The Budget

The e-Advocate Quarterly Magazine Luke 14:28-30

The Budget

“Helping Individuals, Organizations & Communities Achieve Their Full Potential”

Vol. V, Issue XXI – Q-* Bonus 1 2019

The Advocacy Foundation, Inc. Preparing Individuals, Organizations & Communities to Achi eve Their Full Potential

The Budget

1735 Market Street, Suite 3750 Philadelphia, PA 19102

| 100 Edgewood Avenue, Suite 1690 Atlanta, GA 30303

John C Johnson III, Esq. Founder & CEO

(855) ADVOC8.0 (855) 238-6280 ยง (215) 486-2120 www.TheAdvocacyFoundation.org Page 2 of 47

Page 3 of 47

Biblical Authority ______ Luke 14:28-30 (AMP) 28

For which of you, wishing to build a farm building, does not first sit down and calculate the cost [to see] whether he has sufficient means to finish it?

29

Otherwise, when he has laid the foundation and is unable to complete [the building], all who see it will begin to mock and jeer at him, 30

Saying, This man began to build and was not able (worth enough) to finish.

Page 4 of 47

Page 5 of 47

Table of Contents ______ Biblical Authority I.

Introduction

II.

Budgeting Basics

III. Budgeting Terms and Concepts IV. Internal Controls V. Stewardship and Accountability VI. Financial Statements and Reporting VII. Annual Budget Assessment VIII.Tax Filing ______

Attachment A: Create A Budget That Works for You Attachment B: Budgeting: A Guide for Small Nonprofit Organizations

Page 6 of 47

Page 7 of 47

Introduction The budget process is the way an organization goes about building its budget.

A good budgeting process engages those who are responsible for adhering to the budget and implementing the organization's objectives in creating the budget. Both finance committee and senior staff participation is built into the process and a timeline is established leaving adequate time for research, review, feedback, revisions, etc. before the budget is ready for presentation to the full board. The annual budgeting process should be documented, with tasks, responsibility assignments and deadlines clearly stated.

A good budgeting process also incorporates strategic planning initiatives and stipulates that income is budgeted before expenses. Fixed costs are identified and related to reliable revenue.

Budgeting decisions are driven both by mission priorities and fiscal accountability.

•

Budget for income first. Base income targets on realistic expectations and only include reliable income in the budget. Never include an income projection that simply fills the gap to cover expenses. This sets the organization up for a budget deficit if the organization fails to hit the "plugged" income targets.

•

Take care to understand the impact and timing of restricted contributions and releases on the operating budget.

•

Ensure expenses are lower than the dependable income total. This requires cooperation among all departments in setting organizational and programmatic priorities, timing new or adventuresome programs.

2. Analyze and understand your revenue concentrations.

Steps for developing a good budgeting process were covered in the previous section, The Budgeting Process.

Good budgeting practices: 1. Practice income-based budgeting.

Budgeting is a form of risk management, and the most reliable budgets yielding the best fiscal results for the organization are conservative and income based.

•

This means:

Is your organization overly dependent on single source of revenue? In many cases, lack of diversification of revenue sources can pose a serious risk to the financial stability of an organization should a single large revenue source become unavailable. There is no universally right mix of revenue sources - the right mix for your organization depends on your particular circumstances, your mission, your industry, your staff capacity, and even the age of your organization.

For an organization with little or no earned revenue associated with programs, having 80% of revenue Page 8 of 47

from government sources may make total sense because of reliable, ongoing contracted programming.

are available, even if they don't support identified mission priorities?

•

•

For another organization whose revenue sources appear to be well distributed among earned, government, foundations, corporations and individuals, the realization that 90% of foundation revenue comes from one large grant from a single foundation may still pose a concentration risk.

•

Risk is also present if a big portion of an organization's annual revenue depends on the success of a single fundraising event or annual program event.

The organization must understand the impact a cancellation of the event would have.

3. Confirm your budget's relationship to your mission and long range/strategic goals.

One of the very first tasks in the example budget process provided in the Tools & Tips section of this web site is "Review mission and strategic plan" with the note "Ensure that all strategic initiatives with budget impact are included in budget process." An organization's budget can and should demonstrate its commitment to its mission through numbers. Confirming the budget's relationship to mission requires answering questions such as: •

Does the expense budget reflect the mission priorities of the organization by the way resources are allocated?

•

Are we being pulled off course by going after grants just because they

If we are implementing programs that are not high mission priorities, are they at least contributing substantially to financially support the organization? As an exercise, plot your organization's programs on a Product Portfolio M ap (example below). As long as there is some mission relevance, so called cash cows can support heart & soul programs, but for any that fall in the "problem" area, examine whether that program should be continued.

4. Don't forget infrastructure.

Folks who work for small and midsize nonprofit organizations generally are very hard workers, intensely devoted to mission accomplishment, often working longer hours at lower pay than their for-profit counterparts.

They deserve good tools and will perform even more efficiently and effectively with ongoing professional development opportunities and skills training. (Budget to send them to that Excel class!)

Include information technology upgrades and maintenance, evaluation, and staff development costs in the budget.

High quality programs can best sustain and grow with a well-trained and well-equipped staff, both program and administrative, to support them. Budgeting to provide good pay and benefits for staffers is also a way to keep those well-trained folks with you.

5. Budget for capital in addition to operations.

Page 9 of 47

•

An organizational budget should take into account the organization's annual operating income and expenses, as well as ensuring resources for long-lived and/or nonoperating needs - this is the capital budget. An organizational capital budget might cover several years and it should include target amounts and fundraising strategies to achieve strategic and financial sustainability goals.

*I'll say it anyway: it is best to use the right tool for the right job and let the software work for you. Please, never use word documents for budgeting - it's just plain dangerous •

These could include: • • • • • •

•

creating or increasing an operating reserve deficit reduction furniture, equipment, or software purchases leasehold improvements a building & equipment maintenance and replacement fund a fund to support new program initiatives, experimental pilot programs, etc. a human resource capacity building fund

It goes without saying* that it is best to use a spreadsheet program to build budgets, but if notes are too many or too wordy to fit conveniently into spreadsheet cells, the notes could be written in a word processing document. Whether or not narrative notes are in a separate document, be sure to add letter or number keys to associate each note to the related spreadsheet line.

- the spreadsheet will do a more efficient and accurate job of adding those numbers up and will automatically revise the totals when changes are made.

7. Pay attention to presentation.

An organizational capital budget is different from a capital campaign budget, which is usually for bricks-and-mortar or other finite project(s), although they could be related.

For more about budgeting for capital, see Budgeting for Capital.

Your budget could be brilliant, wellresearched, and well-documented, but if it is unreadable, your work will be undermined. Budgets that are easy to read and understand are well-formatted.

6. Provide narrative notes to explain budget assumptions to the board.

Characteristics of good formatting should include, but not necessarily be limited to:

Board and finance committee members will appreciate explanations to help them understand the underlying thinking behind the numbers in the budget.

•

columns and rows are well-labeled using font size, boldface, and underlines to create emphasis and for clarity,

Page 10 of 47

•

colors used for shading are chosen with black/white printing in mind, as not everyone will have a color printer (lighter color shading under dark fonts or lighter font colors for darker shading - dark fonts over intense colors are sometimes not readable when printed on non-color printers),

•

column headers and row labels are carried to any second pages,

•

enough detail is included, but not too much,

•

narrative notes are given when appropriate and are keyed to the data they refer to,

•

print parameters are double-checked before sending out electronic copies to avoid paper waste, ______

In addition, the annual Budgeting process should be documented, with tasks, responsibility assignments and deadlines clearly stated.

•

footers include the file name and the work sheet name to assist with locating electronic version locations,

•

consistent file naming protocols are followed to assist with version control (ORG FY10 Budget 200909-21 (Sept 21), then save new version as ORG FY10 Budget 200910-05 (Oct 5), and so on to have the latest version stack last in the Budget folder).

Having an inclusive and thorough budget process, a conservative approach, documented policies, efficient budget tools, and wellformatted budget presentation that tells your mission story "by the numbers" positions your organization to have the best results.

•

•

•

A good budgeting process: • •

• •

•

Engages those who are responsible for adhering to the budget in the creation of the budget, Allows time for the Finance Committee to participate, Provides adequate time for research, review, feedback, revisions, etc. before the budget is ready for presentation to the full board, Incorporates strategic planning initiatives,

Is characterized by realistic projections for income and expense Is income-based (expenses do not exceed the realistic income projections) Identifies fixed costs and relates them to reliable revenue, Is driven both by mission priorities and fiscal accountability.

A well constructed operating budget will demonstrate in numbers the organization's commitment to fulfilling its mission. It will be based on reliable income projections and expense projections will be well-researched, conservative, and thorough. Those building the budget will understand what components of it are fixed and which can be adjusted as the budget year progresses.

Page 11 of 47

Although the concept of developing a Capital Plan, or capital structure, may seem odd for a small or midsize nonprofit organization to consider, the truth is that any size organization has a capital structure, whether conscious of it or not.

