Major Differences between Profit and Nonprofit Organization Finance Essay

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There are several elements that obviously distinguish nonprofit organization from profit organization. Through the understanding of these differences will enable people to identify the nonprofit organization easily. These differences can be classified as significance, sources of fund, ownership and control, human resources management, accounting, assets distribution and used of profit of an organization.

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4.1.1 Significance

The main difference for a profit and nonprofit organization is their significance. Significance can be defined as the importance of something, especially when this has an effect on what happens in the future (Hornby, 2005). On the other way round, it can be explained as the importance of an organization, the affection of an organization or the purpose of its existence. Every organization is formed with a certain purpose or objective to be achieved. A profit organization exists mainly to generate profit which means to earn more money than those have been invested in. Profit organization aims to maximize profit and increase business owner’s wealth. Therefore, profit organizations usually come out with products or services that are offered at certain price level in the market to generate income. The income will then be distributed to the owners of the organization. It is the right of owners to decide whether to keep all profit themselves or reinvest parts or all of the profits into the business.

On the other hand, nonprofit organizations are generally formed to promote social welfare and fulfill society’s needs like for some specific religious, humanitarian, charity purpose, educational purpose and environment protection. According to Prugsamatz (2010), the main objective of nonprofit organization is to provide services to people by bringing people together and help them through improving the level of societies, economic and social situations; responding to various foreseeable and unforeseeable challenges encountered by society; environmental preservation; and other humanitarian efforts geared toward growth, development, and preservation. Besides Weerawardena, McDonald and Mort (2010) also said that nonprofit organization exists to provide services to fulfill the needs that will not be satisfied by both private and public sector. Therefore, nonprofit organization plays vital roles in organizing activities that will help in meeting nation’s needs. All the activities perform in nonprofit organization must consistent with the purposes as stated before. The intention of a nonprofit organization’s operations is to manage and distribute fund into programs and activities that would assist in meeting society’s needs. Hence, proper fund management is became the fundamental element to success the organization. Nonprofit organizations are concerned with proper fund management to minimize the operating costs in order to maximize the usage of fund for social welfare.

4.1.2 Sources of Fund

Fund is the fundamental element for the survival of an organization. It is defined as an amount of money that has been saved or has been made available for a particular purpose (Hornby, 2005). Fund is required to finance the activities run in an organization and the activities include operation activities, administration activities, development activities and investment activities. Therefore, it is very vital for an organization to obtain sufficient fund from various sources to maintain the organization’s functionality. In profit organizations, sales revenue include cash sale and credit sale are the main sources of fund to the organizations. Profit organizations rely mainly on the income generated from normal business activities and the credit arrangements from the suppliers and creditors to finance their operation. Besides that, profit organizations are allowed to raise fund from public at large through issuing of companies’ shares. The investors will be offered certain percentage of ownership in accordance to the capital invested or fund injected into the organization. Profit organization can also obtain fund through employment of loan. Loan will provide the organization an amount of money that is required to finance organization’s projects. The organization will then repay the loan after a certain period of time with certain percentage of interest with the earning obtains from the businesses.

On the other way round, a nonprofit organization can obtain fund through variety of sources. The funds can be gathered from fee for services, special events, donations and grants from individuals, government agencies and other organizations. Among these sources of fund, donation will contribute to major part of the fund received by the organization. As nonprofit organization is only able to collect fund from the donors solely based on the trust of donors toward the organizations, nonprofit organizations have to ensure the proper management of fund to maintain their reputation and gain donors’ confident toward the organization. Thus, nonprofit organization must be very conscious in the usage of the money to ensure that the benefits given to targeted recipients will be maximized. In the context to get donation from others, special event would be the most suitable ways to attract the donors and get donors’ acknowledgements. Grant is another good alternative to obtain fund, however, this source is inconsistence and therefore cannot rely too much on it. Whereas, fee for services is often an uncommon used alternative.

4.1.3 Ownership and Control

Another significant different of profit and nonprofit organization is related with the ownership and control over the organization. The ownership and control of a profit organization will often refer to which type of organization that the profit organization is. As an owner managed organization which is either sole proprietorship or partnership, the owner retains two principal powers in which the owner makes managerial decisions of the firm and entitles to the profits of the firm (Marks, 1999). In simple words, the owners own the company and having control on the operations and managements of the company. However, for large public held corporation, the owners remain their claim on the profit but do not having the direct control over the entire corporation (Marks, 1999). The owners of the big corporation which also call as shareholders, are having right to receive profit in the form of dividend annually from the organization. However, shareholders do not have right to make decision for the organization. This responsibility is eventually placed on the manager, who has been appointed by the board of director, who is formed by the shareholders of the organization. According to Marks (1999), managers have control on the organization but possess relatively small or no residual claims.

On the other hand, a nonprofit organization does not have an owner to control over the organization. Hence, there are no shareholder exist in a nonprofit organization. As said by Glaeser (2003), even those who have funded the nonprofit organization through donation cannot obtain the control over the nonprofit organization. Therefore, nonprofit organization is existed as an independent body that is not owned by anyone. However, nonprofit organization is officially controlled and managed by its board of director. The board of director of a nonprofit organization is usually formed by some of the major donor or their representative. Although the board is having authority to make decision and manage the organization, they do not own the organization. The organization itself is independent from anyone including those managing it. Therefore, board members are not able to sell or transfer their control rights to other and they do not own any valuable that will contribute to organization’s success (Glaeser, 2003). In short, the board of director controls over nonprofit organization yet does not own and entitled to the profit distribution.

4.1.4 Assets Distribution

As provided by the Public Sector Accounting Standard Board of the Australian Accounting Research Foundation and Australian Accounting Standard Board (1995), asset can be defined as the future economic benefits that controlled by the organizations due to past transactions or other past events. This means that it is something that will benefit the organization for achieving the organization’s objectives. This is due to in achieving their objectives; both profit and nonprofit organization use assets to provide goods and services that will satisfy people needs and wants.

In profit organization, the assets are used to provide goods and services. Organization’s objective to maximize profit is achieved through the benefits received from the sale of these goods and service. Besides, the sale of the assets can also benefit the organization toward achieving profit maximization. In profit organizations, all the assets in the organizations belong to the business owners as the assets are bought by using the capital contributed by the owners. Therefore, while a profit organization is dissolved, organization’s assets or the money from the sale of assets will be distributed to the organizations’ owners in accordance to the proportion of shares owned or the percentage of their ownership in the organizations.

However, in nonprofit organization, assets are used to provide goods or services to fulfill the needs and wants of the needy without charges rather than to receive profit. In nonprofit organization, all the assets are belongs to the organizations. No personal is entitled to claim for the assets in a nonprofit organization. When a nonprofit organization is being dissolves, all the assets will be transferred or donated to another nonprofit organization. Therefore, one who is likely to earn money will invest in profit organizations rather than nonprofit organizations due to the restriction of nonprofit organizations in handling their assets.

4.1.5 Profit Distribution

The next difference between profit and nonprofit organization is in term of profit distribution. The business owners in a profit organization are entitled to realize gains from their organization. When a profit organization has good performance or has surplus of money from sale for current period, the excessive gain is allowed to be distributed to the owners of the organization. In general, the business profit is going to be distributed in three ways as corporate profits taxes, corporate profits and dividends. According to commercial law, portion of the business profit would be charged as taxes and collected by Inland Revenue Board to finance the operation of government. Whereby, part of the business profit will be distributed to business owners or shareholders in the form of dividend in accordance to the percentage of ownership or shares own by them. The dividend will be given annually, for every six months or for every quarter depending on the practice of the organization. Whereas, the remaining undistributed profit will be classify as retained earnings. The retained earnings will neither be paid as company tax nor be paid to shareholders as dividends. Indeed, they are the income earned but not received by shareholders.

On the other way round, there is no practice of profit distribution occur in any nonprofit organization. This is because the profit earned by nonprofit organization is not subjected to any person and therefore will not be distributed instead of retransfer back to the organizations. These profits are then being used to pay for the operating expenses incur for the organizations like salary of employees, utilities and other administrative expenses. As mentioned by Glaser (2003), nonprofit organization cannot disburse profits to its members either board of director or employees as this constraint prevent nonprofit organization to cheat on customers and workers. It is very important that all funds raised by nonprofit organizations remain in the organization. This is because nonprofit organization only acts as the agent to help in managing the public money for welfare purpose. All the funds are needed for accomplishing the specific organizations’ objectives to meet society’s needs rather than for other purposes.

4.1.6 Human Resource Management

Employees are essential asset for all organizations and are categorized as organization’s human capital. Employees help in running organization’s daily operation, improving organization’s efficiency, promoting organization’s growth and development and achieving organization’s success. Hence, it is very important for organization to hire good and suitable employees to the organization. However, in current situation, both profit and nonprofit organizations are dealing with pressure in hiring diverse employees. Profit organizations usually found to be easier in recruiting employees. This is because profit organizations would normally have sufficient resources to attract talent people to work for them. They can afford to pay high salaries, bonuses and offer other benefits to employees like equity in the companies, authority and other monetary and non-monetary benefits.

On the other hand, in current funding environment, nonprofits are especially hard pressed to fund operating expenses. In order to maximize the usage of fund for social welfare, nonprofit organizations are required to minimize their operating cost. Therefore, nonprofit organizations are very difficult to afford to attract employees through monetary incentives. Therefore, with limited resources, nonprofit organizations cannot attract and retain employees easily. Furthermore, nonprofit organizations do not have shares and thus unable to offer share option to their employees. Hence, most of the employees in nonprofit organizations are the people who have passion and willing in helping and serving the nations. They work for their inspiration instead of money return. However, in reality, it is very difficult to search for these volunteer to work in the nonprofit organization.

