Nonprofit finances are often a topic of discussion in the world of social good, especially in the questionable economy that we’ve been thrust into during the 2020 pandemic. Many organizations have readjusted their fundraising strategies, event plans, and overall budget to adhere to social distancing guidelines and react to the economic downturn.
Whether your nonprofit is looking to execute some easy fundraising ideas for quick revenue or readjust your entire budget, having a solid foundational knowledge about how nonprofit finances work will put you ahead of the game to adjust your strategies and make smart financial decisions.
In this guide, we’ll cover some basic financial knowledge that executives, fundraising professionals, and other individuals at your organization should have for smart decision-making.
What We’ll Cover
- Fund Accounting Overview
- Bookkeeping vs. Accounting
- Nonprofit Budgeting
- Annual Taxes for Nonprofits
- Outsourced Accounting
Understanding the basics of nonprofit finances will help you make good decisions for your nonprofit both during the crisis and post-pandemic. Let’s get started.
1. Fund Accounting Overview
Fund accounting is a method of accounting that focuses on accountability rather than profitability. Instead of only tracking the expenses and revenue for your organization, you have to also track the allocation of funds to be sure they’re spent on the proper activities. It’s the type of accounting that nonprofit organizations use to keep track of their finances.
Funds need to be separated so that you know where they come from and what they are allowed to be spent on. For example, some donors contribute to organizations only if those organizations request that their donation is spent on certain activities, such as a scholarship. These contributions would go into a restricted fund. Some of the funds that nonprofits use to allocate their money include:
- Restricted funds
- Unrestricted funds
- Temporarily restricted funds
- Designated funds
With several allocation possibilities, fund accounting is necessary to keep your nonprofit finances organized. This is why it’s so important to invest in a financial software solution that’s built to support fund accounting.
2. Bookkeeping vs. Accounting
For many individuals who don’t understand the nonprofit financial sector, “bookkeeping” and “accounting” are interchangeable terms. However, in reality, they have very different meanings and refer to very different aspects of how your finances are handled.
According to Jitasa’s bookkeeping vs. accounting article, here are the primary differences between the terms:
- Nonprofit bookkeeping describes the record keeping of nonprofit organizations. Bookkeepers are those who take care of the day-to-day financial activities at your organization such as basic data entry, writing checks, making deposits, and processing payroll. Nonprofit bookkeepers don’t typically need specialized education. However, they should understand the basics of what nonprofit finance looks like and how to use your financial software solution.
- Nonprofit accounting describes the analysis of financial records and the process of making decisions regarding the best next steps for your nonprofit. Nonprofit accountants are those who make informed financial decisions for your organization. This role requires a four-year degree in accounting, and most professionals are also CPA-certified. Your accountant will prepare detailed financial reports, compare actual vs. projected budgets, prepare your books for an audit, and file your annual tax forms.
Consider, for instance, the online donation platform at your organization. When a new record comes into the system, your bookkeeper is the one who ensures the records are straight on your general ledger. Meanwhile, your accountant is the one who decides how much of your estimated revenue budget is likely from your online donation form.
3. Nonprofit Budgeting
Your nonprofit budget is the backbone of your strategy. Creating an accurate and effective budget will help make sure that your organization is not only securing revenue, but that you’re also making the most of those funds to promote organizational growth.
When you lay out your expenses, break them down into specific categories in order to make your financial organization easier. These categories include:
- Fundraising expenses. Fundraising expenses can be further broken down into the marketing, event, and tech tools that you use to reach supporters and develop relationships with them to enhance your fundraising efforts.
- Administrative expenses. Administrative expenses are those that you use to keep your doors open at your organization. For instance, employee salaries, office rent and utilities, and data organization investments would all fall under this category.
- Program expenses. Your program expenses are those that are necessary to conduct your work with the community. For example, if you work at an animal shelter, the veterinary fees and purchase of food for the rescues would be considered program expenses.
