How Much Should Associations and Not-for-Profit Maintain in Their Reserves?

 

InView September 2010 Issue

How Much Should Associations and Not-For-Profits Maintain in Their Reserves?

 

By Frank Kurre

 

Associations and other not-for-profit organizations must maintain adequate reserves to establish financial stability and organizational sustainability. These reserves provide a cushion to deal with operating deficits that may arise because of unexpected events, economic uncertainties or lean funding periods. A number of organizations that did not put aside sufficient funds in the past few years to withstand financial shortfalls and deliver on their missions no longer exist today.

 

Boards and management need to continually assess what levels of reserves their organizations require given their missions and plans, facilities, structures, funding sources, and a number of other considerations. In short, they need to ask: “What level of reserves is adequate?”

 

Over the years, associations and other not-for-profit organizations have used a variety of measurements to evaluate the level of reserves that should be maintained. Some organizations believe that they must maintain the equivalent of at least six months of operating expenses in reserves. Others feel that reserves should equal one to two years of operating expenses.

 

Applying a general percentage (e.g., one year of operating expenses) as a yardstick to all not-for-profit organizations would be a mistake. Not-for-profits should assess the reasonableness of their reserves based on factors pertinent to their individual situations and the subsectors in which they operate. For example, higher education institutions often rely on significant net asset balances to provide student scholarships, whereas membership organizations may be pressured by their members to maintain a low dues structure and not accumulate significant net asset balances. In addition, some organizations have extensive physical plants, are self-insured, have complex corporate or debt structures, or manage a large labor force. These factors have an impact on the size of the reserves these organizations should accumulate.

 

Surpluses are needed to sustain the long-term viability of an organization and fund its future programs. Well-managed associations and not-for-profits should be generating surpluses.

 

On the other hand, associations and other not-for-profits should not be afraid to accumulate significant assets and net assets, since not-for-profit organizations are mission-driven and not profit-driven. However, to sustain their missions and execute their programmatic activities effectively, organizations must also: