The Four Biggest Differences Between Nonprofit and For-profit Accounting
There are several differences between a for profit and a not-for-profit organization. In this article we will hone in on what we consider to be the top four differences.
1. Mission Why is this organization in existence? What is its purpose? All companies have a purpose, but there is a clear difference between a for profit and a not-for-profit organization. They each have goals with desired outcomes, and they each employee similar types of staff for the administration operation (i.e., accountants, COO, CFO, CEO). The chief difference in the mission of a for profit company is the objective to make profit, whereas a not-for-profit does not make profit its goal. The not-for-profit mission is to provide a service with a particular goal or achievement for society. Both the for profit and not-for-profit strive to obtain success in its mission. The for-profit success is typically determined by its net profit or gross sales. Of course, there are other variables the for-profit organization must consider, more than can be explained in this blog. The not-for-profit organization measures success based on its ability to accomplish its program purpose. For example, the success of the not-for-profit could be medical/housing assistance for a group of the population. 2. Funders and Accounting Okay, technically this bullet point is referencing two areas of differences. To keep my synopsis to four areas, I decided to group these two differences in one bullet point. Now that we understand the purpose of both types of entities, our next key difference is determining how each organization is funded. A for profit organization primarily generate revenue from sales; sales of products and/or services. In addition, if the for-profit organization decides to go public, they will also generate revenue by selling shares of stock to the public.
The not-for-profit organization primarily generate revenue from contributions/donations. A key revenue stream for many of these organizations is from government assistance, via grants and/or contracts. These revenue streams can come with restrictions of use.
The area of accounting is another difference that can be confusing to many readers. Not-for-profit organizations maintain its records using fund accounting. One important difference is in the formula Assets = Liabilities + Owner’s Equity or Net Assets. Here we have:
Not-for-profit organizations do not have any owner’s equity, but they have net assets. In this type of organization, the net assets are the value of the assets minus its liabilities. It is the value that the organization owns. It has a similar concept as net worth for individuals or owner’s equity because it is the organization’s worth. These net assets can be unrestricted or restricted.
The for-profit organization calculation is the same as above but has a different meaning. The owner’s equity includes money invested by the owners of the business, plus profits of the business minus withdrawals by the owners. Minus money owed to others. The bottom line, it is the value of the company that can be claimed by its owners.
3. Taxation Not-for-profit organizations are typically registered as such, a 501(c)3 organization. This allows the organization to report its services to the government without having to pay a portion of its earnings back to the government. In addition, individuals and businesses that donate to these registered organizations are allowed a tax deduction on these contributions. The for-profit organization is not granted such a tax benefit. For-profits must pay taxes based on the applicable tax law. This is an area for-profit organizations should seek advice from a business tax accountant to better prepare for annual tax billing. 4. Leadership This is probably one of my favorite differences to discuss, because there is so much to consider when describing the leadership of these two types of organizations. It is clear how the leadership structure of a for-profit work. Leadership roles are contingent on whether the for-profit organization is privately held or a publicly traded company. In both, leaders of all types have some stake in the financial success of the company, be it the CEO, boards, or stakeholders. Why? Because the profitability of the organization, can result in incentives, including bonuses and/or profit sharing. In contrast, the not-for-profit leadership does include a CEO, but the organization’s direction is led by the board of directors. The board of directors are made up of individuals who purpose is to guide the organization’s future without direct financial ownership.