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Assessment of Recession Risk and Preparedness for Nonprofit Organizations 

Assessment of Recession Risk and Preparedness for Nonprofit Organizations 

Use this tool for a quick assessment of risk in four essential areas for nonprofit organizations. The rating and guidance provided will help to start discussions, set priorities, and focus attention as nonprofits develop plans to weather the recession. This assessment is a starting point developed to indicate the level of urgency and priority. It cannot take the place of a comprehensive organizational review or in-depth analysis of financial trends and forecasts.

FINANCIAL HEALTH 1 point 2 points 3 points Score
1 The number of the most recent three fiscal years that ended with a surplus in unrestricted funds (positive change in unrestricted net assets) 3 years 2 years 0 or 1 yrs
2 Percentage of contributed income included in the budget that is committed or highly reliable 75% or more 50 – 75% less than

50%

3 Percentage of contracts and earned income included in the budget that is committed or highly reliable 75% or more 50 – 75% less than

50%

4 The percent of variance between budget and actual results for total income for the most recent year Less than

10%

10 – 18% Over 18%
5 Number of months in the past year in which cash flow challenges required out of the ordinary steps such as delayed payments or use of reserves None 1 or 2 months 3 or more months
6 Number of months of operating expenses available in unrestricted cash (whether designated as reserve or not) More than  3 months              1 to 3 months 1 month    or less
7 Percentage of annual budget supported by income paid from an endowment Less than

5%

5 – 15% More than

15%

Financial health risk total       9 or less: lower risk, 10 – 12: moderate risk, 13 or more: high risk 
FINANCIAL INFORMATION 1 point 2 points 3 points Score
8 Budgets and actual financial performance, including full program costs, are understood and monitored for each significant program Yes Somewhat No
9 Financial reports prepared by staff or outside contractors are accurate and available every month within 30 days of month end Always Usually Sometimes
10 Accurate cash flow projections are prepared and used for management decisions Monthly Quarterly Irregular or never
11 Financial information identifies and tracks use of grant funds received for restricted purposes Always Sometimes No
12 Annual audit is completed in a reasonable time after the fiscal year Within 4 months 4 – 7 months More than  7 months
13 Required reports and data submissions for funders are prepared and submitted on schedule Always Almost always Inconsistent
Financial information risk total     8 or less: lower risk, 9 – 10: moderate risk, 11 or more: high risk

 

Assessment of Recession Risk and Preparedness for Nonprofit Organizations 

ORGANIZATIONAL CHANGE 1 point 2 points 3 points Score
14 Length of time the Executive Director or CEO has been in their position More than  3 years  

1 to 3 years

Less than   1 year
15 Significant changes in program or strategic direction have been implemented in the past two years No Some change Major change
16 Level of increase (or decrease) in quantity or level of program services provided in past 12 months that were driven by external changes Typical Above Average Significant
17 A capital campaign or building project is currently underway No Small project Large project
Organizational change risk total      5 or less: lower risk, 6 – 7: moderate risk, 8 or more: high risk
LEADERSHIP ENGAGEMENT 1 point 2 points 3 points Score
18 All staff leaders understand the organization’s financial condition and risks and their role in addressing the current siuation Yes Somewhat No
19 The majority of  board members understand the organization’s financial condition and risks and their role in addressing the current situation Yes Somewhat No
20 Tangible action has already been taken to prepare for and respond to the downturn and prepare for a tougher economic environment Yes Minimal No
Leadership engagement risk total      4 or less: lower risk, 5: moderate risk, 6 or more: high risk
USING THE RISK ASSESSMENT SCORES
Financial Health Risk Level
High: The financial weaknesses allow little breathing room and require urgent and decisive action and short-term planning.

Moderate: Scenario planning is important using conservative assumptions for highest risk items. Test all assumptions.

Lower: Strong financial health allows for longer-term planning and affords opportunities for innovation and strategic partnerships.

Financial Information Risk Level
High: Smart, timely decisions can’t be made without reliable information. The first priorities are tracking cash flow & budgets.

