• Valuation policy• Valuation policy• Generic donor gift instrument

• An example that allows for payouts to invade corpus• Draft board resolution to clarify definitions upon

implementation

52Crowe Horwath LLP is a member of Horwath International Association, a Swiss association (Horwath). Each member firm of Horwath is a separate and independent legal entity. Crowe Horwath LLP and its affiliates are not responsible or liable for any acts or omissions of Horwath or any other member of Horwath and specifically disclaim any and all responsibility or liability for acts or omissions of Horwath or any other Horwath member. Accountancy services in several states are rendered by Crowe Chizek and Company LLC, which is a member of Horwath. © 2008 Crowe Horwath LLP

ASC 958 205 Policy RevisionsASC 958-205 – Policy Revisions

Description of the organization’s endowment investment• Description of the organization’s endowment investment and spending policies

• Prior to UPMIFA and 958-205, investment policies were often limited to the responsibility for oversight of managers target asset allocation and sometimesresponsibility for oversight of managers, target asset allocation, and sometimes return objectives.

• With the advent of UPMIFA and 958-205, an organization’s investment policies should have much more robust content to comply with updated requirements.

• So, what is required to be disclosed in financial statements of NFPs under ASC 958-205?

• Policies for appropriation of endowment assets for expenditure• Return objectives• Risk parameters• Strategies employed for achieving those objectives• Relationship between return objectives and risk parameters

• These factors all need to be considered in concert with each other, as decisions


These factors all need to be considered in concert with each other, as decisions made in each area directly affect each other.

SC (C )ASC 958-205 – Policy Revisions (Cont.)

Example of investment policy• Example of investment policy• Sect. 3 investment objectives

• Balancing the support for current operations with the long-term goal of developing and maintaining a strategic advantageg g g

• Sections 4 and 5 performance goals and asset allocation• To what are we going to benchmark?• Develop asset allocation• Organizations need to work with investment committee and advisors to develop these• Organizations need to work with investment committee and advisors to develop these

components of the policy.• Spending policy• Execution

I t t t id li• Investment management guidelines• Selection of new managers• Delegation of responsibilities• Conflict of interest policy


• Evaluation and review process

SC (C )ASC 958-205 – Policy Revisions (Cont.)

S• Stakeholders in process• Trustee

• Finance committee• Audit committee• Investment committee

• Senior management teamg• Finance• Development

• Investment managers/consultantsInvestment managers/consultants• Legal counsel• Audit firm


Documents

presents Non-Profit Endowments and FAS 117-1 Compliance ChallengesCompliance Challengesmedia.straffordpub.com/products/non-profit-endowments... · 2010. 9. 10. · Non-Profit Endowments