Nonprofit leaders set the direction and tone for the entire organization’s operations. For your nonprofit to expand its reach, make a greater impact in the community, and achieve financial
sustainability, your leaders need to set clear goals and plan effectively.
The planning document that serves as the backbone for financial sustainability—and by extension, successful growth—is your nonprofit’s annual operating budget. This resource details
your organization’s predicted expenses for a given year and outlines how you’ll allocate your projected revenue to cover those costs.
To help you get started with nonprofit budgeting, this guide will outline three essential steps for creating a sustainable operating budget:
1. Properly Categorize Expenses
2. Diversify Your Revenue Streams
3. Check in With Your Budget Regularly
While operating budgets serve as guides for your organization’s spending and fundraising, it’s (of course) impossible to foresee every financial situation that may come your way. Since it’s often easier to predict expenses than revenue, and your projected costs will inform your funding goals, let’s begin by discussing how to create the expense side of your budget.
1. Properly Categorize Expenses
There are two major ways that organizations categorize costs in their budgets. Budgets based on natural expense categories allocate costs based on the nature of each payment, such as “staff salaries” or “marketing expenses.” Functional expense categories, meanwhile, organize costs based on their end goal in relation to the organization’s purpose.
Most nonprofits use functional expense categories in their operating budgets, as this method allows them to see how their spending furthers their missions. Additionally, most nonprofit financial reports require your organization to outline its functional expenses, so having your budget organized that way creates consistency across your documentation.
According to Jitasa, the three types of functional expenses are as follows:
- Program costs are directly related to your nonprofit’s efforts to further its mission, so they look different for every organization. For example, an animal shelter’s program costs might include spending on food, toys, beds, and veterinary care for rescue pets.
- Administrative costs are necessary for your nonprofit to operate and include expenses like employee compensation, utility bills, and office supply purchases.
- Fundraising costs are the upfront expenses associated with running revenue-generating campaigns, such as marketing material creation, event planning costs, and purchases of specialized fundraising software.
You may have also heard of the term “overhead expenses,” which refers to your nonprofit’s administrative and fundraising costs combined. The common recommendation used to be that nonprofits’ overhead costs should make up no more than 35% of their total expenses, with at least 65% of spending going toward their programs. However, it’s now accepted that this breakdown will look different for every organization.
Treat the 65/35 “rule” as a guideline to put as much of your nonprofit’s funding toward your programs as possible. If you need to cut costs, consider how you can reduce your overhead spending before taking funding away from your mission-related work. For instance, you could cut your marketing expenses by canceling unnecessary subscriptions and looking into free communication tools, or reduce your utility bills by moving to a hybrid office model.
2. Diversify Your Revenue Streams
As mentioned previously, the world of fundraising is often unpredictable. Another nonprofit might beat yours out for a grant, a major donor may withdraw funding because of a change in their personal circumstances, or economic turbulence could cause several of your monthly donors to cancel their recurring gifts. This is why it’s critical not to put all of your eggs in one basket when
outlining the revenue side of your operating budget.
Instead, create a diversified funding model organized according to the following sources:
- Individual donations. These make up the bulk of your nonprofit’s funding and include small, mid-sized, and major gifts from individual donors. In your budget, you should also record your fundraising event revenue predictions and the monetary values of projected in-kind donations under this category.
- Corporate philanthropy. This category includes any contributions to your organization from for-profit businesses, such as matching gifts, volunteer grants, fiscal sponsorships,
and revenue from internal employee giving campaigns. - Earned income. Although this revenue stream isn’t commonly associated with nonprofits, your organization can bring in some earned revenue through membership dues, merchandise sales, and fees for services provided.
- Investments. These also aren’t usually associated with nonprofits, aside from endowment funds. However, Infinite Giving explains that your organization can (and should!) open a brokerage account to grow its reserve funds by investing in stocks, bonds, mutual funds, and even cryptocurrency.
- Grants. These can come from the government, corporations, or foundations and are often critical for funding your nonprofit’s most important projects and programs. Pursue opportunities that align closely with your organization’s needs and submit well-written applications by the grantmakers’ deadlines to increase your chances of success.
Another outdated assumption about nonprofit budgeting is that because nonprofits can’t turn a profit by definition, their operating budgets have to break even every year. In reality, your
organization should budget for a revenue surplus if possible. This makes it easier to recover if a revenue source falls through or you incur unexpected expenses, and you can use any extra funding to build your nonprofit’s emergency fund or grow your investments.
3. Check in With Your Budget Regularly
Although your nonprofit will create an operating budget from scratch once a year, effective budgeting isn’t a one-and-done event. Instead, your budget should serve as a resource to guide your financial activities throughout the entire year.
At least once a month, sit down with your nonprofit’s leadership team, board members, and accountant to review your budget. Prior to each of these meetings, your accountant will create budget vs. actual comparison documents and cash flow reports so your team can determine whether your spending and fundraising are on track with your budget and make adjustments as necessary.
In these meetings, it’s also helpful to look forward to the next few months and revise your budget to match your current reality. For instance, if you surpassed your fundraising goal from
your 5K fundraiser in April, you might decide to move up your planned purchase of a new donor database from the fall to the summer since your adjusted budget shows that you’ll have enough
funds to do so within the next two months.
In addition to improving day-to-day management, creating a well-organized annual operating budget and treating it as a living document will allow your nonprofit to compile more accurate
financial statements, tax returns, and other reports at the end of the year. Then, you can use the data from these reports to inform next year’s budget and achieve greater success each year.