4.1.7 Accounting Treatment Tax

Profit organizations are registered as the business entity and required to pay taxes on their net income from business. Different types of organizations are subjected to different kind of tax and tax rates. For instance, owners of sole proprietorship and partnership are subject to personal tax instead of corporate tax for owners of companies. On the other hand, nonprofit organizations have tax privileges (Glaeser, 2003). Nonprofit organization may be exempted from tax if the nonprofit organizations’ objectives are to promote social welfare. Government would intend to help those nonprofit organizations to minimize their costs through tax exemption. Therefore, donations given to nonprofit organizations are tax deductible (Glaeser, 2003). This is because government hopes that by doing so, nonprofit organizations would free from tax burden (Glaeser, 2003) and have more funds to be allocated to activities for the social welfare and helping the country to serve and develop the nations. However, nonprofit organizations will still being assessed for taxes for those that are not in the main organizations’ scope such as real estate tax and sales tax. Different in tax treatment for profit and nonprofit organizations have led to different accounting treatments for these two organizations. Furthermore, these tax benefits are at the heart of nonprofit status and these tax deductibility allows nonprofit organizations owes its strength and to be more compatible (Glaeser, 2003). Balance Sheet

Every registered organization in Malaysia is required by regulations to prepare balance sheet at least once in a year. A balance sheet is a summary of an organization’s accounts. It consists of assets (everything owned by organization), liabilities (everything owed by organization to others) and equity (everything owed to shareholders include both common and preferred stock). Balance sheet provides an overview to the statement users on the organization’s financial position. Nonprofit organizations do not use balance sheet instead they are using "statement of financial position" in which current FRS has also required all the companies to change the term from balance sheet to statement of financial position in their annual report. Nonprofit organizations’ statement of financial position is only emphasized on the assets and liabilities of the organizations. As there are no owners, the statement of financial position of nonprofit organizations does not include equity part. Income Statement

Beside balance sheet, profit organizations are also required to prepare income statement yearly. An income statement consists of organization’s revenues, expenses, profits and losses. Income statement allows statement users to understand the financial performance of an organization on how the organization generates income and manages the operation and administration cost. The profit organizations’ value and share price will be affected by the result of assessment on income statement. On the other way round, nonprofit organizations do not produce income statement. Nonprofit organizations prepare a statement of activities for each quarter that shows the organization’s revenue, expenses, plus net asset.

4.2 The Issues Faced by Nonprofit Organization

It is always not an easy task to manage an organization especially a nonprofit organization. This is because there are many matters and issues need to be considered deeply before making decision for the operation of an organization. Once any significant terms are not taking into account, the decision made may lead the organization to poor condition, facing legal obligation and even liquidation. Therefore, it is important for a nonprofit organization to know about the issues that they need to deal with in order to come out with suitable solution that can lead the organization for continuous growth. The following are some issues that require further consideration.

4.2.1 Fundraising

Funding is an important element for both profit and nonprofit organizations for sustain and survival (Werosh, 2008). This is because the operation and administration activities of an organization require fund to process. Without sufficient fund, many organizations especially nonprofit cannot maintain their operations to provide necessary services to our society (Werosh, 2008). As nonprofit organizations are not aimed to generate profit to the organizations, they obtain fund through fundraising activities in order to finance their operations and activities. However, due to the rapid growth of the number of nonprofit organizations in seeking the limited financial resources, the competition is increase intensively and cause nonprofit to be harder in achieving long term financial stability (Frumkin and Kim, 2001). Fundraising by nonprofit organization is challenging during the good economic condition and especially more challenging during economic downturn (Kurre, 2010). At the same time, the success of a nonprofit organization in raising fund will enable the growth of the organization and effective fundraiser will increase the networking and relation with donors. Thus, most of the nonprofit organizations now seek fundraising as the critical activities in their organization.

However, this trend has become the concern of public on nonprofit organization as they worry that nonprofit organization may spend more resources on unproductive fundraising activities in order to attract more donations in which the used resources can otherwise be spent productively in delivering goods and services to public (Yurenka, 2007). People are concern with the focus of a nonprofit organization will be twisted when the organization is too emphasis on fundraising activities and neglect its main duties for the society. Undeniable the main purpose of a nonprofit organization is to provide goods and services that will fulfill the needs of society which will not be satisfied by other parties. At the same time, the important of fundraising activities cannot be denied as they actually act as the supplement or support for the organization to provide goods and services to meet society’s needs. Therefore, both of them are remain equally important. The nonprofit organization is responsible to balance itself among both of these efforts.

