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Nonprofit Budgeting 101
Nonprofit budgeting may be a source of dread for many, but there are ways to make the process (and outcome!) much better.
Forget about the numbers for a second. A well-crafted budget is a reflection of your mission and a roadmap to financial sustainability. It helps you communicate how you’re going to make the difference you want to see in the world. It can be a tool to galvanize your team, community, and supporters.
Keeping that in mind, let’s go over what we’ve learned at The Charity CFO While supporting hundreds of nonprofits with their budgets.
If you prefer to watch a video on this topic, check out this webinar on Youtube.
1. Start with Your Mission
Your nonprofit’s budget exists to advance your mission.
The decisions you make about revenue and expenses should always align with your organization’s goals and the impact you’re striving to achieve.
- Use your mission, vision, and values as the compass to guide financial priorities.
- Regularly evaluate whether your budget reflects your strategic goals and KPIs.
- Identify and address areas where budget priorities may drift from mission objectives.
- Incorporate feedback from stakeholders to ensure alignment between financial decisions and community impact.
2. Understand Core Budget Categories
Every nonprofit budget has a few building blocks. Most will include these areas:
- Revenue Streams:
- Diversify your income sources to reduce reliance on a single funder. Incorporate grants, donations, earned revenue from social enterprise activities, and more.
- Keep a clear distinction between restricted and unrestricted funds, ensuring you comply with donor intentions while maintaining operational flexibility.
- Program Expenses:
- These are the costs directly tied to delivering your mission. They often include program supplies, salaries for program staff, and other necessary expenses.
- Administrative Costs:
- Operational essentials such as technology, office supplies, and HR fall into this category. Though sometimes seen as “overhead,” these expenses are vital for keeping your nonprofit running smoothly.
- Fundraising Costs:
- Budget for donor engagement, events, campaigns, and marketing to sustain and grow your funding.
3. Prioritize Cash Flow Management
Even a great budget can fall short without strong cash flow management. Cash flow ensures your organization can meet its obligations month-to-month.
- Plan for Seasonal Fluctuations: Map out expected income and expenses by month to anticipate and prepare for lean periods.
- Build Reserves: Strive for at least 90 days of operating cash on hand to navigate unexpected challenges or delays in funding.
- Monitor Restricted Funds: Ensure compliance with donor restrictions to avoid operational bottlenecks and keep programs funded appropriately.
4. Collaborate Across Teams
Budgeting shouldn’t happen in isolation. Involving key stakeholders ensures transparency and accountability. Plus, collaboration fosters a culture of shared responsibility, ensuring everyone works toward the same goals.
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- Engage Department Heads: Involve program managers and department heads in the budgeting process to give them ownership over their areas’ financial planning. Encourage department heads to regularly review financial reports for greater accountability.
- Encourage Others to Contribute: While leadership teams may be the main point of contact, other employees and stakeholders should certainly contribute their ideas. Provide ways for them to share ideas and feedback in the event their ideas don’t align with the rest of their team. Diversity of opinions can strengthen your budget.
- Provide Financial Literacy Training: To department heads and anyone else in the organization interested in being part of the process and empowering better decision-making.
- Leverage Your Board: The reason your board exists is strategic oversight and supporting your team in these matters. Ensure board members with relevant expertise assist with budget ideas, reviews, and of course partnerships and fundraising.
5. Plan for Growth and Uncertainty
It’s no secret that nonprofits often operate in unpredictable environments, so your budget should be flexible enough to adapt to growth opportunities and unexpected shortages.
- Use Historical Data: Analyze past financial data to identify trends and anticipate future needs.
- Build Flexibility: When possible, leave room in your budget for unexpected opportunities or challenges. A contingency fund can help absorb surprises without derailing your mission.
- Regular Reviews: Regularly compare actual performance against the budget and make adjustments as needed to stay on track.
6. Leverage Technology
Modern technology can simplify budgeting and financial tracking for nonprofits. There’s no reason to do the grunt work when a computer program exists to do it in less time and with more accuracy!
