When preparing for financial statement audits, it is important to consider all related parties and foundations that directly support your organization. Whether the organization is defined as a support organization (509)(a)(3) by the IRS or a separate not-for-profit (NFP) or foundation, you must define the relationship under the rules of consolidation.
FASB 958-810 clarifies the rules on when a NFP should consolidate their financial statements with another organization. They consider two requirements: control and economic interest.
Control is determined multiple ways, the first of which is whether there’s a majority voting interest. This is generally determined by looking at the board’s makeup:
- Are there board members who serve on both organizations’ board of directors?
- Is it a majority/ more than half in common?
If the NFP in question to be consolidated has a total of ten board members, and six of them also serve on the reporting entity’s board, there is a majority voting interest and therefore a controlling interest. A controlling interest can also be defined by sole corporate membership.
Control can also exist through a contract or affiliation agreement if it gives another organization the authority to approve budgets, purchase assets, approve mergers or dissolution, etc.
Economist interest can be determined by whether it holds or uses significant resources only for the use of the reporting organization. It’s also established when the reporting organization is responsible for the liabilities of the other entity (e.g., guaranteeing debt).
Once you’ve established control and economic interest, it is time to determine if consolidation is required, optional or not permitted:
- If there’s controlling interest by majority voting interest and economic interest results, consolidation is required.
- If there’s controlling interest by contract or affiliation agreement and economic interest, consolidation is optional (permitted but not required).
- If there’s control or economic interest but not BOTH, consolidation is not permitted. You would instead disclose the relationship in a related party note disclosure.
Please reach out to James Moore if you’re looking to create a new NFP to support your organization. We can also help if you’re unsure about the status of consolidation with a current entity. Our nonprofit CPAs can guide you through these steps and help with other concerns you may have.
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