Moderate: Focus on improving areas of weakness, especially understanding true program costs, restricted grants & cash flow.

Lower: If budgets are reduced, try to maintain the infrastructure for reliable financial information to support management.

Organizational Change Risk Level
High: Multiple, simultaneous changes require diligent oversight, focus on strategic goals, and willingness to say no.

Moderate: Big changes put pressure on everything and require balanced decisions based on level of risk in other areas.

Lower: Because major change is not a factor (yet), stay focused on managing uncertainty in other areas.

Leadership Engagement Risk Level
High: The organization urgently needs a leader to step forward to call attention to the challenges, even if it causes discomfort.

Moderate: Champions within the organization need to work together to bring others up to speed and focused on taking action.

Lower: Leaders who have taken steps to plan and manage challenges can help develop others in the organization.

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Nonprofit Operating Reserves and Policy Examples

A nonprofit may set aside a cash reserve to provide a cushion for planned or unplanned future needs. This resource includes considerations for reserve planning and two sample policies.

Operating Reserves

An operating reserve is an unrestricted fund balance set aside to stabilize a nonprofit’s finances by providing a cushion against unexpected events, losses of income, and large unbudgeted expenses. The most common trigger for use of operating re- serves is on the income side, such as when a previously reliable source is reduced or withdrawn. Since operating reserves are most valuable if they are reliable, an important factor in using reserves is also having a realistic plan to replenish them. Operating reserves should not be used to cover a long-term or permanent income shortfall. Reserves can allow an organization to weather serious bumps in the road by buying time to implement new strategies. To be prudent, reserves should be used to solve temporary problems, not structural financial problems. In the worst case scenario, reserves can be used for an orderly shut down of the organization.

Operating reserves may be a part of the organization’s unrestricted cash or working capital. Every nonprofit needs to have sufficient cash flow coming in from various income sources and going out to pay expenses and other obligations when they are due. Some organizations create reserves by setting aside cash in addition to the regular bank fund balances for use when regular cash flow is disrupted.

Reserves are also different from restricted funds. Restricted funds are grants and contributions that have been received for specific programs or projects. These funds are “restricted” for use according to the grant agreement or donor’s instructions.

Sometimes this means that restricted funds sit idle in the bank for a while and the nonprofit cannot use those funds for some other purpose.

Reserves, on the other hand, are “unrestricted” funds that can be used in any way that the nonprofit’s management and board chooses.

Where do Reserves Come From? Occasionally, a nonprofit will receive a grant or contribution to create or add to an operating reserve fund. Usually, though, reserves are built up over time by generating an unrestricted surplus and intentionally designating a portion of the excess cash as a reserve fund. Some organizations include a line item in the budget to add to reserves.

How Much Should We Have?

While there are general guidelines for setting operating reserve goals, they should always by accompanied by “it depends.” Most standards are based on a formula to have enough unrestricted cash to cover operating expenses for a number of months. A commonly used reserve goal is three to six months’ expenses. At the high end, reserves should not exceed the amount of two years’ budget. At the low end, reserves should be enough to cover at least one full payroll including taxes. Keep in mind that generic target amounts for reserves don’t take some important variables into account, such as the stability of the nonprofit’s cash receipts. Organizations that have contracts or fees with regular and reliable payments don’t need as much in reserves as organizations that rely on periodic grants, fund- raising events or campaigns, or seasonal activities. Factor in these considerations when setting an operating reserve target. The goal for operating reserves will change, too, when income or expenses become less reliable or predictable because of internal or external changes.

Why Policies Matter

To be a viable operating reserve, there should be a board agreement and policy about the purpose and use of operating reserves. The purpose of the policy is to define and set goals for reserve funds, clearly describe authorization for use of reserves, and outline requirements for reporting and monitoring. Without a policy and procedure, reserve funds tend to be gradually spent down over time and then are not available the next time the funds are really needed. When developing the policy, be sure to allow for some flexibility and ease of access. Reserves are there to help the organization operate programs and services, not to create an untouchable bank balance to admire. Two examples of policies are included at the end of this article.