Deliberate capital structure planning takes into account building resources for long-term, non-operating needs. These might include: asset purchases (such as inventory, equipment, or leasehold improvements), financial stability targets (such as building an operating cash reserve or equipment/facility maintenance/replacement reserves), and funding program or management initiatives per the organization's strategic plan (such as a pilot program or staff capacity building). Capital budgets often require a funding plan separate from and in addition to the operating budget. This plan can include a capital campaign as well as other funding strategies such as specific project requests and designations of accumulated surplus.

For small and midsize organizations, priority should be given to building an operating reserve before considering establishment of an endowment.

Endowment funds are permanently

restricted and the principal cannot be used for operating, cash flow, or other purposes. Conversely, an operating reserve creates liquidity and financial flexibility for the organization and positions it to withstand emergencies, temporary cash flow fluctuations, or unplanned reductions in revenue or increased demand for its programs.

Organizations with sufficient operating and other designated reserves can focus beyond day-to-day cash flow needs and more effectively plan for the long-term health of the organization. Organizations with limited or negative liquidity tend to focus on the short term. A cash crisis unproductively consumes time and resources, causes stress, and can hinder engagement in long-term planning and consideration of new mission related ventures.

Good financial management requires the organization to be conscious and deliberate about planning for both its long term financial goals and immediate financial health.

Page 12 of 47

Page 13 of 47

Budgeting Basics expense must be taken into account when constructing the operating budget.

Accrual vs. Cash Accrual accounting - and budgeting matches income and related expenses in the same fiscal period, regardless of the timing of the receipt or disbursement of actual cash.

M any small and midsize nonprofit organizations operate on a modified accrual basis - that is, mostly on a cash basis except for year-end adjustments for accrual.

2. Receivables [Asset] •

Grant awards (documented, unconditional promises to give) and payments that are due for program services already rendered are recorded as income (whether deferred or current) at the time they are promised or earned, even though the cash has not yet been received.

•

The receivable asset is converted to a cash asset when the check arrives and is deposited in the organization's bank account.

Receiving the payment increases cash and decreases the receivable. Income is not affected as it was already recorded when the invoice

Six basic Accrual concepts: 1. Prepaid Expenses [Asset] •

Things that your organization has bought for future use, such as merchandise inventories, supplies, or brochures for next season.

•

Payments your organization has made for goods or services that have not yet been received or used, such as insurance premiums that could be refunded to you if cancelled the policy, or expenses relating to future fiscal years paid in advance, such as a deposit for next year's industry conference.

•

Cash is disbursed before it is the appropriate time to record an expense. The prepaid asset is converted to an expense at the appropriate time via an adjusting journal entry, reducing the prepaid asset and increasing the expense.

The timing of this conversion to

(receivable) was entered.

3. Fixed Assets / Depreciation [Asset / Expense] •

Fixed assets are long-lived investments in equipment, furniture, fixtures, building improvements, etc.

•

Purchases should be capitalized (treated as assets rather than outright expenses) if the item(s) will have a useful life of more than one year and cost an amount higher than an

Page 14 of 47

established threshold amount. For small and midsized groups the threshold amount is usually set at $750 or $1,000.

•

•

A fixed asset is acquired at cost, but is depreciated (the cost is spread) over the useful life of the asset. The asset is converted to an expense via journal entry increasing expense (depreciation) and decreasing the value of the fixed asset (accumulated depreciation).

recorded via journal entry, increasing expenses and increasing liabilities simultaneously. The timing of this must be taken into account when constructing the operating budget.

Adjustments to the accrued expense balance(s) should be made as appropriate but at least annually.

5. Deferred Revenue [Liability] •

Deferred revenue, which usually pertains to earned revenue, is a payment to your organization in advance for services that have not yet been delivered and that your organization would be liable to refund if the service is not delivered.

Examples: tuition received for future classes, payments for full season subscription tickets for next fiscal year, advances for agency contracted services.

•

The liability is converted to income via journal entry at the time the organization delivers the service and becomes entitled to the income, reducing the liability and increasing income. The timing of this must be taken into account when constructing the operating budget.

M aintaining a depreciation schedule (sometimes called a fixed asset schedule) helps an organization predict the depreciation expense.

Amounts from the schedule are used when constructing the operating budget.

See also Depreciation Schedule Template and Budgeting Terms & Concepts.

4. Payables [Liability] •

Vendor payables and employer payroll tax liabilities are recorded as expenses (whether prepaid or current) at the time they become owed, even though not yet paid.

•

These liabilities are converted to cash disbursements when the bills are paid. That is, cash is reduced and the liability is reduced simultaneously by paying the bill.

The expense is not affected as it was already recorded when the bill (liability) was entered.

•

Accrued expenses are usually estimates rather than actual bills, for instance: accrued vacation pay or accrued interest. These liabilities are

6. Multi-year, Time or Purpose Restricted Contributions [Equity / Net assets] •

Contributions that are restricted by the donor for a particular purpose or future time period must be accounted for separately from unrestricted.

•

When the restriction has been satisfied, restricted funds are "released from restriction" and converted to unrestricted income via Page 15 of 47

a journal entry, reducing restricted revenue and increasing unrestricted revenue. o

o

A time restriction is satisfied when the future time period is reached and the promised grant money is in hand.

A purpose restriction is satisfied when expenses are incurred to fulfill the restricted purpose; at that point the restricted funds are released to pay for the purpose-related expenses.

•

Restricted amounts carried over for release in a future fiscal year must be taken into account when constructing a budget.

See FASB 116 for more about restricted funds.

Operating budgets done on an accrual basis can be used as a source for cash flow projections, but must be adjusted for changes in non-budget balance sheet accounts and cash requirements, such as the status of receivables and payables and payments of principal on loan balances, and for non-cash items such as depreciation.

Page 16 of 47

Page 17 of 47

Budgeting Terms and Concepts An organization's financial plans should include budgets for both operating and for capital as discussed in previous section, on Budgeting. The budgeting process and good practices were also discussed in the previous sections, The Budgeting Process, and Budgeting Practices. In this section we will discuss the terms and concepts involved in creating the annual operating budget.

The annual operating budget is associated with the Statement of Activities (SOA), sometimes called the Income Statement or Profit & Loss, and involves projecting income and expenses for a single fiscal year to accomplish an organization's immediate mission agenda. The annual budget can be projected over multiple years as part of a strategic plan to include the budget impact of identified strategic initiatives. In building an effective operating budget it is necessary to understand some terminology and concepts.

Approaches to Budgeting

to cover expenses. This sets the organization up for a budget deficit if the organization fails to hit the "plugged" income targets.

•

Ensure expenses are lower than the dependable income total. This requires cooperation among all departments in setting organizational and programmatic priorities, timing new or adventuresome programs.

•

What-if scenarios can be proffered: we can do this desired project/program if that additional revenue comes in.

Other Approaches Income based budgeting is my preference; however, there are other approaches to budgeting commonly used by small and midsize groups. Some combination of all of these approaches could be used, depending on the organization's circumstances.

Income Based Budgeting

•

As covered in the Budgeting Practices section, the most reliable budgets yielding the best fiscal results for the organization are conservative and income based.

•

•

Budget for income first. Base income targets on realistic expectations and only include reliable income in the budget.

Never include an income projection that simply fills the gap

Incremental budgeting begins with prior year totals, and builds the subsequent year's budget by calculating percentage increases/decreases.

Zero-based budgeting starts from scratch every year: How much can we raise? How much can we spend? What are the most important mission activities?

Zero-based budgeting forces reevaluation of all assumptions.

Page 18 of 47

general operating, long-standing contracts with government agencies or other entities, board contributions. During a recession, many revenue sources that have traditionally been dependable could become less so, moving from reliable more toward transient.

Associating fixed costs with reliable revenue Fixed vs. variable costs •

•

•

Fixed costs are not ordinarily affected by the number of projects, programs, plays, workshops, or classes given or clients served.

Examples of fixed costs: permanent fulltime staff, office rent, principal & interest payments on a long-term loan.

Variable costs are usually projectoriented and are more controllable or adjustable. Examples: number of characters in a play, number of participants served by a program, number of weeks a program runs, number of exhibitions or concerts, local or international, additional space rental requirements, etc.

Semi-variable costs are in between - these must happen but can be mitigated somewhat. Examples: choosing color vs. black & white for a print job, bulk ordering of necessary items, short-term rental vs. purchase of equipment, engaging part-time temporary help rather than hiring fulltime permanent staff, etc.

Reliable vs. transient revenue •

Reliable revenue can be counted upon from year-to-year.

Examples: Interest from highly liquid short-term investments such as Certificates of Deposit, dependable annual foundation gifts or government grants for

•

Earnings from endowments usually considered reliable can be particularly hard hit during a recession.

Building and maintaining permanently restricted endowments (as opposed to accessible operating reserves and special purpose funds) is not recommended for small and midsized organizations.

