A restricted asset can only be used for a specific purpose, with contractual or legal consequences if not followed. Restrictions can be permanent or temporary, and special accounting procedures are needed. Educational and non-profit institutions commonly accept restricted assets, and they are included in a separate section of financial statements. Municipal bonds and wills can also involve restricted assets.
A restricted asset is an item of value that can only be used for a specific purpose. Failure to use the asset in accordance with the attached limitations has contractual or legal consequences that may include the asset reverting to a previous owner. Restrictions on an asset can be permanent or temporary. Both require special accounting procedures to properly value the asset in light of the limitations on its use and to track compliance with the restrictions in business records.
The notion of restraining an asset was developed as a way to assure a party to a transaction that certain requirements would be met and remain in effect for as long as necessary to fulfill a party’s underlying intent. Restrictions tend to refer to the use of the asset, but can also involve related issues, such as continued ownership by a particular party or an owner maintaining a specific status. There are no limits to the nature of the restrictions that can be placed on an asset when it is transferred to another party. As long as the receiving party accepts the asset with knowledge of the restrictions, it must comply with them or lose the asset.
Educational and non-profit institutions are the most common types of entities that will accept a restricted asset. Donations are often made with specific stipulations regarding use. Institutions are required by law to comply with these stipulations or risk being forced to return the donation. For example, a university might receive a grant specifically earmarked by the donor for a new building. Similarly, a youth organization might receive a grant specifically to fund a scholarship.
A restricted asset is included in the books in a separate section. The assets section of the financial statements for these types of entities will show two separate categories, labeled restricted assets and unrestricted assets. An accountant must apply special valuation rules to restricted assets because the limitation on use affects transferability and value.
Another circumstance that typically involves a restricted asset is the sale of municipal bonds. A municipality offers bonds for sale to the public to raise funds for specific projects, such as the construction of a new convention center. This creates an implicit contract that the funds raised will be used for that purpose only. The government can’t just reallocate those funds to a different project.
Sometimes a person will restrict an asset in a will. For example, a person could restrict the transfer of assets to the name of a minor child until he reaches the age of majority. This is a temporary restriction. By comparison, a will might restrict ownership of an asset to a son-in-law as long as he remains married to the person’s daughter. This is a permanent restriction, and failure to comply will return the asset to the estate.
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