Other Kinds of Reserves

This discussion has been focused on operating reserves designated to manage cash flow or short- term cash shortfalls and unexpected expenses.

There are other kinds of reserve funds that can be established to build up cash balances for specific purposes such as building repair and replacement reserves, program reserves to support program continuation if income is uncertain, and opportunity reserves to allow the nonprofit to provide seed funding for a new idea or innovation. Each type of reserve needs the same kind of planning and policy as described for operating reserves.

Developing an Operating Reserve Policy Developing and adopting a written policy regarding a nonprofit’s operating reserves is a valuable practice for any organization. The policy may be contained within the financial policies or may stand alone. Having a written and approved policy on operating reserves will help to ensure that the board of directors and staff leadership use consistent definitions and calculations and that the authority and operational guidelines for using funds in re- serve are clear to all. In the absence of an adopted policy, staff and board members may have different assumptions that may or not be accurate or productive. If the idea of creating an operating reserve policy seems daunting, this basic example and guideline for policy development can be helpful.

Five Essentials for Policies

The intent of the operating reserve policy is to describe and document the purpose, goals, and mechanics for maintaining and using operating reserve funds. In order to accomplish this, the operating reserve policy needs to address five areas:

  1. Purpose of building and maintaining reserves
  2. Definitions of the types of reserves, intended use, and calculation of target amounts
  3. Assignment of authority for making use of each type of reserve fund, which may include delegation of some authority to staff leaders
  4. Responsibilities for reporting reserve fund amounts and use of reserve funds
  5. Any specific policies, if needed, about investment of reserve funds

Developing and Approving a Policy

This article includes two examples of reserve policies. The first is for operating reserves only and will be useful for nonprofits with a single cash reserve that is primarily used for occasional unexpected shortfalls. The second policy example expands to include other types of reserves, such as building reserves. This example requires more discussion and customization for the nonprofit’s particular situation and plans. Both of the example policies include a variety of components that may or may not fit the needs of any individual nonprofit organization. These examples are a starting point intended to help you address the essential questions and decisions. Some nonprofits develop more comprehensive and detailed policies that incorporate more specific responsibilities and add much more detail. The most important action is to create and adopt a policy that meets your organization’s needs.

Considerations When You Start with a Policy Template

We offer these example reserve policies to get you started, but keep in mind that no example will be an exact fit for your organization. Never adopt a policy without a thorough review and consideration of the risks, operations, and structure of the organization. In the example policies included here, some areas require customization. Bold, bracketed text should be customized to meet your needs. We have included some options to assist you. Be sure to review these parts carefully to create the right policy for your organization. Visit propelnonprofits. org to download these example policies as a Word document.

Sample Reserve Policy: Operating Reserve

Purpose

The purpose of the Operating Reserve Policy for [NAME] is to ensure the stability of the mission, programs, employment, and ongoing operations of the organization. The Operating Reserve is intended to provide an internal source of funds for situations such as a sudden increase in expenses, one-time unbudgeted expenses, unanticipated loss in funding, or uninsured losses. The Reserve may also be used for one-time, nonrecurring expenses that will build long-term capacity, such as staff development, research and development, or investment in infrastructure. Operating Reserves are not intended to replace a permanent loss of funds or eliminate an ongoing budget gap. It is the intention of [NAME] for Operating Reserves to be used and replenished within a reasonably short period of time. The Operating Reserve Policy will be implemented in concert with the other governance and financial polices of [NAME] and is intended to support the goals and strategies contained in these related policies and in strategic and operational plans.

Definitions and Goals

The Operating Reserve Fund is defined as a designated fund set aside by action of the Board of Directors. The minimum amount to be designated as Operating Reserve will be established in an amount sufficient to maintain ongoing operations and programs for a set period of time, measured in months. The Operating Reserve serves a dynamic role and will be reviewed and adjusted in response to internal and external changes.

