Managing the Cash to Pay It Forward

BY DR. JOSEPH HOWE, CPA

With so much uncertainty in the financial markets and the economy, it is a good time for nonprofit managers and boards to brush up on the Uniform Prudent Management of Institutional Funds Act (UPMIFA). New Jersey promulgated the UPMIFA in 2009 in the aftermath of the financial crisis as an update to prior laws that governed nonprofit institutions’ investments.

The general theme of the UPMIFA is that each person responsible for managing and investing institutional funds (on behalf of nonprofits, charities and endowments) shall manage and invest the funds “in good faith and with the care an ordinarily prudent person in a like position would exercise under similar circumstances.” This principle, commonly referred to as the “reasonable person standard,” is a mainstay in many legal doctrines, but what does it mean here and what steps can organizations take to protect and grow their investments?

The synthesis of this principle is that one must take steps to perform due diligence before investing funds and thereafter have processes and procedures in place for the ongoing monitoring of investments. This applies whether the institution manages the funds in house or hires investment managers. To help memorialize the steps taken to oversee investing and cash management, the board should adopt written policies and procedures to establish and govern the investment process. For smaller nonprofits, there are a number of organizations that offer model investment and cash management policies at little or no cost.

INVESTMENT DECISIONS

The institution’s board or investment committee sets the risk profile which guides management decision making. The organization’s risk profile will be mission dependent with most having a more conservative risk profile, the goal of which is to preserve capital while generating income to fund operations. In this scenario, the portfolio is likely made up of investment-grade bonds. With that risk appetite, an investment policy would restrict more exotic or volatile investments, or at the very least require them to come before the board before any capital is allocated.

In guiding investment policy and decisions, the UPMIFA articulates that, at a minimum, the following factors must be taken into consideration when managing and investing institutional funds:

> General economic conditions

> The possible effect of inflation or deflation

> The expected tax consequences, if any, of investment decisions or strategies

> The role that each investment or course of action plays within the overall investment portfolio of the fund

> The expected total return from income and the appreciation of investments y Other resources of the institution

> The needs of the institution and the funds to make distributions and to preserve capital

> An asset’s special relationship or special value, if any, to the charitable purposes of the institution

Taking these factors into consideration should assist the organization in determining the nature, timing and extent of the investments they make. Each of these elements should be articulated in the investment process and addressed when making investment decisions.

DELEGATING INVESTMENT FUNCTIONS

Another important section of the UPMIFA, sometimes referred to as the Madoff clause, requires an institution that delegates an external agent to manage and invest institutional funds to periodically review their actions in order to monitor their performance and compliance with the scope and terms of the agreement. Madoff’s list of victims includes some of the most sophisticated charities in existence, but some of them did not even perform the most basic due diligence. Notably, an institution that exercises the proper due diligence under the act may not be liable for the decisions or actions of the agent. Some key measures of oversight can include monitoring transactions for consistency with the institution’s investment goals, independently verifying account balances, reviewing transaction statements and comparing them to historical market prices, and having a firm understanding of how they are compensated.

Whether a nonprofit receives funding from charitable donations or government contracts, those who hand money over want to know that the organization will be a good steward of their funding. The key takeaway is to have written investment policies and procedures and follow them. The proper investment of nonprofit funds is critical as any missteps can dry up future funding sources.

Dr. Joseph Howe, CPA, CFE, CGFM, is the chief financial officer of a government entity in New Jersey. He is a member of the NJCPA Governmental Accounting & Auditing Interest Group and can be reached at jhowecpa@gmail.com.