A grant of ₹ 10,00,000 to a school for construction of building, cheque is received on 1st February, 2021 from the state government. While closing the accounts none of the amount is used for construction. While preparing Income and Expenditure Account and Balance Sheet at the end, where such amount will be shown?

Question

Accepted Answer

The correct option is 1:
A grant received by a Non-Profit Organisation (NPO) that is explicitly earmarked for a specific purpose, such as the construction of a building, is classified as a Specific Fund or a Capital Receipt. The fundamental principle of NPO accounting dictates that such a receipt is not treated as revenue income available for general expenditure. Instead, it creates a fiduciary obligation on the part of the school to use the funds solely for the stated purpose. Until the building is constructed and the amount is utilised, the grant must be shown on the **Liabilities side of the Balance Sheet as a separate fund** (e.g., 'Building Fund' or 'Specific Grant Fund'). The receipt of the cheque simultaneously increases the Bank/Cash balance on the Assets side, thereby maintaining the balance sheet equation and properly reflecting the organisation's financial position.

The incorrect option is 2:
Option 2 suggests showing the grant only on the income side of the Income and Expenditure Account. This is incorrect because the grant is a capital receipt, not a revenue receipt. The Income and Expenditure Account is prepared to determine the 'Surplus' or 'Deficit' from revenue items for the period, akin to a Profit and Loss Account. Including a specific-purpose capital grant in the Income and Expenditure Account would wrongly inflate the school's reported surplus for the year. This action would violate the specific nature of the fund and the basic accounting principle of distinguishing between capital and revenue transactions, leading to a misstatement of the organisation's operating results.

The incorrect option is 3:
Option 3 proposes adding the grant to the Capital Fund (or General Fund) on the Liabilities side of the Balance Sheet. This is wrong because the Capital Fund represents the organisation's general, unrestricted funds available for any purpose. Since the grant for building construction has a specific, legally binding restriction on its use and is yet to be spent, it cannot be merged with the general funds. It must be maintained as a distinct, separate fund on the Liabilities side to clearly reflect the specific obligation and ensure the funds are only used for the construction of the building as intended by the state government.

The incorrect option is 4:
Option 4 states that the amount should be shown neither in the Income and Expenditure Account nor in the Balance Sheet. This is a severe error in accounting. Since the school received a cheque for ₹ 10,00,000, this transaction must be fully recorded in the books of accounts. The double-entry system mandates that the cash receipt increases the Bank/Cash account (Asset) and creates the corresponding liability (Building Fund). Excluding this amount would violate the principle of completeness, misrepresent the total assets and liabilities of the school, and ultimately lead to an incomplete Balance Sheet.