The target minimum Operating Reserve Fund is equal to [one/two/three/six] months of average operating costs. The calculation of average monthly operating costs includes all recurring, predictable expenses such as salaries and benefits, occupancy, office, travel, program, and ongoing professional services. Depreciation, in-kind, and other non-cash expenses are not included in the calculation. The calculation of average monthly expenses also excludes some expenses [CUSTOMIZE: examples are pass-through programs, one-time or unusual, capital purchases]. The amount of the Operating Reserve Fund target minimum will be calculated each year after approval of the annual budget, reported to the Finance Committee/Board of Directors, and included in the regular financial reports.

Accounting for Reserves

The Operating Reserve Fund will be recorded in the financial records as Board-Designated Operating Reserve. The Fund will be funded and avail- able in cash or cash equivalent funds. Operating Reserves [CUSTOMIZE: will be maintained in a segregated bank account or investment fund, in accordance with investment policies OR will be commingled with the general cash and investment accounts of the organization].

Funding of Reserves

The Operating Reserve Fund will be funded with surplus unrestricted operating funds. The Board of Directors may from time to time direct that a specific source of revenue be set aside for Operating Reserves. Examples may include one-time gifts or bequests, special grants, or special appeals.

Use of Reserves

Use of the Operating Reserves requires three steps:

1.  Identification of appropriate use of reserve funds.

The Executive Director and staff will identify the need for access to reserve funds and confirm that the use is consistent with the purpose of the re- serves as described in this Policy. This step re- quires analysis of the reason for the shortfall, the availability of any other sources of funds before using reserves, and evaluation of the time period that the funds will be required and replenished.

2.  Authority to use operating reserves

CUSTOMIZE: This section must be customized to reflect the authority and process selected by the organization. Several possible approaches are included as examples.

  • Approach A: The Executive Director will submit a request to use Operating Reserves to the Finance Committee of the Board of Directors. The request will include the analysis and determination of the use of funds and plans for replenishment. The organization’s goal is to replenish the funds used within twelve months to restore the Operating Reserve Fund to the tar- get minimum amount. If the use of Operating Reserves will take longer than 12 months to replenish, the request will be scrutinized more carefully. The Finance Committee will approve or modify the request and authorize transfer from the fund. (OR, the Finance Committee will recommend the request to the Executive Committee or the Board of Directors).
  • Approach B: Authority for use of Operating Reserves is delegated to the Executive Di- rector in consultation with the Treasurer and/ or Chair of the Finance Committee. The use of Operating Reserves will be reported to the Executive Committee/ Board of Directors at their next scheduled meeting, accompanied by a description of the analysis and determination of the use of funds and plans for replenishment to restore the Operating Reserve Fund to the target minimum amount. The Executive Director must receive prior approval from the Executive Committee/Board of Directors if the Operating Reserves will take longer than 12 months to replenish.
  • Approach C: Authority for use [of up to $xx-

      ,xxx] of Operating Reserves is delegated to the Executive Director in consultation with the Treasurer and/ or Chair of the Finance Committee. The use of Operating Reserves will be reported to the Executive Committee/Board of Directors at their next scheduled meeting, accompanied by a description of the analysis and determination of the use of funds and plans for replenishment to restore the Operating Reserve Fund to the target minimum amount. The Executive Director must receive prior approval from the Executive Committee/Board of Directors for use of Operating Reserves in excess of [$xx,xxx].

      3.  Reporting and monitoring.

      The Executive Director is responsible for ensuring that the Operating Reserve Fund is maintained and used only as described in this Policy. Upon approval for the use of Operating Reserve funds, the Executive Director will maintain records of the use of funds and plan for replenishment. He/she will provide regular reports to the Finance Committee/ Board of Directors of progress to restore the Fund to the target minimum amount.

      Relationship to Other Policies

      [NAME] shall maintain the following board-ap- proved policies, which may contain provisions that affect the creation, sufficiency, and management of the Operating Reserve Fund.

      CUSTOMIZE:

      • Financial Policy
      • Budget Policy
      • Contingency or Disaster Preparedness Plan
      • Investment Policy

       

      Review of Policy

      This Policy will be reviewed every other year, at minimum, by the Finance Committee, or sooner if warranted by internal or external events or changes. Changes to the Policy will be recommended by the Finance Committee to the Board of Directors.