Furthermore, the worried of more resources will be allocated to fundraising activities rather than to meet organization’s objectives can be vanished. From several previous researches including research done by Yurenka (2007), they had shown that fundraising and donation tend to have a positive relationship. This means that the fundraising activities can generate more donations and eventually the expenditure of fundraising activities can be cover up by these additional donations. Therefore, there will be more fund can be utilized in order to achieve organization’s objective to fulfill the needs of society. Fundraising expenses are only a small portion of donations received. Besides that, Yurenka (2007) have discovered that the demands for donation are downward sloping. This is because the more amounts the organization has to pay for a single donation, the fewer donations will be demand. Hence, a nonprofit organization will only search for the donations within the limit that the organization can afford. Thus, a nonprofit will not continuing financing the fundraising activities till the main objectives of the organization be abandoned.

Moreover, some nonprofit organizations are also facing problem in identifying suitable sources of funds in the fundraising activities for their organizations. This is because they are uncertain on which sources are more appropriate and more reliable to depend on. Some sources are reliable but not easy to obtain and difficult to maintain continuous funding. Some cannot be relied on but are able be obtained easily as long as fulfilling the requirements. Therefore, nonprofit organizations need to investigate and analyze carefully for the most suitable sources of funds for their organization to ensure their organization’s sustainability. There are some common sources where the nonprofit organizations can obtain funding for their operation. Nonprofit organizations can collect fund from donors, grants, fee for service, special events and in kind donations. Donor Appeals

Donor appeals are the main sources of fund for most of the nonprofit organizations. Therefore, it was found that nonprofit organizations tend to focus on donors’ motivation in their fundraising activities (Frumkin and Kim, 2001). It is very important for a nonprofit organization to identify the interested donors who care about the same things as the organization does and persuade them to donate or contribute to the organization’s fund. Donor appeals can be taken in several alternatives like campaigns, direct mail solicitations, telemarketing, door to door distribution, direct response press advertisement and newsletter appeals. This path is easier compare to other alternatives in obtaining fund as donors can be found anywhere. However, it is also difficult to maintain the donation from one donor because this is influence by the donor management of the organization. Grants

Grant is another important source of revenue for some nonprofit organizations. However, nonprofit organizations cannot rely too heavily on this source as it is not a stable financial resource. Besides, it is not easy for an organization to obtain a grant. The nonprofit organizations are required to compete with each other to win the willingness of foundations to fund their organizations. Sometimes, organizations even need to compete with each other intensively for only a limited fund. Therefore, there is no guarantee that the organizations will obtain fund successfully through this way. Hence, it is better for the nonprofit organizations to think out of other sources for fundraising rather than sole focus on this path. Fee for Services

Some nonprofit organizations carry out some suitable fee-for-service arrangement in order to collect fund for their operations and activities. The funds can be obtained through collection of participation fee or registration fee for some campaigns and programs organized by the organizations. This method is easy to be operated but cannot be relied on as members’ participation cannot be guaranteed. Special Events

Special events are another useful mechanism for raising fund by nonprofit organizations. This is because through special events, nonprofit organizations have the opportunity to get free advertising to attract more potential new donors. Events like banquets, parties and balls are organized and some individuals are invited to the events. Individuals would normally require to pay to attend the events and the payments would consider as the supports contributed to the organizations. The nonprofit organizations would usually invite their supporters to the events with the hope that they would invited or bring along potential new donors to this events and enable them to learn about the organizations’ objectives. In-Kind Donation

Non-monetary donation can help the nonprofit organizations as well. The donation of goods and services by individuals or businesses can reduce the need of nonprofit organizations to purchase those products with cash reserves. Therefore, those saved money can be used for social welfare programs and activities and thus achieve the organizations’ objectives better.

4.2.2 Donors Management

Even there are many ways in obtaining fund, nonprofit organizations are still facing great challenge in attracting the potential donors and maintain the existing donors. This is because the nonprofit organizations do not employed useful steps in acquiring and serving their donors. Some nonprofit organization lack of ability in creating attention and attract donors to finance them. Even they have successfully attract some donations, they loss the donations in later time due to their poor donors’ management. In the effort to attract donors, nonprofit organizations would need to know about the appropriate and effective ways to attract a donor. This is because donors are rarely come on their own instead of successfully being persuaded by the organizations. Therefore, in order to attract donors successfully, nonprofit organizations would first need to communicate with the donors about the organizations’ purposes and objectives.

People would not simply donate to an organization based on one’s saying. Donors’ intentions to donate to the organization are usually due to their belief on the organization’s objectives and the ability to meet the objectives. The simplest way to inform them about these is by communication either orally or through documentation. The organizations need to tell about the organizations’ objectives, the ways on how the organizations achieve their goals and how successful the organizations can do. This is because donors will consider about the financial report of performance and financial information as important element to make their donation decision on which organization is to be supported (Zainon et al., 2011). Besides the financial elements, other non-financial factors such as the efficiency of the organization, the nature of activities and work carried out by the organization are also other important element to be considered for (Zainon et al., 2011). The information delivered is needed to be repeated frequently so that the audients or readers would remember them. Besides that, quality supporting materials are also needed to help to provide evidence on the saying and impress the donor. According to Zainon et al. (2011), based on the assessment of sufficient information on the organization, the willingness and decision to support the organization in the future will be made by donors. Therefore, nonprofit organization would need to provide and deliver adequate information to donors as the basis for their decision.