- Use Nonprofit-Specific Tools: Platforms like QuickBooks for Nonprofits or Blackbaud to streamline financial management and reporting.
- Regular Reporting: Develop a system that regularly reports income, expense, and cash flow reports to get real-time insights into your financial health.
- Simplify Visuals: Clear, simple financial reports make it easier for stakeholders to understand and engage with your budget.
7. Communicate the Budget’s Impact
Your budget should be used as a communication tool for donors and stakeholders. Don’t keep it hidden in a folder on your computer, bringing it out only for emergencies or quarterly reports. Make it a regular tool that you refer to in your activities.
- Highlight Outcomes: Show how budget decisions directly drive mission outcomes.
- Use Clear Narratives: Combine visuals and storytelling to connect financial stewardship with the community impact your nonprofit creates.
- Build Donor Trust: Transparency about your budget fosters trust and strengthens donor relationships, encouraging long-term support.
The Charity CFO Can Help Make Budgeting a Breeze
A thoughtful budget is the foundation of your nonprofit’s financial health and mission success. By aligning your budget with your mission, prioritizing cash flow, and leveraging technology, you’ll build a strong, sustainable organization that’s ready to tackle challenges and seize opportunities.
At The Charity CFO, we’re here to help you master nonprofit budgeting. Whether you need help creating a budget, managing cash flow, or aligning your financial plans with your goals, our team is ready to support you.
Ready to take control of your nonprofit’s financial future? Schedule a free consultation with The Charity CFO today and let’s build a budget that empowers your mission.
Unlocking Financial Success: Essential Skills Every Nonprofit Leader Must Master
As a nonprofit leader, you’re passionate about your mission. But to truly make an impact, you need to master the financial skills that will keep your organization thriving. At The Charity CFO, we’ve seen firsthand how understanding these key areas can transform your nonprofit’s financial health. Let’s dive into the essential skills you need to secure your organization’s future.
In this blog, we’re diving into a subject near and dear to our hearts at The Charity CFO – sustainability.
If you prefer, video, check out this presentation right here:
What do we mean by that?
At its core, a nonprofit exists for a mission. You want to serve others, bringing good into the world and meeting specific needs.
But if your nonprofit is not sustainable, whether by struggling financially or burning out your team – the mission will not reach its full potential.
In this blog, we’re breaking down some of the points made in the recent webinar with our CEO Tosha Anderson, and Instrumentl.
What we’ll explore in this blog are three important takeaways:
Key Takeaways
- Financial Red Flags: Nonprofits should be vigilant about red flags such as insufficient unrestricted funding and low cash reserves.
- Importance of Cash Flow: Understanding cash flow is crucial for maintaining operational stability and planning for future growth.
- Strategic Planning for Expansion: Nonprofits must carefully assess their financial health before pursuing programmatic expansion to avoid creating unsustainable funding gaps.
Recognizing Financial Red Flags
Are you keeping a close eye on your nonprofit’s financial vitals? You should be. Two critical red flags to watch for are:
- Insufficient unrestricted funding: Aim for over 50% of your funding to be unrestricted. This gives you the flexibility to allocate resources where they’re needed most.
- Low cash reserves: If you have less than 30 days of cash on hand, you’re living on the edge. Strive for at least 90 days of reserves to buffer against unexpected challenges.
By staying vigilant about these indicators, you can address potential issues before they become crises.
Mastering Cash Flow Management
Your cash flow is the lifeblood of your organization. While budgets and financial statements are important, cash flow should be your primary metric for evaluating financial health. Here’s what you need to do:
- Calculate your daily cash needs by dividing your annual budgeted expenses by 365.
- Monitor your cash flow closely to anticipate challenges and make informed decisions.
- Recognize the seasonal nature of your cash flow, especially if you rely on events or campaigns.
Understanding these patterns will help you plan effectively and avoid cash shortages during lean periods.
Planning Strategically for Growth
When exciting funding opportunities arise, it’s tempting to jump in headfirst. But before you commit to expansion, ask yourself:
- Do we have sufficient cash reserves and operational capacity?
