Accounting for Grants

13th May 2019

I have lost count of the number of times I have had meetings with trustees who have received large grants that are to be spent over a number of years, yet the Charities SORP is telling them they have to recognise it all in one go. This disconnect can cause enormous frustration for trustees, as it can leave the charity looking as though it is sat on a large pile of money that it has not spent. This can make it harder to raise additional funding.

However, there can be numerous subtleties in grant accounting, which can make the accounting much more aligned to that of a contract. This perceived inconsistency adds to the trustees’ frustration, which in turn makes the job of management and the charity’s advisors that much more challenging – as I have learnt from bitter experience!

To help to explain the challenges and problems of the accounting regime, I will go back to first principles. The Charity SORP says that income must only be recognised in the accounts of a charity when all the following criteria are met:

Entitlement – control over the rights or other access to the economic benefit has passed to the charity.

Probable – income is recognised when there is sufficient certainty of receipt - receipt is more likely than not (This is a relatively low hurdle as it means that if a charity has a 50.1% chance of receiving the income then this criterion has been met.).

Measurement – the monetary value or amount of the income can be measured reliably.

For a grant these conditions can be easy to meet. A charity is typically entitled to a grant when formal offer of the funding is communicated in writing to the charity. If a grant giving body has made the offer of a grant then they are likely to be fairly certain it will be spent, and so the probability of receipt will be way in excess of 50.1%, and the amount to be received can be measured accurately. 

Therefore, in many cases the grant should be recognised upon written confirmation of the offer. The charity may be perfectly happy with this, but where the grant is to be spent over several years it can make the accounts look very odd. 

 

Year 1

Year 2

Year 3

Year 4

Year 5

Total


Income


5,000,000


-


-


-


-


5,000,000


Expenditure


-


1,000,000


1,000,000


1,000,000


1,000,000


5,000,000


Surplus / (deficit)


5,000,000


1,000,000)


(1,000,000)


(1,000,000)


(1,000,000)


-

If a charity receives a grant of £5million which it will spend over 5 years, then in its accounts it could be showing a £5millon surplus in year 1, as it has all the income but none of the expense. Management and trustees can then end up spending the next few years explaining this ‘super profit’ to prospective funders, and then the last few years of the project explaining why it is making such large deficits – assuring those same prospective funders who thought they had too much money, that they are not in financial trouble!

Life would be a lot easier if charities could just match the income and the expense.

There are a few situations where the grant could include conditions, which would mean that the charity would not recognise the income upon confirmation of the grant. For example, it may have to raise money to match fund the grant. In this case, it would only recognise the grant in proportion to the match funding raised. This can result in the income being spread out over the project, but I have seen a number of instances where the charity has already had the funding available or has raised it in a short period of time. Then the charity still had to recognise the income in one big lump. Therefore, the distortion of the accounts was not avoided. 

The critical point here is whether meeting the condition is within the charities control and whether there is sufficient evidence that the condition has or will be met. If this is the case, then the income must be recognised. Similarly, if the conditions are straight forward or administrative, such as filing accounts, then this would not prevent recognition.

Consequently, in many cases the default position is that grant income is recognised up front, in advance of the associated expenditure. The charity then needs to explain to its stakeholders what is going on and why it is showing a large surplus. This underlines the importance of making the trustees report as user friendly as possible and giving a clear explanation of the reserves a charity has and what it will be doing with them. Whether many readers of the accounts ever get beyond the SOFA to gain this understanding is a discussion for another day.

Where things can get more complicated is where grants are given with a number of performance-related criteria attached. In these instances, the difference between a grant and a contract may not be clear – and this will be discussed in my next insight.

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