Operating Reserves

Posted on Wednesday, May 08, 2013

Operating reserves are a common issue among nonprofit organizations.  We’ve all heard that every nonprofit should have a cash reserve equal to three months of expenses.  Does your organization? Is this true for every organization?

Let’s start with the basics.  The operating reserve is a portion of unrestricted net assets that is set aside by the board for use in emergencies or unexpected situations.  This might be from an unexpected shortfall in revenue in which a major funding source ceases or significantly decreases its support of the organization.  It could also be from unexpected demands on the organization’s resources, an unanticipated opportunity that becomes available to the organization or when a project that everyone thought would succeed falls short.   The operating reserve should not be used for non-operating expenses such as purchasing a new building or establishing an endowment.

The reserve can be funded by the organization with any funds that are not temporarily or permanently restricted.  This could include contributions from individuals or corporations, fees for goods or services, investment income or surpluses resulting from annual operations.

In order for the operating reserve to work properly, there should be a written policy in place including the following details.
• Reason for establishing the reserve
• Desired dollar amount of the reserve and the timeline for achieving it
• How the reserve is going to be funded
• Circumstances of when the funds can be used
• Procedures for approving the use of the funds
• How the organization will react to continued shortfalls in the reserve

The amount of the reserve fund will vary by organization.  Each organization should set their own reserve goal based on its cash flows and expenses.  Organizations need to examine where their money is coming from and where it is going.  Those organizations that receive regularly scheduled payments from grants or contracts do not need as much in an operating reserve as those that rely on periodic grants or fund raisers as their main support.  Many nonprofits make it a goal to fund the reserve so it will cover three to six months of expenses.  Three to six months can be used as a guide but there is no one size fits all for all organizations in setting up a reserve.  At a minimum, the reserve should be enough to cover one payroll.   

By setting up an operating reserve, the organization is making sure that there are sufficient funds to manage the day to day operations, as well as planning for the long-term financial stability of the organization.

Posted by: Carrie Minnich, CPA

Posted in Mission Minded Nonprofits

Disclaimer: The information contained in Dulin, Ward & DeWald’s blog is provided for general educational purposes only and should not be construed as financial or legal advice on any subject matter. Before taking any action based on this information, we strongly encourage you to consult competent legal, accounting or other professional advice about your specific situation. Questions on blog posts may be submitted to your DWD representative.

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