One of the most common charity accounting questions I get asked and an issue that arises during many a charity audit is whether income is received in respect of a grant or a contract.
With changes in the way charities are funded, and with more charities carrying out services for local (and national) government, this issue shows no sign of disappearing.
My colleague Andrew Walls recently blogged about whether income is a grant or a fee for VAT purposes. But what about the accounting treatment? Does it make a difference whether income is a grant or a fee under a contract?
Definitions of Grants and Contracts
Perhaps the first place to start is with definitions:
- Grant – in accounting parlance, this is a non-exchange transaction – in effect this means that the money is gift from the donor with the recipient giving nothing in return
- Contract – conversely, a contract is an exchange transaction between two or more parties where at least one party receives consideration from the other party in return for provision of goods or services to this other party
So how are grants and contracts distinguished? Well there are no hard and fast rules – each individual agreement and amount of income will have specific features and each should be considered on an individual basis. The table below looks at some key and common things to look out for:
| Grant | Contract | |
| What is received? | Monies given by donor | Consideration given (doesn’t have to be in the form of money) |
| What is given to the donor in return? | Donor receives nothing in return | Contractor receives goods/services in return |
| Is VAT due? | No
(donations or gifts are outside the scope for VAT purposes as nothing is given in return- but watch out for service level agreements) |
Yes – subject to the services being supplied |
| What happens if there are unspent funds? | If given for specific purposes, these are either returned or carried forward as restricted funds;
If not given for specific purposes, these are carried forward as unrestricted funds |
If all services/goods have been provided, any unspent funds are a surplus earned by the charity and carried forward as unrestricted funds (subject to any clauses saying otherwise) |
| What law is applicable? | Trust law | Contract law |
| Can the charity reclaim gift aid? | Yes – Gift Aid may be available if received from an individual | No – Gift Aid is not reclaimable for income received under a contract |
| Is this restricted or unrestricted income? | Either – restricted funds if the funds are given to be spent on specific purposes; otherwise unrestricted funds which can be spent on the charity’s activities as the Trustees deem fit | Unrestricted funds – in nearly all cases contracts are unrestricted funds partly because the charity can make a surplus on a contract and use this for its charitable purposes as the Trustees deem fit
(however, if the contract restricts the use of any surplus made by the charity on a contract, this may in substance be the same as for a restricted grant and so this income could be classed as restricted) |
| Income recognition criteria | 1. There is evidence that the charity is entitled to the gift;
2. The receipt is probable; and 3. The amount can be measured reliably.
|
1. There is evidence that the charity is entitled to the income;
2. The receipt is probable; and 3. The amount can be measured reliably.
|
| What if the grant agreement specifies how the funds should be spent? | Income is recognised to the extent that these specified activities have been carried out (consider service level agreements) | A contract requires the charity to provide specific goods / services – income is recognised to the extent that these have been provided |
| What if the grant agreement does not specify on what the funds should be spent? | The full amount is recognised as income when the 3 income recognition criteria above are met | N/A – a contract will always require the provision of specific goods / services in return for consideration |
| What terminology is used? | Key terms include: grant, performance conditions, repayment terms, no references to VAT | Key terms include: contractor, provision of services, performance standards, applicable law, references to VAT |
| How is income classified in the accounts? | Voluntary income – donations | Income from charitable activities |
As hinted above, there can be grey areas. For example, increasingly grants are being given for specific purposes, i.e. the donor attaches conditions that the recipient must meet in order for the recipient to be entitled to the income. However, this doesn’t mean that this becomes a contract instead of a grant – but it does mean that this is a restricted grant, meaning that the funds can only be spent on the purposes specified by the donor when granting the funds.
I asked at the beginning whether it makes a difference whether income is a grant or a contract, and in my next blog I will look at some detailed examples that show it can make a difference and that the numbers can be significant.
Please do email Martin with any queries you have about your own charity.
This is part of a series of blogs on charity management. If you’d like to know when future instalments go live, please sign up for updates.
The information in this article was correct at the date it was first published.
However it is of a generic nature and cannot constitute advice. Specific advice should be sought before any action taken.
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