    Sample Reserve Policy: Multiple Reserves

    Purpose

    The purpose of the Reserves Policy for [NAME] is to ensure the stability of the mission, programs, employment, and ongoing operations of the organization and to provide a source of internal funds for organization- al priorities such as building repair and improvement, program opportunity, and capacity building.

    The Reserves Policy will be implemented in concert with the other governance and financial polices of [NAME] and is intended to support the goals and strategies contained in these related policies and in strategic and operational plans.

    Definitions and Goals Operating Reserve

    The Operating Reserve is intended to provide an internal source of funds for situations such as a sudden increase in expenses, one-time unbudgeted expenses, unanticipated loss in funding, or uninsured losses. Operating Reserves are not intended to replace a permanent loss of funds or eliminate an ongoing budget gap. It is the intention of [NAME] for Operating Reserves to be used and replenished within a reasonably short period of time. The Operating Reserve Fund is defined as a designated fund set aside by action of the Board of Directors. The minimum amount to be designated as Operating Reserve will be established in an amount sufficient to maintain ongoing operations and programs measured for a set period of time, measured in months. The Operating Reserve serves a dynamic role and will be reviewed and adjusted in response to both internal and external changes.

    The target minimum Operating Reserve Fund is equal to [one/two/three/six] months of average operating costs. The calculation of average monthly operating costs includes all recurring, predictable expenses such as salaries and benefits, occupancy, office, travel, program, and ongoing professional services. Depreciation, in-kind, and other non-cash expenses are not included in the calculation. The calculation of average monthly expenses also excludes some expenses [CUSTOMIZE: examples are pass-through programs, one-time or unusual, capital purchases].

    The amount of the Operating Reserve Fund target minimum will be calculated each year after approval of the annual budget, reported to the Finance Committee/Board of Directors, and included in the regular financial reports.

    Building and Capital Asset Reserve

    The Building and Capital Asset Reserve is intended to provide a ready source of funds for repair or acquisition of buildings, leaseholds, furniture, fixtures, and equipment necessary for the effective operation of the organization and programs.

    The target amount of the Building and Capital Asset Reserve will be determined by [CUSTOMIZE].

    Opportunity Reserve

    The Opportunity Reserve is intended to provide funds to meet special targets of opportunity or need that further the mission of the organization which may or may not have specific expectation of incremental or long-term increased income. The Opportunity Reserve is also intended as a source of internal funds for organizational capacity building such as staff development, research and development, or investment in infrastructure that will build long-term capacity.

    The target amount of the Opportunity Reserve will be determined by [CUSTOMIZE].

    Accounting for Reserves

    The Reserve Funds will be recorded in the financial records as Board-Designated [XXXX] Reserve. The Funds will be funded and available in cash or cash equivalent funds. Reserves [CUSTOMIZE: will be maintained in a segregated bank account or investment fund, in accordance with investment policies OR will be commingled with the general cash and investment accounts of the organization].

    Funding of Reserves

    The Operating Reserve will be funded with sur- plus unrestricted operating funds. The Board of Directors may from time to time direct that a specific source of revenue be set aside for Operating Reserves. Examples could include one-time gifts or bequests, special grants, or special appeals.

    The Building and Capital Assets Reserve will be funded by [CUSTOMIZE: setting aside funds received from any capital campaigns or similar appeals (OR) setting aside the equivalent amount of cash equal to XX% of depreciation in the annual budget (OR) other calculations].

    The Opportunity Reserve will be funded with occasional special designations made by the Board of Directors.

    Use of Reserves

    Use of the Reserves requires three steps:

    1.  Identification of appropriate use of reserve funds.

    The Executive Director and staff will identify the need for access to reserve funds and confirm that the use is consistent with the purpose of the re- serves as described in this Policy. This step re- quires analysis of the reason for the shortfall, the availability of any other sources of funds before using reserves, and evaluation of the time period that the funds will be needed and replenished.

