Non-Profit organizations are not required to have a balanced budget. The following article is in reference to operating budgets and should not be confused with endowment funds that are accumulated, invested and held in perpetuity the income from which is used to fund the organization.
By definition, nonprofit organizations are not profit-motivated. They exist to fulfill their mission as outlined in their application with the IRS that granted their organization’s exempt status. In fulfilling their missions, there are reasons for balanced budgets, surplus budgets and deficit budgets.
Some believe that the term ‘nonprofit’ implies that it is inappropriate to actually make a profit which is a false assumption. A surplus budget may be used to develop a reserve fund. In order to continually fulfill its mission, it can be desirable to maintain a reserve fund to sustain the organization in years in which its funding goals are not met. Each organization is different, but a starting point to determine how much of a reserve is appropriate is the organization’s fixed costs.
Fixed costs are expenses that cannot be avoided without significant changes to the organization such as payroll, rent, utilities, etc. The organization should determine how long they want to cover such costs with reserve funds while it works to make up for funding short falls. For instance, if an organization has fixed costs totaling $100,000 per year and would like to be able to operate six months without additional funding, the organization would need a reserve fund of $50,000. Other reasons for preparing a surplus budget include planning for future capital asset acquisitions, increased staff and overall expansion of services.
The Deficit Budget
While it is healthy and advisable for an organization to maintain an operating reserve, too large of an operating reserve has a potential to dissuade donors from supporting an organization. Therefore, an organization with significant operating reserves may decide that a little deficit spending is appropriate. For example, an organization may decide to temporarily expand services in order to fulfill its mission or perhaps donate to another organization with a similar mission.
Caution: If your organization does run a deficit, management should not accept easy reassurance that everything is ok. Rather, an understanding of the true reason for the deficit is needed. An unplanned deficit reflects an error in planning and/or execution, while a planned deficit is an investment of accumulated reserves for a strategic purpose.
Make It Intentional
As discussed above, there are very good reasons to budget for a surplus just as there are reasons to occasionally budget for a deficit. At times, a balanced budget may be most appropriate. The key to properly managing the finances of a nonprofit organization is proper planning and continual oversight. The budget should have a strategic reason, not just balanced for the sake of being balanced.
If you would like to discuss your organization’s budgeting process, please call one of our nonprofit organization professionals at 417-881-0145.