•

Transient revenue fluctuates with program offerings. Examples: Admissions revenue, participation fees, project-oriented grants.

If reliable revenue is sufficient to cover fixed costs, an organization then knows it can adjust its variable costs to match its success in reaching its transient revenue goals.

Direct vs. indirect costs or overhead Direct Costs •

Direct costs relate to a specific project or program. Examples: scenery for Play #2, contracted faculty for the April-May workshops, supplies for the summer camp program, counselors for shelter clients.

Page 19 of 47

Indirect Costs or Overhead •

Indirect costs (sometimes called Overhead or Common Cost Pool) do not relate solely and specifically to a particular project or program, but are necessary to its completion. Examples: office rent, telephone, Internet, copier usage, or management staff time devoted to the project.

•

A formal indirect cost rate can be calculated and negotiated for some grant proposal budgets when allowed by the funder.

may set the threshold amount at $1000, meaning that individual purchases of small tools, equipment, or furniture that cost less than $1000 are fully expensed in the current fiscal year when purchased.

When a purchase exceeds the established cost threshold, and will be in useful service for more than one year, the item should be capitalized - that is, recorded as a fixed asset rather than an expense. The item will then be "depreciated" over the number of years determined as its useful life.

•

Create or update a depreciation schedule (or fixed asset schedule) that calculates the amount of depreciation that needs to be included in the operating budget going forward.

See Sample Depreciation Schedule in Tools & Tops section of this website.

•

Consistently including depreciation in a balanced operating budget will provide the cash needed to replenish depleted assets by bringing in cash income to cover a non-cash expense. Not adequately budgeting for depreciation could eventually have the effect of eroding the organization's net assets.

Overhead is a vital budget component for all projects, whether specifically funded or not, and should certainly be taken into account along with direct costs as funding request budgets are composed.

Non-cash Budget Items Depreciation Depreciation is a way to spread the expense of a large capital purchase over the number of years it will be in use, and this expense should be included in your budget. Your organization's board should approve a Capital Purchases and Capitalization Threshold Policy [See Example Capital Purchases and Capitalization Threshold Policy in Tools & Tips] that covers how it budgets for and approves capital purchases (i.e., equipment or furniture with a useful life of more than one year) and establishes a cost above which a purchase should be capitalized as a fixed asset rather than expensed outright. For example, a board

In-Kind Contributions Your organization may be fortunate enough to attract in-kind contributions comprising donations of professional services or other goods and services. It is wise to budget for and report these contributions, when they can be adequately documented, since it gives a

Page 20 of 47

truer picture of what it takes to do what your organization does.

•

•

In-kind contributions are net-zero.

That is, the contribution and the expense are equal, so they do not affect the bottom line net income, but they do increase the magnitude of the income and expenses. When budgeting for inkind contributions, it is extremely important to ensure that the inkind expenses are budgeted as well as the income. It would not be a good thing to balance a budget with non-cash income covering cash expenses.

Documentation for in-kind contributions can be in the form of a letter from the donor or a bill from a vendor showing the full or discounted amount of the donated goods or services provided, etc.

•

Volunteer hours do not qualify to be reported as revenue under GAAP (Generally Accepted Accounting Principles).

Alternatively, a narrative note in your organization's audit can describe the role of volunteers and the impact of their hours, and perhaps estimate the number of hours even though a dollar value has not been recorded or reported.

•

The value of the donation is reported to the IRS by the donor.

Thank you letters from the receiving organization should only describe the service or goods and should not mention a dollar value.

•

The organization should not record an in-kind donation unless it would otherwise have had to, or be willing to, pay for it in cash. In the case of donated professional services, the donor must possess the specialized professional skills being donated in addition to the previous requirement. See IRS Publication 1771 "Charitable Contributions-Substantiation and Disclosure Requirements" for further information.

Approved Forecast

Budget

vs.

Year-end

A budget is a forecast or financial plan made at a point in time with the best information at hand. As an organization progresses further into the budget year, it only makes sense that better information will become available that would change the previously expected outcome in one or more line items. However, unless there has been a truly major change in the organization's structure or programs, it is generally not a good practice to change a budget once a budget has been approved by the board. It is better to create a column on financial reports that shows a Year-End Forecast, or Year-End Projection, based on the new information, and to explain any significant variances from the original budget. See the Statement of Activities page of the Internal Reporting section of this website for further details on report formatting.

The Year-End Forecast/Projection is usually a better reference than the original in building the

Page 21 of 47

following

year's

budget.

Accrual vs. Cash Accrual accounting - and budgeting matches income and related expenses in the same fiscal period, regardless of the timing of the receipt or disbursement of

actual cash. Many small and midsize nonprofit organizations operate on a modified accrual basis - that is, mostly on a cash basis except for year-end adjustments for accrual. See Basic Accrual Concepts for a discussion of six basic accrual concepts and how they affect the budgeting process.

Page 22 of 47

Page 23 of 47

Internal Controls General Controls Author: Patricia A. O'Malley, CPA Rubino & Company Size of Organization: Small • • • • • • • • • • • •

Involve as many people as possible.

Use only pre-numbered checks.

Use accounting software to print checks if at all possible.

Keep all unused checks in a locked cabinet or closet.

Limit the number of people with access to the checks.

Limit check signers to trustees and management.

Pay only from invoices. Do not process statements from vendors.

NEVER pay a vendor without a valid invoice or contract.

Mark invoices “paid” to avoid duplicate payments.

Follow the same procedures for wire transfers as for checks.

Someone other than the person writing the check should review the documentation and sign the check.

Require two signatures for amounts above a set threshold. When setting the amount consider: o o

A set dollar amount.

Whether certain checks can be excluded from the requirement. For example, a set amount is paid for rent each month based upon a signed lease. As long as the rent is for the amount noted in the lease, a second signature is not required.

•

Consider the "positive pay" program now being offered by most banks. The organization submits a list of checks written on any particular day to the bank. The bank will then take responsibility for ensuring duplicate check numbers with different payees are not processed. It should be noted that this service can be relatively expensive, so it may not be appropriate for all organizations.

•

Someone other than the person writing and mailing the checks should receive the unopened bank statement and review the contents before it is reconciled.

Page 24 of 47

Page 25 of 47

Stewardship and Accountability Author: Elizabeth Hamilton Foley As board members and managers of nonprofit organizations, we are constantly reminded that we must be good stewards of the public trust, ensuring the resources of our organizations are well protected and used efficiently to accomplish the missions for which our organizations exist.

We are also charged with making certain our management practices ensure the long-term sustainability of the organization.

To accomplish all of this requires the organization to set up a well integrated financial management cycle featuring: • • • • • •

accurate and dependable accounting effective internal controls procedures transparent reporting informed analysis responsible planning appropriate responses to its financial data In

order

to be financially accountable, those responsible for the organization must adopt and follow good financial and risk management policies and engage staff or volunteer board members who have appropriate accounting and analytical skills. They must have access to timely, accurate, and readable financial reports with relevant content and sufficient context for readers to interpret the financial data presented. They must use what they have learned from these reports and from other sources to make good management decisions and plan for the future of the organization.

Page 26 of 47

Even small or all-volunteer organizations should put good systems in place in the beginning-while they are small--to position the organization to grow without having to endure a disruptive overhaul to its financial operations in a growth spurt.

The presence of a fully engaged and effective finance committee is a sure indication that an organization is committed to good stewardship and is actively building and preserving the financial resources necessary to support the accomplishment of its mission, both for the short term and the long term.

Page 27 of 47

Page 28 of 47

Financial Statements and Reporting Some of the most common disclosures are: •

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES o

This note contains two basic sections (1) a brief description of the organization, including the main purpose and sources of revenue; and (2) a listing of the main accounting policies in place. These typically include:

•

•

Accounting method utilized in the financial statements - accrual, modified cash basis or cash basis What is classified as cash equivalents How the fair value of investments was determined What items are capitalized as fixed assets and the number of years they are being depreciated over.

The income tax status of the organization How contributions and grants are recognized as revenue How in-kind contributions are recognized and what goods or services were provided The fact that all financial statements include estimates The fact that expenses are presented on a functional basis and that this involves the allocation of expenses to the various functions.

INVESTMENTS o

This disclosure shows what type of investment the funds are held in - i.e. US Government obligations, mutual funds, common stock, corporate obligations...

o

This footnote should also include a breakdown of the investment income between interest / dividend income, realized gains and unrealized holding gains

FIXED ASSETS o

This disclosure shows the fixed assets by type - furniture, equipment, computers, leasehold improvements

o

It also shows the total accumulated depreciation and the current year's depreciation expense

Page 29 of 47

•

•

•

•

NOTES PAYABLE o

List the details (original loan amount, monthly payment, interest rate and maturity date) of any notes payable held at year-end

o

Must include a schedule of the annual principal payments due for each of the next 5 years and the total amount thereafter

o

The footnote should indicate any notes that were provided by related parties

LEASES o

This note should describe any leasing arrangements and should list operating leases separately from capital leases

o

List the details (lease term and monthly payment) of all leases at year-end

o

Must include a schedule of the annual rental payments due for each of the next 5 years and the total amount thereafter

o

The footnote should indicate any leases that are with related parties

o

The note should also include the same information for any subleases (where you are receiving rental payments)

o

The amount of rent expense, or rental income, recognized during the current year

RELATED PARTIES o

This is a critical footnote and should be written carefully and thoughtfully

o

This note must describe the transactions entered into with related parties (board members, senior management, significant funders...)

o

The disclosures should include a description of the transactions (leases, contributions, payments...) the dollar amount of the transactions and any amounts owed to or from the related party at year-end

CONTINGENCIES o

This note details any possible loss contingencies for the entity. The most common contingencies are potential litigation and the fact that the entity is subject to audit by government agencies.

Page 30 of 47

•

•

•

o

Certain contingencies are required to be disclosed even though they may not be accrued for in the financial statements.

o

For example, if your organization received government funding there is always the possibility that the government agency will perform an audit and determine that certain costs are disallowable. While this possibility does not require you to record a liability for potential disallowed costs, most auditors will recommend that you disclose the possibility in the footnotes to your financial statements.

RETIREMENT PLANS o

This note details any retirement plans (401k, SEP, 403b...) that the entity sponsors or participates in.

o

The disclosure should include who is eligible to participate and the cost incurred (contributions to the plan) by the entity during the year.

o

If you sponsor a defined benefit retirement plan there are significantly more disclosures that need to be included in the footnotes. If you have this type of plan you should review SFAS132R to determine the required disclosures.

TEMP RESTRICTED / RELEASES o

This note, sometimes slit into 2 separate notes, shows the temporarily restrict net asset remaining at year-end and the net assets released during the year.

o

The note should list the balances by restricted purpose (or time restriction) not by funding source.

PLEDGES / CONTRIBUTIONS o

This note shows the period in which the pledges/contribution receivable will be collected.

o

You are required to list the amounts that are to be collected in:

o

Less than one year One to Five years More than five years

Disclosure should also include the amount of any allowance for uncollectible amounts and any present value discount applied to long-term receivables

Page 31 of 47

o

•

The total amount of any conditional pledges, which are not recognized in the financial statements, should also be disclosed

JOINT COSTS o

Joint costs are costs that can be allocated to both fundraising and program services. The guidance for determining which costs are eligible for this allocation can be found in SOP 98-2.

o

The following items are required to be disclosed when you have joint costs

The types of activities that resulted in joint costs The total joint costs allocated and the amount allocated to each functional category The methodology used to allocate the costs

Page 32 of 47

Page 33 of 47

Annual Budget Assessment Stepping back once a year to take a highlevel assessment of your budget system is a healthy exercise.

There are four important questions to keep in mind as you work through the assessment process: 1. Are critical users getting the budget-based financial tools they need to be successful?

2. Is budget “ownership” core to your organizational culture?

3. Is budget awareness driving planning and enhancing results?

4. Are budget-based reports telling the “Good Story,” effectively benchmarking results, and forcing forward-thinking?

Budgeting is a never-ending complicated system without a true beginning or end.

Recurring fluid cycles of predictable periods such as fiscal year-ends, annual budget assembly, and board meetings intertwined around random acts of nature and circumstance can take an organization’s programs and activities in the most unpredictable directions.

So when is a good time to do an annual assessment of your budget system?

Almost any time will work, but the key word here is “annual.” Picking a sustainable annual date is the goal. I believe the ideal time is after the board has approved the budget for next year.

This is a good time to look back over

your budget system and assess how to make it better.

Question 1: Are critical users getting the budget-based financial tools to be successful?

The critical budget users are the core non-financial managers, compromising project managers, department heads, and senior management. Core non-financial managers are the decision makers on the ground, actively making decisions daily that directly impact the use of the organization’s resources. We must get budget reports in their hands that are easy to comprehend and inherently useful to monitoring results.

Make an honest assessment to see if these core non-financial managers are connecting to monthly budget reports.

Observe closely if they are interacting with the budget reports and deriving information that assists them directly in their decision-making process. Observe how they refer to their monthly budget reports. Are they connecting in a positive manner to the budget reports or are they avoiding interacting with them? Meet with them individually, concentrating on the ones struggling to interact with the budget reports and explore ways to eliminate usage barriers. Consider tandem pairing of successful users with new or struggling users so they can get a real-world working sense of how these reports can improve their effectiveness and results. Avoid lecturing from the accounting department/CFO perspective.

Highlight the program managers’ points

Page 34 of 47

of view. What you will learn from these interactions will draw you to make changes to the monthly budget reports and increase their effectiveness, leading to a higher level of use.

Question 2: Are you always striving to improve the “ownership” factor?

Getting non-financial managers to “own” their budgets is no small accomplishment.

Pride of ownership always trumps assignment of responsibility. Start by having them directly involved in the budget-building process. Next, integrate their project management tasks with the budget system so they get used to including financial metrics within program metrics to the point of comparable status. No program can be viewed only by programmatic results (how many people did we serve, how many members were added, number of registrations, etc.), nor can a program only be judged on financial results. What we are looking for is ownership of the gentle balance between programmatic results and financial-related outcomes.

Question 3: Is budget awareness driving planning and enhancing results?

This question is interesting and best viewed in a group environment whereas questions 1 and 2 are individual based. I experienced budget nirvana recently when a project manager contacted me on behalf of the other managers at the organization, asking for more meetings.

The budget managers wanted to share progress and results from their individual budget areas with each other and look for more collaboration.

Mission accomplished. That single request proved

the organization was doing a good job addressing Question 1 by getting budgetbased tools (monthly budget reports) into users’ hands and Question 2 by granting ownership of their budget, making it real to their organizational culture.

Organizations forget the main purpose for budget. It’s not about the budget itself but about putting the budget to use to ensure the best possible use of limited resources and improve sustainability of mission and programs.

Question 4: Are our budgetbased reports telling the “Good Story,” effectively benchmarking results, and forcing forward-thinking?

If I was allowed only one report, I would always choose re-engineering budgets reports so they inherently speak to the users. Monthly budget reports generally need to meet the 60-second test: the average project manager should be able to interpret a single-page budget report in about 60 seconds, observing where the program is performing to budget benchmarks and where it is slipping. S/he should then be able to use this information to update projections and assess changes she or he needs to make as the project evolves. Improving the project manager’s ability to learn from the monthly budget reports and perform at a higher level in managing limited resources will directly improve financial results and impact long-term organizational health.

Page 35 of 47

Walking through these four budgetprocess-assessment questions once a year will lead to enhancements in your budget

systems and reports that will benefit the organization outcomes and utilization of limited resources.

Page 36 of 47

Page 37 of 47

Tax Filing The IRS 990 Author: R. Michael Sorrells, CPA, BDO Seidman, LLP Topics: Tax and Information Filings For years, filing Form 990 was not required of organizations normally having less than $25,000 in gross receipts. That has changed. With the exception of churches and certain related organizations, small organizations are now required to begin filing the brand new 990-N for years ending December 31, 2007 and later. This so called "electronic postcard" is filed electronically with the IRS. Information about the filing and a link to the form itself can be found in the nonprofit section of the IRS website, www.irs.gov. This filing requires basic information about the organization such as: • • • • •

EIN legal name dba name(s) mailing address confirmation that gross receipts are normally under the 990 filing threshold

It is important that small organizations comply with this new requirement because exempt status will be revoked if the form is not filed for 3 years.

Important note for supporting organizations: supporting organizations (i.e. 509(a)(3) entities), even if under the $25,000 threshold, are now required to file Form 990 or 990-EZ. The electronic postcard will not suffice for these highly-scrutinized organizations.

Also note: the 990-N filing is not applicable for private foundations. As has always been the case, there is no gross receipts minimum for filing Form 990-PF. For the 2010 tax year, more organizations will be able to take advantage of filing Form 990-N instead of the 990 or 990-EZ. The IRS has recently announced the $25,000 threshold, which had never been indexed for inflation, will be raised to $50,000 beginning with the calendar year ending December 31, 2010.

Page 38 of 47

Lastly, about the threshold: Note that the rules say "normally" under $25,000. "Normally" is defined as the average gross receipts of the year in question and the prior two years. So it is possible to have an income bubble in one year and not have to file as long as the average stays at $25,000 or less. For organizations less than 3 years old, special rules apply to define "normally".

If you are on the board or are a member of such a small organization, it would be prudent to be sure the organization is aware of this new requirement. Unfortunately, many of these small organizations have a yearly rotation of officers and consistent procedures are difficult to maintain from year to year. This filing is one procedure that has to be maintained.

