CPA Exam — REG (Regulation)Federal Taxation of EntitiesMedium
A client, a tax-exempt organization under IRC Section 501(c)(3), received a restricted grant of $500,000 from a foundation. The grant specifies that the funds must be used exclusively for a new educational outreach program over the next five years. The organization's board has full discretion over the specific activities within the program. How should this grant be classified in the organization's financial statements?
- AAs a liability until spent.
- BAs unrestricted net assets.
- CAs temporarily restricted net assets.
- DAs permanently restricted net assets.
Show answer & explanationAnswer & explanation
Correct answer: C. As temporarily restricted net assets.
A donor-imposed restriction that specifies how the funds must be used over a period of time, but not in perpetuity, classifies the assets as temporarily restricted. The restriction will expire when the funds are used for the specified program or when the time period lapses.
Why the other options are wrong
- A. Incorrect. Grants are generally recorded as revenue, not liabilities, unless they are conditional and the conditions have not yet been met. Here, the condition is how it is used, not whether it will be received.
- B. Incorrect. The donor has imposed a clear restriction on the use of the funds.
- D. Incorrect. Permanently restricted assets have restrictions that never expire, such as endowments, which is not the case here.
NFP Temporarily Restricted Net Assets
Temporarily restricted net assets are those whose use by a not-for-profit organization is limited by donor-imposed stipulations that either expire with the passage of time or can be satisfied by the actions of the organization (e.g., spending for a specific purpose).
- Donor-imposed restrictions.
- Restrictions expire by time or purpose fulfillment.
- Funds become unrestricted when restrictions are met.
- Reported separately from unrestricted and permanently restricted net assets.
Memory trick: Unrestricted is 'Free', Temporary has 'Time', Permanent is 'Forever' for the NFP.