Editor's note: This is the second of three articles on financial management for nonprofit organizations.
If you're running a nonprofit, it's important to focus on what's going out as much as what's coming in. Not having a spending policy is a recipe for chaos.
Any nonprofit organization taking distributions from endowment funds, even if they have additional funding sources, should have a written spending policy, said Ronnie Jobe, BOK Financial® institutional investment advisor.
A spending policy is part roadmap, part handbook and part safety net. It defines a spending rate and helps establish target returns for the nonprofit organization and its investment managers.
A spending policy can stand alone or be a subset of an investment policy, but it is a crucial document because spending can be controlled, while investment returns cannot.
"This governs at what rate those endowment funds are spent and ensures the organization will be able to make the same, or greater, impact in the future," Jobe said.
Without guiding documents, each new board member of an organization could push for spending based on their personal judgment and experience. This inconsistency makes it hard for the organization to achieve its goals and communicate priorities to potential donors.
Because the policy clearly outlines appropriate spending, it serves as a safeguard against mistakes—both malicious or human error.
"Sometimes when emergencies happen or unprecedented circumstances arise, a nonprofit could go with their knee-jerk reaction," said Jobe. "Having a policy in place helps eliminate that uncertainty of what to do in an emergency situation."
A spending policy is a constant guidepost to reference when making decisions on expenditures.
Determining a sustainable spending rate that is in alignment with the investment portfolio, and is in alignment with the target returns, can be tricky. The first step for any nonprofit, Jobe said, is to hire a professional to draft the policy to ensure the organization's assets are protected.
"I know there are nonprofits out there saying they're too small, they don't have an endowment and therefore do not take distributions so this doesn't apply. But if the goal is to grow your organization, it's worth being mindful of now," said Jobe.
Not all gifts are welcome
One person's assets can easily be another's liability.
"Sometimes people want to bestow nontraditional gifts to their favorite nonprofit," said Evan Walter, BOK Financial institutional wealth relationship manager. "But that doesn't mean a nonprofit should accept every gift that comes their way."
He said one of the most common occurrences of this challenge is in the settlement of estates. For example, a farmer with no heirs passes away and directs that the farmland in his estate be given to his favorite nonprofit, say a children's hospital. That's a nontraditional gift.
"In this scenario, a children's hospital doesn't have the internal skills, resources or time to effectively manage a farm. To them, it could be a liability, not an asset," said Walter. Having a gift acceptance policy in place allows a nonprofit to diplomatically decline a gift that would expose the nonprofit to undue risk.
Some nontraditional gifts can mean added environmental, legal or tax expenses associated with accepting the gift. A written gift acceptance policy helps to determine what gifts are appropriate, and what criteria will be used to make that determination.
That policy should cover:
- Mission and purpose
- Use of legal counsel by either the donor or organization
- Donor conflicts of interest
- Restricted gifts
- Gift acceptance committee
- Type and form of gift
- Reporting requirements
"When it comes to property gifts, the policy should articulate the steps necessary to analyze and evaluate real estate gifts," Walter added.
In states like Oklahoma, Texas, Kansas, Colorado and New Mexico, these gifts often come in the form of mineral assets.
When it comes to nontraditional gifts, it may be necessary to seek professional advice for environmental, market, valuation, revenue source and taxation issues.
"There are only upsides to having spending and gift policies. Never let the cost of hiring professionals get in the way of not having strong policies," said Walter. "Consider it an investment into a solid foundation so that your nonprofit can continue to grow and thrive."
Part 1: A financial handbook for nonprofits
Part 3: Nonprofits meet new generation of charitable givers