Q: The ASU states that investment return shall be displayed as net of external and direct internal investment expenses. I understand the external expenses, which are basically what we pay to the investment consultants, the custodians and the asset managers. But what are considered direct internal investment expenses?
A: Direct internal investment expenses involve the direct conduct or direct supervision of the strategic and tactical activities involved in generating investment return. These include, but are not limited to, both of the following:
Salaries, benefits, travel and other costs associated with the officers and staff responsible for the development and execution of investment strategy.
Allocable costs associated with internal investment management and supervising, selecting and monitoring of external investment management firms. Direct internal investment expenses do not include items that are not associated with generating investment return.
Q: Based on that definition, I have a follow up question: We do not have a Chief Investment Officer. Our investment decisions are made by the Investment Committee, with the help of third-party investment consultants. But since our investment portfolio is quite complex, our Chief Financial Officer spends a fair amount of time in the accounting and administration of the alternative investments, such as handling subscription documents, fulfilling capital calls, etc. Can part of his or her salary and benefits be allocated to direct internal investment expense?
A: No, not as you described. Accounting and administration of the investments cannot be allocated to investment expenses because they are not associated with generating investment return. However, where the Chief Financial Officer has direct oversight of the investment portfolio, such as performing due diligence on investment opportunities, analyzing investment returns and making recommendations to the Investment Committee, a portion of his or her salary and benefit can and should be allocated to direct internal investment expense.
Q: I understand that we are now required to present natural expenses (i.e., salaries, rent, grant expense, etc.) by function (program and management and general, since we do not have fundraising or membership development). Is the allocation of expenses for GAAP financial statements the same as that for the Form 990-PF Part 1 operating and administrative expenses between column B and D?
A: Some line items could be the same, but others may not be. For example, in GAAP financial statements, external investment expenses such as custodian fees and investment consultant fees are netted against the investment returns. Therefore, they will not show up on the statement of functional expense at all. However, they are included in “other professional fees” in column B on the Form 990-PF. The same divergence exists for direct internal investment expenses.
Federal Excise Tax Expense
Q: Where should I present the current and deferred federal excise tax expense? Is it to be netted against the net investment return or presented as a management and general expense within the functional expenses?
Good question. We have not observed any consistency in practice. In fact, I consulted with multiple technical resources at the AICPA and learned that there is no clear requirement for where excise tax should be presented under ASU 2016-14. As a result, for now, you have both options available, as long as the excise taxes are disclosed in the footnotes. In the future, one preferred position could emerge as more private foundations start to adopt the ASU. We will be watching closely and will advise accordingly in the coming months.
Q: The liquidity disclosure seems somewhat irrelevant for private foundations. Are not all our financial assets available for general expenditures within one year?
A: I do not disagree with the first part. The ASU applies to all nonprofits, and this particular disclosure could be quite insightful for public charities’ financial statements, but probably not so much for private foundations’. As far as your financial assets go, particularly for alternative investments, you do need to consider their redemption restrictions and unfunded commitments to determine whether they are available for general expenditures within one year.
This ASU brings more profound changes to public charities such as your grantees. This is an opportunity to learn more about the financial health of your grantees and may result in more informed grantmaking.
Please contact us with any questions you have during the implementation. We are happy to work through them with you.
Stephanie Yan, CPA, has 20 years of public accounting experience providing audit, accounting and general business consulting services. Before coming to GHJ in 2004, Stephanie spent three years working in corporate accounting for both privately held and public companies.
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