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Nonprofit operating reserves represent the unrestricted funds an organization has set aside to help maintain financial stability and weather unforeseen challenges. They serve as a safety net, allowing nonprofits to continue functioning during economic downturns or when faced with unexpected expenses.

Maintaining 6 months’ worth of operating reserves is recommended for nonprofits to ensure their long-term financial health.

Benefits of Healthy Operating Reserves

A solid operating reserve can offer numerous benefits to nonprofits. Here’s a quick list of some advantages:

Weathering economic downturns and unexpected challenges
Seizing unforeseen opportunities for growth
Attracting donor support by demonstrating financial stability and longevity

But, don’t believe everything you hear. There are plenty of myths about operating reserves we’ve debunked for you.

operating reserves - lone tree growing in rocks - resilience — Operating reserves can lead to nonprofit financial resilience.

Real-life Impact: Operating Reserves during the Pandemic

One nonprofit I have worked with, a youth after-school program, had a healthy operating reserve when the 2020 pandemic hit. With programs unable to operate due to lockdowns, the organization was still able to retain most of its staff, thanks to its healthy reserve.

Instead of letting their talents go to waste, the nonprofit redirected staff efforts to support local community initiatives. They helped box and deliver food from the food bank, created and distributed home learning packets for schools, and even established a community help and prayer phone line.

By having a robust operating reserve, this nonprofit was able to stay afloat during a challenging time and make a positive impact on its community.

Calculating the Recommended Operating Reserve Ratio

To determine the recommended operating reserve ratio for your nonprofit, divide the total unrestricted net assets by the total expenses, then multiply by 12. This calculation will give you an idea of how many months of operating reserves your organization currently has. Aim for at least 6 months’ worth to ensure financial sustainability.

For example, let’s say your nonprofit has $500,000 in unrestricted net assets and annual expenses of $1,000,000:

Operating Reserve Ratio = ($500,000 / $1,000,000) x 12 = 6 months

This means your nonprofit has 6 months of operating reserves, which is within the recommended range.

Tips for Building and Maintaining Operating Reserves

Building and maintaining an appropriate level of operating reserves takes time and effort, but it is a worthwhile investment. Here are some tips to help you achieve this goal:

Develop an Operating Reserve Policy: Create a clear policy that outlines the target reserve ratio and strategies for achieving it as well as when to activate the use of such funds.
Engage Donors: Encourage specific donors who might be willing to support your organization’s efforts to build operating reserves, such as through matching grants or endowment gifts.
Highlight Reserves in Annual Reports: Showcase your operating reserves in your annual report to demonstrate your commitment to financial health and sustainability, which may encourage more donors to invest in your work.
Implement Sound Financial Management Practices: Regularly review expenses and look for opportunities to reduce costs.
Leverage Surplus Funds: Use any surplus funds from under-budget expenses to contribute towards your operating reserves. We are talking about “Net Assets Without Donor Restrictions” on your balance sheet.

Expanding on the importance of engaging donors, it’s essential to build strong relationships with those who are passionate about your cause and understand the value of financial stability. Share your vision and goals for operating reserves with them, and emphasize how their support can help your organization become more resilient and better positioned to make a lasting impact.

Check out these strategies for funding operating reserves.

Invest in Your Nonprofit’s Financial Future

So, nonprofit operating reserves play a vital role in ensuring an organization’s financial health and longevity. My personal experience working with nonprofits that have maintained healthy reserves has shown me the incredible benefits they offer, from demonstrating resilience during tougher economic times to seizing unforeseen opportunities for growth.

By actively working to build and maintain an appropriate level of operating reserves, your nonprofit will be better positioned to fulfill its mission and serve its community for years to come.

Remember, investing in your nonprofit’s financial future is a long-term commitment that requires careful planning, strong donor relationships, and diligent financial management. By following the tips outlined in this article and fostering a culture of financial responsibility, your organization can develop the resilience needed to navigate challenges and embrace new opportunities. So, start building those operating reserves today and set your nonprofit on the path to a more secure and prosperous future.