Should Your Nonprofit Have Reserve Funds?
Absolutely! No ifs, ands, or buts!
Your reserve fund functions as your savings account or rainy-day fund to cover revenue shortfalls or unexpected costs that might arise—especially crucial if you have responsibility for a facility with a roof that will someday need replaced and other things that will invariably break. What happens if it rains the day of your golf tournament or the grant you expected does not arrive in time to pay your employees? You have your reserve funds upon which to draw to continue to operate—or fix the roof.
You can also use this fund like you do your personal savings: to gather resources to take advantage of future opportunities. Perhaps you want to start a new program; your reserve funds allow you to save money to invest in that program’s start up costs. Even if you do not have a new program planned, these funds give you the freedom to dream and act upon that dream much more quickly.
How can you build your reserve funds?
Budget for a surplus each year and put that surplus into an interest-bearing account. Just like you do for your household budget, you want to pay your savings regularly. The same principle applies here. Remember, not-for-profit does not mean “makes no profit”; it means that the profit you make gets reinvested back into your mission rather than your owner or stockholders’ pockets (because you have no owners or stockholders). Your reserve funds allow you to do that.
Use restricted funds first. Often, I hear nonprofit executives question how they can build a reserve fund when many of their grants or gifts come with restrictions for a specific program. True. Use those funds for those programs and use some of the unrestricted funds you receive through other means—special events, individual solicitations, unrestricted gifts—for your reserve fund.
Seek unrestricted funds. Your success at achieving the first two suggestions assumes that you have unrestricted funds that you can put away in reserves. You need to plan for those. Your fund development plan should include a diversity of funding sources and types of funds: both restricted and unrestricted. If you receive too many restricted dollars to put some away, you should make a strategic decision to seek more unrestricted funds.
How much should you have in your reserves?
Ideally, you should set aside at least 3-6 months of operating costs to pay payroll and continue to offer your programs in times of cash flow issues or an emergency. If possible, you should aim to have up to 2 years’ worth of operating expenses in the bank to truly weather a storm. Your board—often through its finance committee—should set goals and policies for your reserve funds.
Can you have too much in your reserves? I think not, but some funders or potential funders may question why you need their money if you have a large cash reserve.
If you have a relatively large operating reserve fund, use that to your advantage when completing the sustainability question in grant applications. The fact that you have 6 months of cash in reserve allows you to continue the program once grant funds expire should your board decide to allocate them in that way, but that you need their grant funds because your board has prudently decided that you need that kind of cash in reserves to assure the long-term health and vitality of the organization. When talking to donors, make the same kind of argument, although your average donor will not scrutinize your financial statements like grant funders will.