Besides that, fundraising activities should be continue and carry on after a particular donation is received. In order to maintain donors to become a repeat and continuous donor, follow up actions after donation are very important. After the nonprofit organizations receive donations from donors, the organizations should at least convey their thanks in writing and send to the donors. Besides, personal contacts through phone or in person are necessary to the generous donor. This effort will cause the donors to feel their contributions to the organizations are being appreciated. Moreover, the organizations need to tell and inform the donors on how they spend the money. The purposes and impacts on the use of money needed to be explained to the donors to enable them to understand the entrusted money are used in the proper ways. The demonstration of donor implication enhance the donors’ confident toward the nonprofit organizations.

Moreover, build a great and firm relationship between the nonprofit organizations and the donors is also take an important part. Donors usually do not like to just contribute to the organizations’ financial. They are likely to be more involved in the organizations and feel more connected to the organizations. As the donors feel being parts of the organizations, they are more willing and passionate in helping the organizations. Thus, personal contact with donors is necessary to discuss together about the organizations’ goals and future plans. Through better understanding on the organizations, donors would usually giving additional contributions to finance more activities in the organizations.

Donor achievement recognition is additional effort to encourage the donors to increase their contribution. Like usual people, donors would be happy when they being recognized and being appreciated. Therefore many nonprofit organizations have classified their donors into various levels like silver, gold and platinum donors. This provides an opportunity to the donors to increase their levels and recognition through more funding. Appropriate recognition make donors feel their contribution is notified and taken care of by others. Thus, these enhance the relationship between the organization and its donors and ensure long run moral and financial support from the donors to the organization.

4.2.3 Ethic in Nonprofit Organization

Nonprofit organizations are the agencies being entrusted to manage funds and donations from the donors. The purpose of their existence is fulfilling the social needs and promoting social welfare. In this context, the board members will act as the trustees, who have the legal duties to make use of these assets for accomplishing their organization’s goals. In order to achieve objectives of the organization, capital is required to finance activities in the organization. Thus, different amount of funds are channeling from various paths, various sources and multiple locations to the organization for supporting organization’s operation.

The accumulated funds that reach to the organization are usually in a huge amount and can be million or billion dollars. At this moment, it becomes a great challenge to the members of the organization to be ethic in handling this great amount of asset. When associates with this huge amount of funds, the members of the organization have to ensure that they can behave in the truthful and honest manner. They have to prevent their greed to override their mind so that they would not cause unwanted event to happen. It is the responsibility of the members to ensure that they are ethic in all the games and make all their jobs transparent and ready for inspection at all time as they choose to be part of the nonprofit.

It is very important for a nonprofit organization to be ethical. By being ethical and integrity allows the organization to earn trust of donors for more financial and moral support. This is because donors need to make sure that the nonprofit organization is using the resources for the proper purpose and is financially efficient in using and allocating the resources (Zainon et al., 2011). Donors will be more generous to donate to a trustable and good reputation organization with the belief that the organization will use their money properly in the correct way. Besides, the donors are also likely to reinvest and recommended to others an organization when the organization has shown that they can be believed on and accountable for their actions. Hence, nonprofit organization is responsible to manage the resources entrusted to them by means of accountability (Zainon et al., 2011).

In addition to that, the most serious threat to nonprofit organizations is the disappointment of public confidence and betrayed of public trust. They can lead to very serious consequences to the organization and eventually liquidation. However, over the years, there are still so many cases about unethical behavior of the managing people in nonprofit organization are arisen. Those entrusted people have stepped down the trust putting on them by public at large for managing the fund as they misuse their authority for their self-interest. It is common to heard that those involve in the unethical issues are came from higher management of the nonprofit organization like chief executive and board of directors. Due to their high position in the organization, they can manipulate the money without realize by other members. Even worst in some organizations, all the members in the board make collusion to misappropriate the monies. Therefore, the integrity of the nonprofit organizations is very significant.

The organization itself should have some rules that would govern and guide the members in the organization so that they are working in the proper way and in accordance to the rules. Codes of ethic should be implemented in the work place to provide employees, volunteers and board members with guidelines for being ethical in conducting their works on behalf of the organization. Honesty, integrity, fair and truthful is the basis requirements to earn public trust. A code of ethics is then a tool to help the members to express these values in their works. Furthermore, inspections should be carried out periodically by authorized officers to check on the operation of the organizations and the activities of their members when associate with the assets of the organizations. Frequent checking will aware and remind the members to behave properly in their works on behalf of the organization as they are being guarded for every act they have done. Most importantly, every members of the organization should have self-awareness, self-conscious and instill ethical values in their minds. As being an ethical person in jobs, the person will eventually be ethical in his or her living.

