Nonprofit financial management is a unique beast to tackle. While a few of the procedures your organization uses might look similar to the financial management practices of for-profit businesses, the essential rules and goals of financial management differ.
Due to your tax-exempt status, nonprofits like yours are subject to some federal and state regulations that for-profit organizations aren’t, which shapes the way you manage your finances. Additionally, for-profit organizations’ main financial goal is to turn a profit, which your organization by definition isn’t allowed to do. Instead, the purpose of nonprofit financial management is to ensure transparency about how you’re using your funding to further your mission.
To help you get started with financial management at your nonprofit, here are four effective strategies to implement:
- Diversify Your Revenue
- Create an Annual Operating Budget
- Compile Financial Statements
- Establish Policies and Procedures
If you have any questions as you incorporate these strategies into your organization’s day-to-day operations, consider partnering with a nonprofit accountant. Tapping into professional expertise can help you navigate the intricacies of managing your organization’s funding. For now, let’s dive in with an overview of how nonprofits bring in that funding in the first place.
1. Diversify Your Revenue
An additional logistical difference between for-profit and nonprofit financial management is the way each type of organization makes money. While for-profit organizations typically bring in most of their revenue by selling their products or services, nonprofit funding can come from a variety of sources, including:
- Individual donations. These typically make up the bulk of a nonprofit’s funding. They include small, mid-level, and major gifts, as well as event revenue and in-kind contributions.
- Corporate philanthropy. This term refers to the various ways businesses can contribute to nonprofits. Matching gifts, volunteer grants, sponsorships, and workplace giving initiatives all fall into this category.
- Earned income. This type of revenue generation often isn’t associated with nonprofits. However, if your organization sells branded merchandise, rents out your facilities, or has a membership program, earned income is part of your funding mix.
- Grants. Many types of organizations provide nonprofit grants, including government entities, corporations, and private and public foundations. Your organization will typically need to complete an extensive application to secure funding, but if you win a grant, it can help you fund your most critical projects.
By including multiple funding sources in your nonprofit’s revenue generation strategy, you’ll be more likely to achieve financial sustainability. If one source falls through, you’ll be in a better position to make up the lost funding through your other revenue streams.
2. Create an Annual Operating Budget
Your operating budget is the master financial plan that your organization creates at the beginning of each fiscal year. It details all of the revenue you expect to bring in and all of the expenses you’ll incur. This way, you can effectively allocate your funding in order to cover all of your nonprofit’s costs throughout the year.
Most nonprofits organize the revenue side of their budget by source. There are a few ways to categorize the expense side, but according to Jitasa’s nonprofit budgeting guide, the most common method is to separate your program costs (spending that directly furthers your mission) from your overhead costs (funding used to support administrative and fundraising activities).
You may have heard of the 65/35 rule of expense allocation, which states that nonprofits should spend at least 65% of their funding on their programs and no more than 35% on overhead. In reality, this breakdown will look different for every organization. As you create your nonprofit’s operating budget, treat this “rule” as a guideline to find ways to increase your program spending and reduce overhead where possible.
3. Compile Financial Statements
In addition to your budget, your nonprofit’s financial statements are some of the most important documents for effective management. Compiled at the end of each fiscal year, these reports summarize your organization’s financial data to provide applicable insights into your situation.
The four major types of nonprofit financial statements are as follows:
- Statement of activities. The nonprofit parallel to the for-profit income statement, this report breaks down your organization’s revenue, expenses, and net assets, which can be useful for the following year’s budgeting process.
- Statement of financial position. Also known as a balance sheet, this statement categorizes your nonprofit’s assets and liabilities to provide a snapshot of your organization’s current financial health and help you plan for future growth.
- Statement of cash flows. This report shows how cash moves in and out of your nonprofit through operating, investing, and financing activities, giving insight into your organization’s spending and fundraising habits.
- Statement of functional expenses. The one financial statement that’s unique to nonprofits, your functional expense report breaks down your program, administrative, and fundraising costs to detail how your funding is being used to further your mission.
All of these reports will be useful to have on hand when it comes time to file your organization’s annual tax return. Many nonprofits also publish their financial statements in their annual reports to showcase their accountability to supporters and stakeholders.
4. Establish Policies and Procedures
To provide day-to-day financial oversight for your nonprofit, develop an official list of policies and procedures. This way, anyone at your organization who handles funding for any reason will know how to do so properly.
Some of the most important financial policies to establish include the:
- Gift acceptance policy. This guideline details the types of gifts—both monetary and in-kind—that your nonprofit can and can’t accept, as well as the circumstances under which you’ll accept each type of contribution.
- Conflict of interest policy. If a leader or board member at your organization has a personal or business interest that conflicts with their duty to your nonprofit, this policy details the procedure for disclosing the conflict and the steps you’ll take to address it.
- Expense reimbursement. When your employees or volunteers spend their own money on behalf of your cause, you’ll follow the procedure laid out in this policy to reimburse them.
- Employee compensation. This policy outlines how you’ll pay your nonprofit’s staff members for their work. Astron Solutions’ employee compensation guide recommends including indirect compensation such as health insurance and paid time off in your compensation policy along with direct compensation like salaries and bonuses.
Compile all of your organization’s fiscal policies and procedures into a single handbook that you can share across your team. This way, if anyone has questions about how to manage your nonprofit’s finances within their role, they’ll have an official document to reference.
Effective financial management helps your nonprofit run more efficiently day-to-day, holds you accountable to government regulations and your community, and allows you to bring in the funding you need to further your mission. Use the tips above to get started, and don’t hesitate to reach out to experts if you have questions about your organization’s unique financial situation.