Defining Related Party Transactions

As part of our audits, we are required to ask about and disclose transactions with related parties. Anytime a transaction is reflected in a financial statement, it is assumed the buyers and sellers acted independently without one influencing the other. However, this assumption is not justified when transactions are with related parties. Transactions with related parties require disclosure and, in certain cases, special accounting methods.

Related party transactions include:

  • Sales, purchases, and transfers of goods, other assets and services
  • Management, royalty and license agreements
  • Loans and leases
  • Guarantees and compensating balance arrangements
  • Services rendered without charge
  • Transactions between entities with shared board members or parent-subsidiary relationships

You might be thinking, “Who qualifies as a related party?”

According to the Financial Accounting Standards Board (FASB) Codification Glossary, related parties include any person or organization that:

  • Directly or indirectly controls, is controlled by, or is under common control with your organization, such as shared board members or ownership
  • Manages or has principal ownership of your organization, or is an immediate family member of someone that manages or has principal ownership of your organization
  • Has significant influence over the management or operating policies of the transacting parties or has an ownership interest in one of the transacting parties
  • Provides trusts for the benefit of your employees, such as pension and profit-sharing trusts that are managed by or under the trusteeship of management

If your organization is a nonprofit, you must also disclose significant donations from related parties, including your nonprofit’s board members or board members from financial institutions that you hold cash or debt accounts with. These donations can be considered a conflict of interest (COI).

A COI exists when a member/employee might benefit or appear to benefit from a connection or competing loyalties. COIs should be disclosed to the organization and the auditors. It is considered a best practice to report COIs on the Form 990s for nonprofits. SST Accountants & Consultants strongly suggests that your nonprofit requires all your board members sign annual conflict of interest forms.

If your organization would like more assistance in related party transactions and COI clarification, we encourage you to contact the experts at SST Accountants & Consultants for personalized recommendations.