4.2.4 Litigation

Being an organization which operates based on the public trust, nonprofit organizations need to understand the potential risk that will be faced by the organization and possible claim that will be made against the organization. There are several legal claims that have frequently troubles the nonprofit organizations. These claims are usually the lawsuits that related with the contract dispute, employment claims and personal injury. The lack of clear and specific regulations that spell out how should the nonprofit organizations operate and being managed have created a lot of argument and misunderstanding among various parties such as donor, public officer, members of organizations and others related parties. Therefore, nonprofit organizations need to obtain sufficient and useful information regarding those legal matters to enable them to perform better in dealing with these kinds of problems and prevent these problems to happen. Contract Dispute

Among the common problems that result in lawsuit against a nonprofit organization, dispute over an agreements or contracts are most frequently happen. This is because contracts or agreements will often being made as transactions occur in every day. Transactions like hiring contractors, purchase of assets and the renting of business space for operation will require both parties to take and hire a legal binding contract. According to Pakroo (2011), a legal contract is created after the organization sign a lengthy document or just makes an oral agreement with a handshake. Once the contract or agreement exist, one party will probable being sued by another party for failing to fulfill the contract conditions or break of contract at any time. The party that being taken legal action of will usually be required to perform the duties or tasks that have been promised during making the mutual contract or in some situation paying a big sum of money damages to the other party to recover their loss. When the other contractual party has proven the existence of the agreements and the action of nonprofit organization had has that jeopardize the conditions in the contract, then the nonprofit organization will be in a deep trouble. While the lawsuit incur, nonprofit organization not only need to perform what they should be in breach of the contract, at the same time will face the doubt of losing its donors’ trust and confident toward the organization. This is because the donors may be dubious on the organization’s management strategy, policies and ability to achieving the organization’s objective and hence influence their future donation decision. Thus, it is better for a nonprofit organization to consider all the detail of the contract carefully before enter into a legal agreement or deal in order to safeguard itself from future unnecessary claims. The nonprofit organization should also anticipate with any single confusion or disagreement before they turn into worsen situation (Pakroo, 2011). Employment claim

Employees are often the valued human capital to nonprofit organization. This is because beside helpful and contribute to the organization, employees in nonprofit organization often have more passion in their work and share common value for achieving organization’s objective. Moreover, the employees work in nonprofit will usually realize on their duties that carry great responsibility to the society. However, nonprofit organization will also need to be especially careful when dealing with the employees because employees will also be one of the risks that will put the organization in danger position. Similar to the profit organization, the most common employment claims that faced by nonprofit organization are wrong termination, discrimination, wage and hour dispute and sexual harassment.

Most of the employees especially nonprofit organizations’ employees are usually being hired at will, in which the employees can choose to leave or being dismissed by the employers at any time for any legal reason (Pakroo, 2011). Besides, the employment contract is often been made under the best interest for both parties. However, the recruitment will eventually lead nonprofit organizations into nightmare when wrongful termination lawsuit comes around. As profit organization, a nonprofit organization is not allow to terminate its employees without propel and legal reasons or else the employees can file a lawsuit against the organization (Pakroo, 2011). Termination due to the reasons of employee’s gender, race, religious and other protected characteristic are strictly prohibited. Other than that, in some termination, the employees will take advantages on the organization to earn up "extra benefit" before leaving the organization. Therefore, it is important for nonprofit organizations to watch out carefully and be detail in arranging the employment contract to prevent this kind of trouble in the future.

In Malaysia, federal law has giving the protection to employees in order to protect them for not to being discriminated in their employment based on races, gender, religion, age, citizenship and physical health condition (Pakroo, 2011). Therefore, nonprofit organizations should be very careful in handling its workers in this multi ethic country. This is because a slight misstep may raise sensitive issue among different ethic and cause the organization to be claim for discrimination against the employees. Thus, the matters like hiring, firing, salary payment, job or shift assignment should be provided fairly among the employees based on their ability and the chances of promotions and training opportunity should be given to employees equally with no self-sided feeling.

Moreover, wages and hours claim is another fundamental matter to deal with especially for nonprofit organizations where the wages paid to employees are already lower than other sectors. Therefore, the employees will tend to taken care of their well benefits more. In legal aspect, nonprofit organizations are also required to compile to the rule for rewarding their workers. Hence, nonprofit organizations are reminded to be extra cautious in classifying part time and full time workers, paying overtime wages and pay leave of their employees.

