Archive for December, 2012

Accounting of Grants to Sub-Grantees

Monday, December 17th, 2012

The situation: The association A receives grants from the donor D. Partly the grant is used for the needs of A, partly the amounts are given to sub-grantees S1, S2 and S3. The sub-grantees are located in different countries. The chief accountant of A decides to register the grant inflow as an income (an increase in restricted net assets), while he recognizes the transfers to the sub-grantees as an expense, when transferred to these entities. The sub-grantees account for the amounts received and send reports to A. A combines these reports with his own financial project report and sends the combined report to D, the donor organization.

The Director of A asks his Chief Accountant:  “Is our practice correct? Or would it be possible to register the payments to our sub-grantees as a kind of prepayment or advance, for which those entities have to account? Would it be possible to introduce their expenses as our expenses into our soft? It would be convenient for me, as I would see our project report as part as of our general accounting system. I would see who of our sub-grantees did not report in time. Is this second practice allowed or prohibited or recommended?”.

The Chief Accountant answers: “As you know, expenses have to be documented in accordance with the laws in our country. The documentation of our sub-grantees stays with them. On their invoices, their names are introduced. But we need originals and the invoices should show our address. Thus, we cannot introduce these expenses as our expenses. Moreover, the accounting of accounts receivables in other currencies is complicated, and I do not want to do this additional work.”

How is your position? Is the Chief Accountant right? Or would you support the position of the Director?

As we know, there is no guidance on NPO-accounting in IFRS. However, the anglo-saxon literature offers some advice:

The transfer from D to A has to be registered as a contribution to A, if A has variance power and if the transaction is not an exchange operation – this is the position of US-GAAP. Obviously, the operation is – in this case – no exchange operation: There is no sign that cash is given from D to A for services rendered by A to D. Consequently, the only remaining question is: Has A variance power? In the example above, this is not explicitly said.

If A has no variance power, the respective booking would be

Debit Cash         Credit Liabilities to S1, S2, S3

In other words, A acts as a mailman or like a bank. Cash comes in, cash goes out, nothing else. The operation is recognized as an agency transaction.

If A has variance power, the inflow has to be registered as a contribution with

Debit Cash         Credit Restricted Net Assets

when received.

But what happens on the expense side in this case? Should we register the payment to the sub-grantees as an expense when given to them, or when they report to us?

In the introduction, the Chief Accountant uses one argument: That the underlying invoices of the sub-grantees are not an acceptable evidence to him, and thus, he cannot introduce these documents as expenses of A. This argument is misleading. While it is correct that the invoices of the sub-grantees cannot be introduced as expenses of A, the reports of the sub-grantees can: A financial report is also a financial document. This financial reports from the sub-grantees to A exist as an original and they are (hopefully) addressed to A: So the Chief Accountant may accept this financial report as an expense document – after examination of these financial reports.

There are good arguments for registering the reports of the sub-grantees as an expense:

·       It is not logical, why the inflows should  be registered as an contribution, but then the outflows to the sub-grantees flip back to the simple “cash in – cash out” scheme. In this case, nothing is won in relation to the mailman approach.

·       If A has variance power this would also mean that A has a duty to control. A should take care of the usage of the funds given to the sub-grantees. This would mean that the reports from the sub-grantees to A are controlled by A. If the reports are not acceptable, A should register its claims against the sub-grantees in its books. Not doing so, would be carelessness or negligence.

The last argument of the Chief Accountant, that accounting of receivables in other currencies is to complicated, does not prevail.

In other words, the argumentation of the Chief Accountant is wrong. The way of thinking of the Director is right, in my opinion, because it is closer to the substance of the underlying transaction.

Frank Fabel, CPA

P.S. The report from the sub-grantees to A could appear in the form of a pro forma invoice. I am not against such a practice. A pro forma invoice makes clear that the document does not merely consist of a list of incurred expenditures. Also other effects could be added to an pro forma invoice, like: different exchange rate schemes, administrative charges, bridging calculations like add-backs for investments or subtractions like depreciation. A pro forma invoice is a document that links our bookkeeping registers with reporting to the donor. If done regularly (for instance, monthly), this could be also a good basis for an ongoing grant monitoring.