Page 39 of 47

Page 40 of 47

References ______ 1. http://www.nonprofitaccountingbasics.org/reporting-operations/budgeting-practices 2. http://www.nonprofitaccountingbasics.org/reporting-operations/budgetingfinancial-planning 3. http://www.nonprofitaccountingbasics.org/budgeting-strategic-planning/annualbudget-process-assessment-your-budgeting-system-helping-drive 4. http://www.nonprofitaccountingbasics.org/reporting-operations/basic-accrualconcepts 5. http://www.nonprofitaccountingbasics.org/reporting-operations/budgeting-termsconcepts 6. http://www.nonprofitaccountingbasics.org/reporting-operations/stewardshipaccountability

Page 41 of 47

Page 42 of 47

Attachment A Create a Budget That Works for You

Page 43 of 47

CreateT aH Budget A T Works for You Your budget is more than numbers.

It's a tool you can use to motivate employees, control expenses, increase revenues, make effective plans, and fulfill your organization's goals.

Nonprofit World, Vol. 15, No. 4

BY ANN M. ROTONDI

W

EBSTER DESCRIBES A budget as a "breakdown of a spending plan." This written spending plan and the control—or lack of control—of spending have a profound effect on a nonprofit organization. To have a positive impact, the budget must be realistic, accurate, and—most of all—controlled. It's of paramount importance that everyone in the organization understands the budget, because to understand the budget is to understand the nonprofit's goals.

The budget is first and foremost a planning tool. Without a budget, an organization may not be able to make the best decisions.

46 Find more articles from Nonprofit World at http://www.snpo.org

Example: A nonprofit makes up its initial budget. Everything balances on paper. It looks good; there may even be a surplus at the end of the year. It's even finalized by the board.

However, the budget isn't reviewed again until two months before year's end. During the year, no one enforces any controls. When the budget is finally reviewed, several expenses in more than one department are over budget and revenue is under budget. The organization now has the almost impossible task of bringing an unbalanced budget into balance two months before the close of the year. If it ends up with a

deficit, the organization will have a hard time getting funding sources and lenders to donate or loan it money.

To understand the budget is to understand the nonprofit's goals.

told if they are within budget. If a line item is over budget, the department does not feel responsible because of the lack of input it had in its initial preparation.

The chance of a controlled balanced budget is much greater in Organization A than in Organization B, because people throughout the organization share responsibility. But shared responsibility isn't always enough. The budget also has to be realistic and accurate.

How to Create an Accurate, Realistic Budget

If a department is to have responsibility for its budget, it must own that budget. Too often the budget is prepared by the accounting division with little or no input from the department itself. Remember, no one knows the department better than the people who work in it. Involve the department from the beginning stages.

For purposes of illustration, examine the process for developing the budget for Organizations A & B: Organization A: Before the initial budget meeting, staff from a variety of departments are chosen as budget coordinators. The budget coordinators review the revenue, asking themselves the following questions: • Will there be an increase or decrease in revenue? If so, how much? How will these changes affect the department's operation?

• Do we expect any unusual expenditures for the year? Example: Are there any unusual repairs on equipment or vehicles that will be needed? If so, to what extent will these repairs affect the budget? (If they expect any such expenditures or repairs, the coordinators contact an array of vendors to obtain the best prices.)

• Do we expect any changes in personnel due to such factors as retirement or maternity leave? If so, how will these changes affect the personnel portion of the budget?

• Will there be any changes in tax rates, fringe benefits, allocations of rents, auditing fees, and so on?

(The coordinators ask the accounting department staff for their input on answering this question.)

After answering these questions, the coordinators prepare the initial budget and ask the accounting department to approve it.

Organization B: The accounting department prepares the budgets for all the departments. Once the budgets are prepared, they are given to the department heads with little or no input from the department managers. The departments are periodically

There are several steps to preparing a budget that is realistic and accurate: 1. Prepare a Revenue Budget.

The revenue budget is the first budget to prepare.

Be realistic when estimating revenue.

Set up two revenue budgets in the initial stage of planning the budget. Revenue Budget A is the known budget. It includes all revenue that each department

Figure 1 “KNOWN” & “WHAT IF?” REVENUE BUDGETS Revenue Budget A, the “Known” Budget Grant a Grant b Contract a Total Budget A

$ 30,000 $ 20,000 $ 15,000 $ 65,000

Revenue Budget B, the “What If?” Budget Grant a Grant b Contract a Possible Contract b Possible Other Total Budget B

$ 30,000 $ 20,000 $ 15,000 $ 5,000 $ 10,000 $ 80,000

July • August 1997

How to Share Responsibility for the Budget

47

Figure 2 ABC AGENCY SAMPLE BUDGET YEAR 12/31/96 1ST QTR

2ND QTR

3RD QTR

4TH QTR

TOTAL

REVENUE GRANTS CONTRACTS OTHER TOTAL REVENUE

245,000 159,000 74,000 478,000

205,000 180,000 69,000 454,000

233,000 165,000 80,000 478,000

225,000 175,000 77,000 477,000

908,000 679,000 300,000 1887,000

EXPENDITURES PAYROLL WAGES PR TAXES FRINGE TOTAL PAYROLL

283,050 35,192 64,158 382,400

282,825 16,217 64,158 363,200

283,025 35,217 64,158 382,400

283,300 34,142 64,158 381,600

1132,200 120,768 256,632 1509,600

7,875 2,397 1,050 11,322

7,875 2,397 1,050 11,322

7,875 2,397 1,050 11,322

7,875 2,397 1,050 11,322

31,500 9,588 4,200 45,288

2,256 2,372 4,628

2,256 2,373 4,629

2,256 2,372 4,628

2,256 2,372 4,628

9,024 9,489 18,513

22,500 8,719 4,781 36,000

22,500 2,718 4,783 30,001

22,500 2,719 4,782 30,001

22,500 8,719 4,779 35,998

90,000 22,875 19,125 132,000

EQUIPMENT COPY RENTAL POSTAGE REPAIR & REPLACE TOTAL EQUIPMENT

3,503 3,497 2,436 9,436

3,503 3,497 2,437 9,437

3,503 3,497 2,435 9,435

3,503 3,497 2,432 9,432

14,012 13,988 9,741 37,740

CONSUMABLES OFFICE SUPPLIES EDUCATIONAL SUPPLIES TOTAL CONSUMABLES

2,307 2,411 4,718

2,020 2,700 4,720

2,711 2,016 4,717

2,307 2,408 4,715

9,345 9,535 18,870

2,340 3,205 8,047 2,102 1,985 2,300 1,871 21,850

2,239 3,107 8,102 2,307 1,573 2,304 2,148 21,780

2,301 3,072 8,275 2,237 1,705 2,301 2,059 21,950

2,366 3,125 8,101 2,115 1,640 2,303 2,019 21,669

9,246 12,509 32,525 8,761 6,903 9,208 8,097 87,249

9,435 9,435

9,435 9,435

9,435 9,435

9,435 9,435

37,740 37,740

479,789

454,524

473,888

478,799

1887,000

(1,789)

(524)

4,112

(1,799)

–0–

CONSULTANT & CONTRACT AUDIT ATTY FEES OTHER TOTAL C & C TRAVEL LOCAL OUT–OF–TOWN TOTAL TRAVEL

Nonprofit World, Vol. 15, No. 4

SPACE RENT HEAT UTILITIES TOTAL SPACE

48

OTHER POSTAGE TELEPHONE INSURANCE DUES & SUB STAFF DEVELOPMENT SECURITY MISCELLANEOUS TOTAL OTHER UNAPPLIED CONTINGENCY TOTAL UNAPPLIED TOTAL SURPLUS(DEFICIT)

knows will exist. Budget B can be called a “what if?” budget. “What if we were to receive additional revenue?” “What if. . . . ?” The calculation of an alternate budget will narrow the range of uncertainty. Figure 1 shows how you might prepare these two types of budgets.

2. Prepare an Expenditure Budget.

After calculating the revenue budget, prepare an expenditure budget. In your expenditure budget, always include a "contingency" line item for emergency or unexpected expenses. Also, as you did for the revenue budget, prepare both a "known" budget and a "what if?" expenditure budget. The "what if?" expenditure budget asks, "What if we were to incur additional expenses?"

"What if an emergency occurs?" "What if. . . .?"

In addition, break down the expenditures into fixed and variable expenditures. A fixed expenditure is an expenditure that remains constant (for example, rent). A variable expenditure is one that can vary (for example, program supplies).

Always set up two budgets— the “known” budget and the “what if ?” budget.

Tips on Controlling the Budget 1. Centralize purchasing when possible. Centralization can result in savings when quantities are purchased. It also avoids excess purchases. Example: Have one person responsible for office supplies. If a person is designated to purchase office supplies, this person should also have the authorization to say "no" to unreasonable or unbudgeted purchases.

2. Don't spend now and hope the funds will follow.

Don't depend on funds you don't have. Example: Don't depend on a future fundraiser to pay for present expenditures. What if the fundraiser is not successful?

3. Don't pad line items. It is far better to have an accurate line item amount than a distorted amount.

If there is a surplus in a budget, record it as a surplus and use it appropriately.