When you prepare your personal budget, you probably focus primarily on your expenses. However, nonprofit budgets cover more than just expenses. They also help you predict your estimated annual revenue. You can find this predicted revenue in two different ways. You can either use the:
- Discount method. The discount method is when your team identifies the predicted revenue from each fundraising source and multiplies that number by the probability that you’ll receive the funding. For example, you may have a 90% chance of receiving your predicted grant funds, but a 75% chance of receiving your predicted online fundraising revenue.
- Cutoff method. With the cutoff method, your organization will consider the total fundraising revenue predicted and multiply it by the probability that you’ll reach that fundraising total. For instance, if you predict that you’ll receive $200,000 in fundraising, but that you have a 75% chance of receiving that predicted amount, you’ll budget $150,000 for your predicted revenue.
You can see both the expenses and revenue represented in a nonprofit budget in the following image, pulled from the this guide:
As you can see, there are many elements that must be included in your nonprofit’s budget. It requires a very organized and financially-focused individual to put together a well-designed and effective one. That’s one reason why your accountant should play a part in creating your organization’s budget each year.
4. Annual Taxes for Nonprofits
When you started your nonprofit, you took steps to make sure that you wouldn’t have to pay taxes each year. That’s one of the great things about being registered as a 501(c)(3) organization! However, that doesn’t mean you don’t have tax forms that you need to file each year. Your Form 990 is the annual form that you need to file annually to maintain your tax exempt status.
Filing your nonprofit’s Form 990 helps the IRS keep track of the organizations that don’t pay taxes each year. The information in this form helps them keep organizations accountable and checks that nonprofits are being financially honest.
When you fail to file your Form 990, your nonprofit will incur negative consequences. There are penalties for late filing or failing to file. These penalties include:
- Loss of your tax-exempt status. If your organization fails to file for three consecutive years, you risk losing your tax exempt status. To get it back, you’ll need to refile other paperwork and use a lot of your valuable time completing tedious paperwork.
- Loss of your ability to accept tax-deductible contributions. The fact that donating to nonprofits is tax-deductible is a major incentive for many individuals. Failing to provide this deductible option takes away some of the incentive for supporters to continue contributing.
- Immediate late fees. If you file your Form 990 late, you’ll incur late fees. You’ll be charged $20 per day that it’s late with a maximum penalty of $10,000 or 5% of your gross revenue. However, if your organization generally has gross receipts of over $100,000, that penalty increases to $100 per day with a maximum penalty of $50,000.
As you can see, filing your tax forms is an immensely important part of your nonprofit’s regular financial reporting. You have the option of either filing this form on your own or reaching out to an accountant to help file it on behalf of your nonprofit.
We recommend reaching out to an accountant. They’ll be able to help you make sure all of the data is correct and limit the potential for human error on the forms. Plus, they’ll be able to help make sure you file on time and avoid pesky late fees.
5. Outsourced Accounting
When we discuss finances, many nonprofits have very similar concerns. They worry about not being able to take on their own finance department, especially not one with a skilled CPA-certified accountant who can help make informed decisions!
Hiring a new accounting team can be incredibly expensive. You probably have growth goals that you’re trying to reach without the stress of taking on new team members. Luckily, there are other options that allow you to enlist a professional’s help without taking on too hefty of a financial burden.
We recommend outsourcing your accounting to a firm that specializes in nonprofits. There are numerous benefits that accompany the outsourcing option. These benefits include:
- Access to a team of experienced nonprofit accounting professionals.
- Help filing your federal and state tax forms each year.
- Input on your nonprofit’s budget and recommendations for growth.
If you’re interested in partnering with an outsourced nonprofit accountant, we recommend first conducting your research. You should make sure that the firm you choose has a proven track record, has worked with similar organizations in the past, and will be a good fit for your nonprofit. Start by conducting a Google search, referencing top provider lists like Fundly’s top outsourced accounting firm recommendations, and asking other organizations for references.
When you find the right fit, you’ll be able to rest assured that your finances are in good hands.
Nonprofit finances can seem like an overwhelming and tricky subject. However, a fundamental knowledge of how they work and what they look like will help your nonprofit make the most of your funding. You’ll find yourself better able to invest in growth and create an even greater impact. Good luck!