- Can we maintain at least 25% in operating reserves and 90 days of cash on hand?
Taking a measured approach to growth will help you avoid overextending your organization. Develop multi-year financial plans that outline your projections for growth and resource allocation. This strategic approach will ensure your expansion is sustainable in the long run.
Dive deeper: Check out our recent episode of The Modern Nonprofit Podcast where we explored strategic planning in-depth: https://thecharitycfo.com/modern-nonprofit-podcast-vision-directed-strategic-planning/
Building Your Financial Confidence
If finance isn’t your background, don’t worry. Start by focusing on a few key performance indicators (KPIs) that matter most to your organization. Whether it’s cash on hand or program performance, understanding these metrics will give you a clearer picture of your financial health without overwhelming you.
Analyze the factors that influence these KPIs and how they relate to your mission. For instance, if a successful fundraising event boosts your cash flow, identify what made it successful so you can replicate that success in the future.
Your Path to Financial Success
By mastering these skills – recognizing red flags, managing cash flow, planning strategically, and building your financial confidence – you’re setting your nonprofit up for long-term success. At The Charity CFO, we’re committed to helping you navigate these financial waters with confidence.
Remember, financial management doesn’t have to be daunting. By breaking it down into manageable components and focusing on what matters most to your organization, you can make data-driven decisions that align with your mission and drive your impact.
Ready to take your nonprofit’s financial management to the next level? Let’s work together to ensure your organization’s financial future is as bright as its mission.
Get in touch with us here and we’ll chart a parth to long term sustainability for your organization.
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Understanding Unrelated Business Income in Nonprofits
If you know only one thing about 501(c)(3) nonprofit organizations, you probably know that they don’t pay federal taxes on their income.
But what if I told you that’s not always true?
It’s true that due to their uniquely valuable societal contributions, such as charitable actions or educational priorities, nonprofits receive tax exemption for income from activities substantially related to their primary purpose.
However, as detailed in Publication 598 of the Internal Revenue Service, income not directly related to their declared charitable purpose is subject to federal taxation. This is called the unrelated business income tax, or UBIT.
So how do you know if your nonprofit organization has taxable unrelated business income?
We’ll review the core principles of unrelated business income tax (UBIT) rules below, along with examples of income subject to taxation, to help you understand what it is and whether or not it applies to your organization.
What is Unrelated Business Income Tax (UBIT)?
Both federal tax exemption and the eligibility to receive tax-deductible contributions help your nonprofit achieve its charitable goals. But while these benefits have a positive impact on society, they can pose a temptation for some organizations looking to take financial advantage for personal gain.
As a result, Congress implemented the UBIT in 1950 to eliminate the unfair advantage tax exemption gave to nonprofits competing against for-profit entities in the same sector. The tax limits the advantage of nonprofits to their specified charitable purpose and prevents them from exploiting their benefits in the commercial sector.
For example, the UBIT prevents an entity such as a church from using its exempt status to open a store purely for profit with no charitable purpose. This is true even if the church uses those funds to fund programs in the community.
It is not, however, prohibited for your exempt organization to earn unrelated business income. If you receive gross income from an unrelated business reaching $1,000 or more, you simply need to complete and submit IRS Form 990-T and pay the required taxes.
If your organization expects it will need to pay $500 or more in tax for the year, then you must pay a quarterly estimated tax. The Form 990-W helps determine the required amount of estimated tax to pay.
Form 990-T and Form 990-W are in addition to your organization’s annual information return (Form 990, Form 990-EZ, or Form 990-PF).
IRS UBIT Requirements
UBIT rules apply to most organizations that gain tax exemption from section 501(a) of the Internal Revenue Code (IRC). The three main criteria for your tax-exempt entity’s activity to be considered an unrelated business are as follows:
- Your activity is a trade or business that produces income via the selling of goods or services. Even if these activities occur under a greater umbrella of the organization’s tax-exempt purposes, they maintain their identity as unrelated trades or businesses as long as they generate gross incomes from distributing or producing goods or services.
