The Effects of Depreciation on a Non-Profit
There are two main types of business entities: for-profit and non-profit. Both incur expenses, and some non-profits even have sales, but the primary difference is taxation. Since depreciation is a tax-deductible, non-cash expense, you may think the expense has no place on the non-profit income statement. However, the financial accounting standards board (FASB) provides a different explanation.
According to the Internal Revenue Service, or IRS, there are several different types of organizations that qualify to be a non-profit, including business leagues, employee benefit associations or funds, fraternal societies, labor and agricultural organizations, social clubs, social welfare organizations, political organizations and veteran organizations. While these organizations are considered non-profit, they must still provide an accounting of sales, expenses, assets, liabilities and cash flow. These are shown on the income statement, balance sheet and statement of cash flows. Financial reporting contributes to transparency in operations, which helps build trust with donors.
Accounting is a system of checks and balances. The system provides a way for accountants to maintain the integrity of financial reporting. To maintain that integrity, expenses are matched to sales in the period in which they were incurred. Depreciation is a non-cash expense that writes off the value of assets used during the period in which the revenue was incurred.
According to FASB Statement 93, non-profits are required to recognize the purchase of long-term assets -- assets that provide value for more than one year. The process of recognizing long-term assets is referred to as capitalization. Like for-profits, depreciating capitalized assets write off the value of assets as they are used. This allows the non-profit to purchase fixed assets without having to report the full amount of the asset purchased as an expense. This has the effect of increasing net income on the income statement as well as assets on the balance sheet.
Due to the nature of certain non-profits, some long-term assets are not eligible for depreciation and are not recorded as assets in the financial statements. Certain works of art, historical treasures, historical buildings, libraries and general items placed in museum collections are exempt from being depreciated. If sold, the proceeds from these items do not have to be recorded as revenue.