4. Avoid vague, all–encompassing categories.

Example: One nonprofit had a category titled "space" which included everything from rent and utilities to repairs for the building. Instead of having one broad category, create separate accounts for rent, utilities, heat, and so on, in order to control the individual expenses.

5. Revise the budget as many times as necessary to adjust for unavoidable changes throughout the year.

6. Avoid the "catch–all" miscellaneous account as much as possible. If you must have a miscellaneous account, limit amounts charged to it to under $100.

4. Prepare a Budget Report.

A budget report compares actual to budgeted amounts. You should prepare and analyze your budget report every month in order to control your budget effectively. See Figure 3 for a sample budget report.

When preparing the budget report, be sure all information is posted to the correct period

7. Don't procrastinate in making an unpopular decision. Example: A program is constantly over budget and is draining the organization. It's very difficult to discontinue a program, but there comes a time when hard decisions must be made for the good of the organization.

8. Be sure every department shares in controlling the budget. Give staff both responsibility for developing the budget and authority to manage and implement the budget.

9. Celebrate successes. Demonstrating the importance of staying within budget is vital. Have small celebrations quarterly. Example: Provide a free pizza or breakfast for those departments that stay within budget. Have the board provide plaques or T–shirts to recognize the departments which made the greatest contributions. Too many times the board hears only of the "problem" departments. Recognize all the good that is happening within the organization.

July • August 1997

3. Prepare an Overall Budget.

Be sure all departments have a chance to review your initial budget. Once they have all approved the initial budget, you can prepare your overall budget.

The overall budget consists of all your department budgets. The overall budget is important because it states that although there are many programs within your organization, all the departments are striving together to achieve the same mission. See Figure 2 for a sample budget.

49

Figure 3

Nonprofit World, Vol. 15, No. 4

ABC AGENCY SAMPLE BUDGET REPORT QUARTER ENDING 03/31/96

50

REVENUE GRANTS CONTRACTS OTHER TOTAL REVENUE EXPENDITURES PAYROLL PR TAXES FRINGE TOTAL PAYROLL CONSULTANT & CONTRACT AUDIT ATTY FEES OTHER TOTAL C & C TRAVEL LOCAL OUT–OF–TOWN TOTAL TRAVEL SPACE RENT HEAT UTILITIES TOTAL SPACE EQUIPMENT COPY RENTAL POSTAGE REPAIRS & MAINT TOTAL EQUIPMENT CONSUMABLES OFFICE SUPPLIES EDUCATIONAL SUP TOTAL CONSUMABLES OTHER POSTAGE TELEPHONE INSURANCE DUES & SUB STAFF DEVELOPMENT SECURITY MISCELLANEOUS TOTAL OTHER UNAPPLIED CONTINGENCY TOTAL UNAPPLIED TOTAL EXPENDITURES SURPLUS (DEFICIT)

BUDGET

ACTUAL

VARIANCE

245,000 159,000 74,000 478,000

243,000 161,000 73,000 477,000

(2,000) 1,000 (1,000) (1,000)

283,050 35,192 64,158 382,400

284,725 36,633 63,051 384,409

(1,675) (1,441) 1,107 (2,009)

7,875 2,397 1,050 11,322

7,875 2,397 1,075 11,347

–0– –0– (25) (25)

2,256 2,372 4,628

1,974 1,841 3,815

282 531 813

22,500 8,719 4,781 36,000

22,500 8,821 4,870 36,191

–0– (102) (89) (191)

3,503 3,497 2,436 9,436

3,521 3,394 2,064 8,979

(18) 103 372 457

2,307 2,411 4,718

2,170 2,314 4,484

137 97 234

2,340 3,205 8,047 2,102 1,985 2,300 1,871 21,850

2,299 3,303 7,798 2,012 1,500 2,270 1,953 21,135

41 (98) 249 90 485 30 (82) 715

9,435 9,435 479,789 (1,789)

8,527 8,527 478,887 (1,887)

908 908 902 (98)

NOTE: Quarterly budgets and reports are more easily controllable than yearly projections.

this issue, or contact the Society at 6314 Odana Road, Suite 1, Madison, Wisconsin 53719 (800–424–7367).

and to the correct account. Incorrect period postings will caused a distorted picture.

Example: December expenditures should be recorded in December, not January. If a phone bill or rental invoice is not received in the period that it is incurred, estimate the amount and include it in the period it should be expended.

Don't settle for "it's unaudited—it's close enough." Be as accurate as possible. Inaccurate information can be a disaster.

Once the budget report is prepared, the next step is to determine the reason for any unusual variances.

The "why" is just as important as the bottom line, because only if you know the "why" can you take appropriate action.

Remember, the budget is the planning tool, and the budget report is the controlling tool.

Don't Ignore the Human Factor.

No control system is perfect. Inadequate software or a non–integrated accounting system can have a negative effect on the process. So can untrained or unmotivated employees. The human factor in any budget is as important as any quantitative statement the budget makes. ■

Selected References Brinckerhoff, Peter C., "How to Save Money through Bottoms–Up Budgeting," Nonprofit World, January–February 1996.

Brinckerhoff, Peter C., "The Keys to Financial Empowerment for Your Organization," Nonprofit World, July–August 1995.

Brinckerhoff, Peter C., Mission–Based Management.

Listro, John P., Accounting and Reporting for Nonprofit Organizations.

McLaughlin, Thomas, Streetsmart Financial Basics for Nonprofit Managers.

Muehrcke, Jill, ed., Accounting and Financial Management, Leadership Series.

Razek, Joseph R., "Gain Control of Your Organization's Finances: Cash Budgets," Nonprofit World, March–April 1989.

Vinter, Robert D. & Rhea K. Kish, Budgeting for Not–for–Profit Organizations.

Wacht, Richard, Financial Management in Nonprofit Organizations.

Walsh, Alice Chebba, "How to Conduct a Monthly Internal Financial Review," Nonprofit World, November–December 1991.

These publications are available through the Society for Nonprofit Organizations' Resource Center. See the Resource Center Catalog, included in

Ann M. Rotondi is controller at Providence Community Action (46 Aborn Street, Providence, Rhode Island 02903–3209, 401–273–2000). She has an M.B.A. from Providence College and a B.S. in accounting from Johnson & Wales University. She has also earned a Certificate in Non–Profit Management from Bryant College.

Nonprofit World • Volume 15, Number 4 July/August 1997 Published by the Society for Nonprofit Organizations 6314 Odana Road, Suite 1, Madison, WI 53719 • (800) 424-7367

We Want To Hear From You! Your ideas are important to us and of benefit to all in the nonprofit world. Join in the sharing process!

1. Send us your reactions to articles in Nonprofit World so we can be sure we are tuned in to your needs and concerns.

2. Send us creative ideas which you or others have used to raise funds. We’ll add them to our list of “Creative Fundraising Ideas.”

3. Send in ideas for subjects you would like covered in Nonprofit World.

Send all the above to: Editor, Nonprofit World, 6314 Odana Road, Suite 1, Madison, Wisconsin 53719.

July • August 1997

Don't settle for "it's unaudited— it's close enough."

Financial & Accounting Software Resources Blackbaud Fund Accounting software, Blackbaud, Inc.,4401 Belle Oaks Drive, Charleston, South Carolina, 29405 (phone 800–443–9441; fax 803–740–5410).

DOS–NETWORKS–UNIX fund accounting software, Cougar Mountain Software, 2609 Kootenai, Box 6886, Boise, Idaho 83707 (phone 800–388–3038; fax 208–375–4460).

Echo Management fund accounting system, Echo Management Group, 1620 Main Street, Center Conway, New Hampshire 03813 (phone 800–635–8209; fax 603–447–2037).

Executive Data Fund Accounting, Executive Data Systems, Inc., 1640 Powers Ferry Road, Building 27, Marietta, Georgia 30067 (phone 800–272–3374; fax 770–955–3374).

FUND E–Z software, FUND E–Z Development Corporation, 106 Corporate Park Drive, White Plains, New York 10604 (phone: 914–696–0900; fax 914–696–0948).

Fundware Accounting software, American Fundware Inc., 1385 S. Colorado Blvd., Suite 400, Denver, Colorado 80222 (800–551–4458).

MIP Fund Accounting software, Micro Information Products, 505 East Huntland Drive, Suite 340, Austin, Texas 78752–3772 (phone 800–647–3863 or 512–454–5004; fax 512–454–1246).

Not–for–Profit Accounting software, Micro Information Products, 505 East Huntland Drive, Suite 340, Austin, Texas 78752–3772 (phone 800–647–3863; fax 512–454–1246).

USL Financial Fund SQL, USL Systems, 8227 Old Courthouse Road, Vienna, Virginia 22182 (phone 800–800–0768 or 703–790–2754; fax 703–790–3396).

