In nonprofit accounting, the Statement of Functional Expenses is a financial statement that provides detailed information about how an organization’s expenses are allocated to different functional categories. This statement is a key component of the financial reporting for nonprofit organizations, offering transparency and accountability regarding the use of resources. It typically categorizes expenses into three main functional areas including program services, management and general expenses, and fundraising.
The purpose of the Statement of Functional Expenses is to provide stakeholders, such as donors, grantors, and the public, with a detailed breakdown of how the organization is utilizing its resources to achieve its mission. This level of detail helps in assessing the efficiency of the organization’s operations and its commitment to fulfilling its nonprofit purposes.
Nonprofit organizations are often required to include this statement in their financial reports, particularly for compliance with accounting standards and regulations. It contributes to the overall transparency and accountability of the organization’s financial activities.
We’ve put together a list of simple steps to help you prepare an effective, clear, and easily understandable Statement of Functional Expenses.
Step 1: Gather Relevant Data
Your first step is to gather the necessary data for the statement. Understand what you are trying to express, and what data you may need to gather. Identify the sources of data available both internally in your organization and possibly from third party sources. This may include reports available from your own systems as well as surveys, data reports from industry experts, constituent interviews, and more.
Step 2: Organize and Validate
Your next step is to organize the data and validate it. Organizing the data electronically into files and folders on a cloud-based system ensures that everyone working on the statement has access to the same information. Depending on how much information you have, consider various organization aids: a hyperlinked table of contents or spreadsheet to find documents can come in handy when working with a large number of files.
Additionally, you’ll need to validate the data. Check all the facts. Cross-reference data. And be sure that any third-party sources you cite are recent. A good rule of thumb is to use data that’s no older than two years, if possible.
Step 3: Analyze and Interpret
Next, analyze and interpret the data. This step may take the longest, and it should be conducted thoughtfully and carefully to ensure that no erroneous conclusions are drawn from the existing data. You may need to conduct statistical analysis, trend analysis, or draw conclusions from the findings.
Classifying Functional Expenses
Every business must classify expenses. Nonprofits face an added challenge because the classification of functional expenses assigns a “why” to every dollar spent. Consider how you classify expenses. A great way to begin is to reference your organization’s mission statement. By identifying the value of each expense as it pertains to your mission, you’ll naturally create direct links between expenditures and mission in an honest and accountable way.
If you organization is undergoing a nonprofit audit, you must present expenses by functional area as part of your accounting. A CPA must include a statement saying that the financial documents were prepared according to generally accepted accounting principles (GAAP).
Tracking functional expenses by category and preparing the statement of functional expenses is both a necessary compliance step and a further step for organizational transparency. By working with your CPA and helping prepare these statements, you’ll help ensure accuracy, transparency, and value for your constituents.
Welter Consulting
Welter Consulting bridges people and technology together for effective solutions for nonprofit organizations. We offer software and services that can help you with your accounting needs. Please contact us for more information.
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