Last but not least, sexual harassment is another type of employee-related claim that will put the nonprofit organization at risk. According to Pakroo (2011), sexual harassment is undesirable sexual conduct on the job that creates an unapproachable, unfriendly or offensive work environment for one or more employees. "Quid pro quo" which means deals, is one type of sexual harassment where a worker is asked to comply with some sex-based request or face negative consequences like termination, punishment or others. When the worker is scare of the negative consequence to happen, she will force to agree with the deal to safeguard herself from the negative consequences. In some situation, even though there is absence of such demands in the organization, sexual harassment litigation will still be created if the working environment creates an uncomfortable atmosphere to the other gender in which sexual jokes, pictures, allusions, or comments are allowed to continue in the organization. Therefore, as an entity that is responsible to protecting the social welfare, this kind of litigation is especially harmful to a nonprofit organization. This is because the nonprofit organization will fail to convince others about its roles in helping the nation and promoting social well-being if itself does not show the good and appropriate practices internally. Personal Injury Lawsuit

Litigation about personal injury is no common but still potentially occurs in nonprofit organizations. As long as people are employed for work in nonprofit organization or people are around the nonprofit organization, then the organization will incur a risk of personal injury for these people. The injury claim not only cover up the physically injury but also including the financial loss incur, emotional distress or damage to other’s reputation. As far as any of these injuries occur, no matter it is happen intentionally or unintentionally, the nonprofit organization is still liable for the harm caused to other. The organization will need to compensate the people involved in the injury or their family financially. For instance, one of the workers in a nonprofit organization leaves a toolbox at the side on a table and a visitor comes and is hit by the tools which are dropped due to the sudden fallen of toolbox, then the visitors may filed a personal injury lawsuit against the nonprofit organization to recover his medical bills and compensate for his pain and suffering. Other than that, the untrue information reveal by a nonprofit organization unintentionally against someone may also cause the related person to file a lawsuit on the organization for ruining his or her reputation. Therefore, nonprofit organization should be extreme careful in every single things that it deals with in order to prevent the future unproductive obligation that will lead to the consumption of nonprofit organization’s resources.

4.2.4 Restriction of Laws

In most countries, nonprofit organizations would normally being encouraged and supported by their government. This is because nonprofit organizations have given big contribution in developing the nations. Their roles in promoting social welfare, enhance social stability and lessen social difficulty have built up better living to the people. However, even government has giving support to nonprofit organizations that promote social welfare, some laws and regulations may still be the obstacle for nonprofit in fully achieving their aims. States Law

All states are governing by state government through state laws and these state laws are different for each state. Hence, nonprofit organizations have to obey the laws enacted in the state that they incorporated. In some states, the state laws have specifically required nonprofit organizations to show their accountability and transparency through fulfilling the requirements specified in the laws. For instance, nonprofit organizations need to register their organizations by following the conditions and have to conduct annual reporting according to standards. Besides, nonprofit organizations may have to disclose several documents to the public or make the documents available or accessible by the public online as mentioned in state laws to ensure their financial transparency.

These requirements specified in state laws make the formation of a nonprofit organization harder. Moreover, nonprofit organizations may suffer for complicated accounting and reporting procedures as they need to inquire more steps and additional efforts in preparing their financial statements. The sophisticated process not only causes higher cost for disclosing their financial result and is time consuming for nonprofit to prepare their accounts. However, nonprofit organizations have to look into other perspective. Even though these strict requirements have caused burden to nonprofit organization, but through these legal requirements the accountability of nonprofit to donors can be improved and more disclosure of information to public can be achieved (Zainon et al., 2011). The transparency of a nonprofit organization may increase public trust and confidence toward the organization and thus improve the receipt of donation in the future. Although most of the state laws have required nonprofit organizations to present themselves in most of the aspects, the state laws do not specifically require the nonprofit organizations to have code of ethic for their organizations which will be the most vital element for a nonprofit organization to ensure their integrity. Sarbanes Oxley Act 2002

Currently, one of the most influential laws that affecting nonprofit organizations is Sarbanes Oxley Act 2002, which strictly require the accountability of public listed organizations. The two influential provisions to nonprofit organizations are a) prohibition against destruction of documents that are tied to a criminal investigation and b) a prohibition of retaliation against whistleblowers. The following are some requirements of this act and are relevant to nonprofit organizations.

Independent and Competent Audit Committee

The Sarbanes-Oxley Act requires that every members of the organization’s audit committee must be the members in board of directors, not involved in the organization’s management and not receiving fee for auditing. One of the members in the audit committee has to be the financial expert. However, there are no standard requirements saying that nonprofit organizations should carry out full audit for their accounts. Therefore, it is the responsibility of the nonprofit organizations to consider whether to conduct audit to provide assurance for their financial statements through cost and benefit analysis. As the cost of audit is quite expensive, those affordable to conduct audit would normally the medium or large nonprofit organizations. For those nonprofit organizations that conduct annual audits, it is necessary for the board to ensure the independence of the audit committee. Besides that, it is important to make sure that the members of the committee have financial competency to understand and evaluate the financial statements, audit the accounts and make suitable financial decision. The decision made should then be review periodically by the board. For those nonprofit who do not conduct audit, the boards have to establish at least the financial committees. Besides, they should at least choose a review for their financial statements or hire professional accountant to manage their financial statements.

