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The operating reserve is your nonprofit’s financial safety net

January 17, 2019

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An operating reserve does not have donor restrictions and is a relatively liquid portion of a not-for-profit’s net assets. Securing this reserve for use in emergencies or simply when your budget falls short is critical to your organization’s security and long-term survival.

Long-term effort

Building an adequate operating reserve takes time and should be regarded as a continuous project. Your board of directors needs to determine your nonprofit’s policy on building an operating reserve, the desired fund amount and the circumstances under which it can be drawn down.

Reserve funds can come from  contributions without donor restrictions, investment income and planned surpluses. Many boards designate a portion of their organizations’ net assets without donor restrictions as an operating reserve.

On the other hand, funds that shouldn’t be considered part of an operating reserve include endowments and donor restricted funds. Net assets tied up in illiquid fixed assets used in operations, such as your buildings and equipment, generally don’t qualify either.

The right amount

Determining how much should be in your operating reserve depends on your organization and its operations. Generally, if you depend heavily on only a few funders or government grants, your nonprofit would benefit from a larger reserve. Likewise, if personnel costs make up a significant part of your expense budget, your organization could use the cushion a healthy operating reserve provides. On the other hand, there are nonprofits that need less in reserve — for example, those with diverse funding.

Three months of reserves is typically considered a minimum accumulation. Six months of reserves provides greater security. A three-to-six month reserve would enable your organization to continue its operations for a relatively brief transition in operations or funding. Or, in the worst-case scenario, it would allow for an orderly winding up of affairs.

An operating reserve of more than six months provides greater flexibility. For example, it might give your nonprofit funds to pursue a new program initiative that’s not fully funded, or to leverage debt funding for needed facilities or equipment.

Consider all factors

As your nonprofit establishes its operating reserve, it’s important to consider all factors that affect your organization’s finances. What’s right for one organization might not be right for another. Contact us for help calculating the appropriate reserve amount for your nonprofit.

© 2019

All content provided in this article is for informational purposes only. Matters discussed in this article are subject to change. For up-to-date information on this subject please contact a Clark Schaefer Hackett professional. Clark Schaefer Hackett will not be held responsible for any claim, loss, damage or inconvenience caused as a result of any information within these pages or any information accessed through this site.

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