- The activity is regularly carried on, meaning that the organization pursues them with frequency and continuity, similarly to the manner in which non-exempt organizations pursue comparable commercial activities.
- The activity is not substantially related to furthering the organization’s exempt, charitable purpose.
Special Cases & Exceptions
Most tax-exempt organizations must follow the UBIT requirements, including those in social welfare, advocacy, trade, veteran groups, labor organizations, and employee benefits.
However, some special cases fall under modifications, exclusions, or exceptions to unrelated business income, such as:
✔️ Volunteer labor
✔️ Convenience of members
✔️ Sale of donated merchandise or in-kind gifts
✔️ Corporations organized under Acts of Congress and are instrumentalities of the United States
✔️ Some charitable trusts not subject to private foundation taxes
✔️ Dividends
✔️ Interest
✔️ Certain investment income
✔️ Royalties
✔️ Certain rental income
✔️ Certain research activity income
✔️ Gains or losses from property disposition
✔️ Certain bingo games
It can get a bit complicated, but the Form 990-T Instructions give you more specifics on what constitutes an exception and what does not.
What Is Considered Excessive Unrelated Business Income?
Although nonprofits can earn profits from unrelated business activities, these profits can only make up a certain percentage of the nonprofit’s overall income.
This limit is not clearly defined, however. Instead, it is up to the IRS to determine if your percentage of total income coming from UBI is too high. In cases where the IRS is evaluating unrelated business income to determine adequacy, it considers various factors specific to the situation at hand.
Examples of Taxable and Non-Taxable Business Income
Example 1: Selling food and beverages
Related business income: If an organization sells food and beverages to its members, it would be considered part of the entity’s regular operations to further its purpose. The money earned goes towards paying back the expenses used to obtain the food for its members to work on their mission.
Unrelated business income: If the same organization sells food to non-members regularly to make additional profits without working towards its non-exempt purpose, then the income is unrelated and taxable.
Example 2: Charging for parking
Related business income: If an organization has a parking lot and it charges members to use during working hours, then this income is not taxable. The money earned goes toward paying the lot lease and provides a service to members who use their parked time for furthering the purpose of the organization.
Unrelated business income: However, if the entity decides to take advantage of its non-working hours by regularly opening the lot to non-members to turn a profit, then this income is subject to the UBIT. The money is no longer from and for members and is not necessary for furthering the organization’s purpose.
Example 3: Providing pay-for-entry entertainment
Related business income: Consider an organization such as a church that charges admission for a small fair or arcade in which themed games and activities educate the children of members on the church’s views and purpose. This activity specific to members and to the purpose of the church would not fall under UBIT rules.
Unrelated business income: If the same church ran a general arcade next door open to the public and with no educational aspect, then the resulting income would be subject to the UBIT.
Other forms of income which would be susceptible to the UBIT include proceeds from the liquidation of assets, the sale of resources found on the property of the exempt entity, income from paid advertising in the organization’s newsletter or publications, or the sale of unrelated merchandise to the public.
Each of these examples and those described above involve various factors that, if changed, could change the exempt status of the activity in question.
Not Sure If Your Nonprofit Income Is Taxable Or Not?
You should always consult your legal counsel or a qualified accounting professional before making decisions that could cost you a lot of money down the road.
But as a nonprofit, sometimes it’s not easy to find someone to answer your questions. We frequently hear stories of CPAs that don’t return their nonprofit clients’ phone calls or emails. Often, nonprofits get stuffed at the bottom of the pile.
If you’re tired of being the last priority of the financial professionals in your life, consider outsourcing your bookkeeping and accounting to The Charity CFO. We’ll modernize and optimize your accounting system to get you audit-ready financial reports every month.
And our team of former nonprofit CFOs and auditors are available to answer all your most challenging questions about tax liabilities, transparency, compliance, budgeting, and more.
Reach out to us today to see if outsourcing your bookkeeping and accounting can save you time, money, and stress.
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