51

Attachment B Budgeting: A Guide for Small Nonprofit Organizations

Page 44 of 47

Budgeting: A Guide for Small Nonprofit Organizations

A free resource provided by the Virginia Society of Certified Public Accountants

Budgeting: A Guide for Small Nonprofit Organizations A free resource provided by the Virginia Society of Certified Public Accountants

Introduction • Selecting the budget committee • The task of the budget committee • Setting budget priorities and realities — revenues • Setting budget priorities and realities — expenses and costs • When to prepare the budget • A budget for cash flow • A budget for capital expenditures — bought or received • Restricted grants • Changes to the budget • Conclusions

Introduction Nonprofit organizations (NPO) wrestle continually with maintaining and improving their operations, especially during today’s uncertain economy. In short, NPOs must constantly strive for sustainability. A well-planned budget will focus on the primary goals and objectives of the organization and provide financial and programmatic adaptability — key ingredients to maximize sustainability.

Every volunteer brings to a small NPO the enthusiasm and interest necessary to do a good job. These volunteers are critical to an NPO’s success, because most small NPOs lack the funds necessary to seek and pay for professional guidance in the business world.

This guide is written to present the theories and practicalities of budgeting for the small NPO staffed by volunteers, whose expertise do not always correspond with the budgeting needs of the organization.

In this guide, Goodworks, Inc., is a hypothetical NPO that receives funds from grants, the general public and sales of logo items. These funds pay for the programs that support its missions. The example of Goodworks should provide guidance for many NPO budget situations.

2

Selecting the Budget Committee A budget is a planning tool for the NPO. The budget committee should reflect the collective knowledge of the organization concerning the goals and objectives for the period in question. Volunteers who serve on the budget committee should have the following qualities: • A familiarity with prior years' activities and the changes that are contemplated in the year(s) to come, particularly the objectives in the strategic plan • A desire to serve the organization as a whole rather than to lobby for a particular project • A knowledge of ordinary budgeting, whether on the personal or business level While the qualities listed above are desirable, their absence should not preclude excellent service by volunteers who are otherwise interested and dedicated, especially if the volunteers have a desire and willingness to learn about budgeting.

The Task of the Budget Committee The task of the budget committee is to develop the budget for the next year (or future years, in the case of a multi-year budget). The steps in developing a budget are as follows: • Define the budget timeline. Develop a list of objectives or goals for the year. A familiarity with prior years' activities and the changes that are contemplated in the year(s) to come are necessary to prepare a comprehensive budget. If the organization has a strategic plan, consider activities in the plan that will impact the budget and plan accordingly.

• Estimate the cost or resources required to achieve each objective or goal. The previous year’s actual expense or budget can be used as a starting point, but the NPO should make budgeting decisions based on many factors, not just the prior year’s budget. If the objective or goal involves new programs or activities, estimate the cost by creating an itemized list of all the expenses involved in achieving that particular objective.

• Estimate the expected dates and amounts of revenue that will be generated.

• Compare the expected dates and amounts of revenue to the estimated expenses.

• Develop the final budget.

• Present the budget to the board for approval.

A final budget should be approved by the board before the start of the organization’s next fiscal year.

The timeframe for the budget process generally will consider the calendar year, the fiscal year and the approval process. The calendar year often determines the timing of certain expenses and revenues, particularly end-of-year tax deductible donations. The fiscal year is the period that the NPO uses to measure funds: the federal government has a fiscal year that ends Sept. 30, while many NPOs have a fiscal year that ends June 30. A fiscal year ending June 30 is particularly appropriate for NPOs that intend to complete their audit prior to the deadline of mid-January, a common deadline to submit grant applications. The time required for the approval process will generally determine how long before the end of the fiscal year it must begin.

For example, Goodworks receives a grant from the United Way, but Goodworks’ fiscal year might end at a different time than when the United Way requires annual audited financial statements. In such a case, the budget process for the following fiscal year might begin as the current year’s United Way statements are prepared. Goodworks’ fiscal year ends June 30, but it will submit the United Way application on Jan. 15. Then Goodworks might begin its budget process on Feb. 1, once approval is received.

The need to present the budget to the board for approval will be the overriding constraint in planning the timeframe for the budget process. There must be time to consider, question and change the budget both before and after the presentation to the board. A minimum of three months should be allowed for the process. A wise board that demands full financial statements each month should have a good understanding of the previous year’s monthly cash flows and the budget categories that were over- or underfunded.

Setting Budget Priorities and Realities — Revenues The budget committee will need to examine the reasonable expectations of revenue. Each potential source of revenue must be examined to determine possible enhancements in the future. Typical sources of revenue are contributions from the public, grants and endowment/ restricted funds income (based on the organization’s spending policy), ticket sales, auction proceeds and fees for goods and services. When evaluating each source of revenue, the following questions should be asked: Public contributions: • How much do we expect in contributions from the public?

• Are the expectations realistic? Is there a history of increases in past years? What about the economy?

• Has a major contributor had a good year or a bad year financially?

• What are the fundraising possibilities of the organization itself?

• What are the costs of fundraising?

Grants and restricted funds: • Can the NPO comply with the grantor’s requirements? (For example, does the NPO have adequate funds if matching contributions are required or does it have metrics to prove it’s meeting the grantor’s performance standards?)

• Do separate accounting reports need to be provided to the grant-giving organization?

• Is the use of funds restricted to a particular purpose (e.g., scholarships or building)?

• Does the grant provide an allowance for overhead expenses of the organization?

• Must the organization be audited in order to qualify for the grant?

• Does the grant lead to sustainability, allowing for the creation of a program that can be carried on financially after the grant funds are used?

• Will the grant lead contributors to believe their contributions are not needed?

• Could the grant overwhelm the organization? Sometimes the administration of grants, particularly grants from large government agencies, are beyond the technical skills of most small NPOs. Ticket sales, auction proceeds and fees for goods and services: • What are the revenue expectations?

• Are the expectations realistic? Is there a history of success with similar events or products in past years?

• What are the legal and tax implications of the sale?

• Are "suggested donations" better than a fee for a production or fundraiser?

• What are the costs associated with the production or sale?

These questions require knowledge of program plans, fundraising expectations, development activities, grant sources, and local and state laws. Accurate answers are essential and research may be necessary. Some of these questions can be answered directly from the accounting system. Others will require input from fundraisers and/or grant writers.

A complete and accurate database of contributors can 3

be very helpful in forecasting estimated revenues from donors through general contributions, pledges and grants.

Records can be tracked in a simple spreadsheet or using sophisticated accounting software with a Customer Relationship Management (CRM) module.

Setting Budget Priorities and Realities — Expenses and Costs Usually revenues and expenses are tied together, as in fundraising projects that generate revenue at a certain cost. Excess revenue over expenses can usually be used to cover other expenses of the organization — for example, programs that do not generate revenue and administrative expenses.

Especially when identifying excess revenue to allocate to other costs in the budget, the NPO will need to be careful it doesn’t overlook any expenses. It is important to review the bylaws of the NPO for requirements that may place an undue burden on the organization, such as the requirement to have an annual audit by a paid professional rather than by a free, independent volunteer. Also, become familiar with the different types of expenses the organization will need to anticipate during the budget year: • Direct costs relate to a specific project or program.

For example, Goodworks contracts for extra staff to hold a new workshop; orders supplies for a community service program; and allocates staff time, design and printing costs for a new brochure.

• Capital expenditures for items such as cars or real estate provide benefits for the organization long after the budget period ends.

• Indirect or overhead costs may not relate to a specific project but may be necessary for its completion.

Items such as postage, telephone service, Internet, copier usage or management staff time may be overlooked in the planning process.

4

• In-kind contributions of goods or services (“free” expenses and costs) should be budgeted at fair market value (FMV) for the new Form 990. These expenses and costs can include items such as office space, utilities, parking, security, staff hours, computers and other items provided by donors or a parent NPO. While these in-kind contributions may not have a bottom-line impact (as they are recorded as a revenue when received and as an expense when used, typically in the same period), NPOs should still budget for and report these contributions when they can be adequately documented. This will give a more accurate picture of the actual total cost for the organization to meet its goals, and whether it qualifies for Forms 990-N, 990-EZ or 990.

As noted in the revenue section, some programs are funded entirely by grants. The budgets for specific grant programs are made at the time of the grant application.

These budgets should include not only requests for the specific costs of the program, but also enough to cover the internal costs of administering the program if the grant were awarded. Many programs have been granted based on direct costs, without any consideration of the indirect costs and the incidentals that can add up quickly and overwhelm a well-planned effort.

The costs of managing the grants can be built into the proposal, and for complex programs, the managerial fees will compensate the staff for their extra hours; be sure to provide 1099-MISCs in January for all the staff and contractors who helped manage the grant. Even without reimbursements for managerial expenses, grant programs should never be declined solely because they do not cover all indirect costs.

Planning for programs that are to be covered by general contributions and unrestricted grants entails a budget that has some elasticity to accommodate the unexpected.