Responsibilities of Auditors

As provided in Sarbanes-Oxley Act, all organizations include profit and nonprofit organizations should change their audit partner for every five years to ensure proper financial practices and prevent collusion among the organizations to counterfeit the accounts. Besides that, the nonprofits organizations should not employ the same auditing firm for undertaking other non-audit services such as bookkeeping, financial information systems, consultation, and other expert services on behalf of that organization. Moreover, the significant accounting policies and practices and discussion with management should be disclosed to organization’s audit committee by the auditing firm. This will enable the committee to oversee the organization more effectively and provide higher transparency.

Certified Financial Statements

According to Sarbanes-Oxley Act, the chief executive officer (CEO) and the chief financial officer (CFO) must certify on the appropriateness of financial statements and fair presentation of the financial condition and operations of the company. They are liable for the certification and will be penalty for impropriate and false certification. This provision is to ensure that the members of the organizations will carry out their duties to ensure proper preparation of financial statements and check those statements for accuracy before publish them out. Likewise, a nonprofit organization’s CEO and CFO should certify the financial statements. However, they will not liable for the accuracy of their financial statements. On the other way round, they sign-off to show they understand on the organization’s financial condition. The CEO must acquire the knowledge related with the organization’s field, excel in raising fund and equip with other related skills that will help him or her to understand the financial statements. If he or she lack of financial ability to do so, he or she must then hire a qualified personnel as CFO to assist this task. Even the CEO and CFO of nonprofit organizations do not liable for their certification on financial statements; their signs give assurance that they have checked the statements with due care and the statements are free from material misstatements. Beside financial statements, Form 990 or 990-PF is another important financial document to a nonprofit organization. This document must be filled completely and accurately, checked, reviewed, signed off and approved before sent to the related agency.

Insider Transactions and Conflicts of Interest

The Sarbanes-Oxley Act completely prohibits the insider transactions that involve loans to the organizations’ members. This is because it will usually generate further problems related with conflict of interest. Even nonprofit organizations do not have the practice to give loan to insiders; this provision is still applicable to nonprofit organizations to prevent any occurrence of this activity. If such loans are given, the nonprofit organizations must first receive the approval by the board and document the processes, values and terms of that loan clearly. Besides, the organizations must then have the conflict of interest policy with disclose to guide the board and members of the organizations for making decision independently. As nonprofit organizations’ financial transactions are highly controlled for transparency, insider transaction is strongly not recommended.


Even many of the requirements of Sarbanes-Oxley Act on the disclosure of organizations do not apply to nonprofit organizations; they are required to fill Forms 990 or 990-PF and make it available for access by everybody. The purpose of this law is to request nonprofit organizations to provide their donors, clients, public and others with a precise picture of their financial condition. However, the weakness of this law is that the form is usually not filled accurately and completely and is not received timely. This is due to lack of strict enforcement of this requirement and thus provides the opportunity to some organizations to play trick on this.

Whistle-Blower Protection

Sarbanes-Oxley Act provides new protections to whistle blowers and gives punishments to those taken action to whistle blower to prevent them to reveal the true. The protections apply not only to the whistle blowers’ job, safety and life; it also extends to the whistle blowers’ family when necessary. This provision applies to both profit and nonprofit organizations to prevent anyone in the organization to take action against other that unseal their mistake. As profit organizations, nonprofits should develop a formal procedure to handle employee’s complaint and avoid reprisal. The complaints must be taken into consideration seriously, being investigated, being justified and solved effectively. Moreover, a confidential mechanism must be developed to encourage those witness the irregulaties to make a report. This effort is to protect the person who reveals the true from any harm and punishment. At the same time, nonprofit organizations will start to protect themselves by eliminating any careless and irresponsible practices that will be revealed by other. Through the protection of this Act that encourage disclose of improper conduct, the transparency and integrity of nonprofit organizations increase.

Document Destruction

According to Sarbanes-Oxley Act, the destruction which includes alter, cover up, falsify or destroy the litigation-related documents to prevent its use in an official proceeding is an offend. The Act gives great attention on document destruction and seems it as a process that must be monitored, justified, and carefully managed. Therefore, like profit organizations, nonprofit organizations also have to maintain appropriate records and documentations for their operations. The necessary documents include records for financial transactions, contract, fundraising obligations, employment file and others influential information. In order to prevent document destruction, nonprofit organizations should enforce their own policy to guide and regulate their members to ensure proper dealing with the documents. False documentations will be a serious crime to nonprofit organizations.

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Major Differences Between Profit And Nonprofit Organization Finance Essay. (2017, Jun 26). Retrieved December 9, 2022 , from

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