When to Prepare the Budget A budget is a planning tool and should be prepared well in advance. Plenty of time should be allowed for presenting the budget to the board of directors for approval, and for making changes. After your hard work preparing the budget, it may be difficult to recognize good suggestions for improvement, but you must be willing to go back to the drawing board.

Once the budget is prepared and approved, don't put it away in a dark corner. For the budget to be useful and effective, everyone should take it seriously. The budget should be compared with the actual experience on a regular basis (i.e. monthly or quarterly) to allow board members and executive officers to measure whether the organization's goals, set by the budget, are being met.

An example of such a report is shown on the next page.

Variances from the budget are reasonable and expected.

It is rare that the assumptions made during the budgeting process become reality. Variances provide valuable information to improve decision-making for the remainder of the budget period.

Ideally, with every presentation of financial information, there should be a comparison of actual revenue and expenses to those budgeted. Other reports may include a comparison of the actual and budget amounts attributable to the same period in previous years and a comparison of

Goodworks, Inc. Comparative Income Statement with Budget 2011 Actual

Budget

Variance

25,000

27,500

(2,500)

Grants (unrestricted)

6,000

6,000

0

Sales

4,325

4,000

325

35,325

37,500

(2,175)

10,000

12,000

(2,000)

Office expense

1,120

1,000

120

Cost of goods sold (COGS)

1,000

1,000

0

Telephone

5,665

6,000

(335)

Counseling

12,000

12,000

0

Bus tickets

4,960

5,000

(40)

510

500

10

35,255

37,500

(2,245)

70

0

(70)

Income Contributions

Total income Expenses Staff

Misc. support

Total expenses Excess projected actual to budget for the entire budget period.

flows as well as your revenues and expenses.

Comparing the variance can help the budgeting committee benchmark its progress and determine any actions to take for the remainder of the budget year. This also allows for learning how to better plan for the future.

A Budget for Capital Expenditures — Bought or Received

In the example above, Goodworks was $2,500 below its budget on income from contributions and may want to identify why contributions were low. Goodworks also had $2,245 less in expenses than anticipated in the budget. After identifying the cause, Goodworks may decide that the low income is offset by the savings in expenses and take no further action, or the committee may decide to boost its efforts to identify new donors.

A Budget for Cash Flow In addition to the comparative income statement, other types of budget reports will help ensure an organization runs smoothly. For the small group, the most important is a cash flow budget. This is the budget of revenues received and expenses paid, broken down monthly to ensure cash will be there when needed. If an organization expects all of its expenses in the first three months of the year and all of its revenue in the last three months of the year, the organization will be unable to pay expenses unless it has built up a large cash surplus. Plan your cash

Capital expenditures refer to the acquisition of assets whose useful lives are greater than the current period.

Although funds for expenditures may be identified and approved in total during the budget process, most companies have a separate process for approving funds for capital assets. Capital expenditures can be very large and have a significant impact on the financial performance of an NPO. Also included in the capital expenditures budget are depreciable in-kind contributions.

Many times a small organization will borrow assets, board members will use personal assets for the needs of the organization, or donors will provide non-cash items. These non-cash items represent in-kind contributions. The organization will need to estimate the value of the items for the organization's records. Sometimes the donor can provide the acquisition price, depreciation taken, or residual value of the gift.

The organization cannot and should not provide fair market value (FMV) appraisals to donors. If no valuations are provided, the organization will need to develop an internal Gift Acceptance Policy (GAP) on how to record

5

the donations. A gift acceptance policy allows the board to define the parameters and guidelines for handling different types of donations, eliminating controversial or risky donations and complying with the legal obligations of gift recording and recognition. For example, Goodworks may have a provision in its GAP to record nonappraised gifts of still-operable items at 10 percent of the current retail price.

Some donated items, such as stock or a vehicle, require a transfer of title, which is recorded with local or federal authorities, such as the Virginia Department of Motor Vehicles (www.dmv.state.va.us) or the U.S. Securities and Exchange Commission (www.sec.gov). Make sure this transfer of title is carried through in an orderly and timely manner. Frequently, to provide an exact FMV and to avoid capital losses, the NPO will sell such items on the day they are acquired.

Some gifts bring new responsibilities and expenses to the organization. Questions to consider before accepting a gift include: • Can you protect this asset?

• Does it need to be insured?

• Do you need a safe deposit box?

• What are the annual operating costs for this asset?

• Does the gift require spare parts or maintenance that can only be provided sole source by the donor, at prices determined by the donor?

If an asset is housed on premises that do not belong to the organization, then a master list of such assets and their whereabouts should be prepared and maintained in a safe and central location. The organization should have a GAP and an acceptance committee to insure that all gifts are beneficial to the organization and to its mission.

There are other gifts that need accounting and budgeting.

One is the forgiveness of rent for space. The FMV of the rent should be recognized on both the budget and actual financial information as income and expense. This type of recognition gives a better picture of the true state of affairs for the organization. If your NPO no longer receives a space rent-free, could the NPO make up the difference in cash donations in order to pay the rent? This question is best answered when the value of the prior gift is recorded.

Capital budgets can be achieved over a period of years when a fund is established to collect money for a future capital expense. Such funds require a Reserve Study to

6

determine the future expenses and their estimated dates.

For example, a $500 printer that must be replaced in five years requires a sinking fund with $100/year funding.

Restricted Grants Budgeting for restricted grants must be done in advance.

A careful inquiry of the grantor will allow the NPO to know the expectations of the grantor. As noted in the discussion of revenue sources, there can be many strings tied to grants. For example, Goodworks receives a restricted grant for a particular educational program. The grantor provides a gift of $10,000,000 for a building. Goodworks would then be required to spend the grant on buildingrelated expenses (e.g., land, architect, permits, material, labor and maintenance), and could not use the money for any other reason.

An NPO should discuss the requirements not only with the grantor, but, if possible, with another organization that has received such a grant in the past. It is vital the restrictions on the grant or gift be clearly documented and understood by all parties. Many NPOs will prepare a jointly signed agreement with the grantor that clearly states the amount of funding, the anticipated date of funding and the restrictions. As a part of the agreement, the NPO should allow for a contingency plan in the possibility of not achieving the requirements for the grant or gift. In this case, the documentation can allow for the reclassification, redirection or refund of the grant.

NPOs should include guidance for the acceptance of restricted grants in its GAP policy, so fundraisers and donors are aware of the policy and agree to allow flexibility under certain conditions. For example, a donor gives a $50,000 restricted grant for a building that would cost $1,000,000.

If the grant/gift documentation allows for it, the NPO could reclassify the grant/gift to an unrestricted operating grant/gift if the NPO does not receive the $950,000 needed to complete the building.

Changes to the Budget Can budgets be changed? Sometimes budgets must change when expectations are not met. Rather than abandon a sound budget plan when an emergency or opportunity arises, an organization should be able to handle the change in an orderly fashion. Continual review of variances, along with forecasting, will allow the NPO to determine if the overall budget is sound or if actual events require a new budget be adopted. Bylaws should be examined for guidance on how an adopted budget can

be altered if necessary. Typically, small alterations can be done by the executive officers, while changes beyond a specified threshold would require approval by the board of directors.

If an expected donation that has been budgeted does not materialize, you have several choices. The most obvious is to seek other sources of funds. A CRM module on the accounting system can help identify donors inclined to support the specific shortfall. Next, you can cut expenses. A less obvious option is a rearrangement of expenses. A gift of an asset, as previously discussed, might relieve a budgeted expense. A program that was scheduled to begin in one quarter might be moved to another period, allowing the expenses of that program to be moved as well. All of the decisions above should be made with reference to the budget, as well as to the current cash and financial picture.

Conclusions Budgets should be a major part of every organization's plan. This plan should allow the flexibility needed to achieve goals with order and success. The documentation of budget assumptions and changes will provide a basis for improving the efficiency of the budgeting process each year.

The material presented herein is designed to provide basic information concerning budgeting for small nonprofit organizations. For further guidance with budgeting needs, NPOs should consult with a CPA. The Virginia Society of Certified Public Accountants (VSCPA) offers free resources, including a Nonprofit Pro Bono Assistance program and “Find a CPA� directory to help connect nonprofit organizations with a CPA in their geographic location who can best meet their financial and business needs. Visit the VSCPA Nonprofit Resource Center at http://www.vscpa.com/NPOResources for more information.

This guide was last updated in September 2011 by CPAs serving on the VSCPA Nonprofit Resource Guides Task Force. CPAs and nonprofit organizations are freely encouraged to email or copy this guide to share with officers and directors serving on nonprofit boards. For permission to duplicate this guide or modify it for any other purpose, please contact the Virginia Society of CPAs at 4309 Cox Road, Glen Allen, VA 23060, (804) 270-5344 or vscpa@vscpa.com.

7

Learn more at

www.vscpa.com

8

Notes ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ____________________________________________________________________________

Page 45 of 47

Notes ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ______________________________________________________________________________ ____________________________________________________________________________

Page 46 of 47

Page 47 of 47