    2.  Authority to use reserves.

    CUSTOMIZE: This section must be customized to reflect the authority and process selected by the organization. Each type of reserve may require a different structure and process for authorization. Several possible approaches are included as examples.

    • Approach A: The Executive Director will submit a request to use Reserves to the Finance Committee of the Board of Directors. The request will include the analysis and determination of the use of funds and plans for replenishment. The organization’s goal is to replenish the funds used within twelve months to restore the Reserve Fund to the target minimum amount. If the use of Reserves will take longer than 12 months to replenish, the request will be scrutinized more carefully. The Finance Committee will approve or modify the request and authorize transfer from the fund. (OR, the Finance Committee will recommend the request to the Executive Committee or the Board.
    • Approach B: Authority for use of Reserves is delegated to the Executive Director in consultation with the Treasurer and/or Chair of the Finance Committee. The use of Reserves will be reported to the Executive Committee/Board of Directors at their next scheduled meeting, ac- companied by a description of the analysis and determination of the use of funds and plans for replenishment to restore the Reserve Fund to the target minimum amount. The Executive Director must receive prior approval from the Executive Committee/ Board of Directors if the Reserves will take longer than 12 months to replenish.
    • Approach C: Authority for use [of up to $xx-,xxx] of Reserves is delegated to the Executive Director in consultation with the Treasurer and/or Chair of the Finance Committee. The use of Reserves will be reported to the Executive Committee/ Board of Directors at their next scheduled meeting, accompanied by a description of the analysis and determination of the use of funds and plans for replenishment to restore the Reserve Fund to the target minimum amount. The Executive Director must receive prior approval from the Executive Committee/Board for use of Reserves in excess of [$xx,xxx].

    3.  Reporting and monitoring.

    The Executive Director is responsible for ensuring that the Reserve Funds are maintained and used only as described in this Policy. Upon approval for the use of Reserve Funds, the Executive Director will maintain records of the use of funds and plan for replenishment, if required. He/she will provide regular reports to the Finance Committee/Board of Directors of progress to restore the Fund to the target minimum amount, if required.

    Relationship to Other Policies

    [NAME] shall maintain the following board-ap- proved policies, which may contain provisions that affect the creation, sufficiency, and management of the Reserve Fund.

    CUSTOMIZE:

    • Financial Policy
    • Budget Policy
    • Contingency or Disaster Preparedness Plan
    • Investment Policy

    Review of Policy

    This Policy will be reviewed every other year, at minimum, by the Finance Committee, or sooner if warranted by internal or external events or changes. Changes to the Policy will be recommended by the Finance Committee to the Board of Directors.

    By Propel Nonprofits and you can download full article at https://www.propelnonprofits.org/

    Reporting Financial Information to the Board

    The board of directors of a nonprofit organization has legal responsibility for the organization’s work. The board is responsible for short and long-term planning, and they must ensure that systems are in place for administering and effectively using resources and guarding against misuse.

    In order to fulfill their responsibilities, board members must be able to rely on financial information that is:
    Accurate: Information must be reliable and accurate. Resolve any question about the quality of recordkeeping or accounting first.
    Timely: Information should available to the board within 2 or 3 months at the latest.
    In context: Information should be presented in relationship to the history, goals, and programs of the organization.
    Appropriate: No one-size-fits-all financial report exists. Reports must be designed to communicate information specific to the organization’s current circumstances in a format that matches the knowledge level and role of board members.

    What Every Board Needs to Know
    Financial reports should be on the agenda at every board meeting. The board should regularly review the organization’s:
    Income statement showing income and expenses for the period compared to budget;
    Balance sheet showing assets and liabilities;
    Budget, which should be based on programmatic plans and should be approved annually by the board before the start of the fiscal year.

    In addition, once a year the board should review:
    • Annual financial report and, if required, an audit report; and IRS 990 information return.

    Purpose Determines Form
    The format and content of reports for the board should be determined by their intended purpose.

    Four types of reporting are needed by the board:

    1. Compliance and information
    The most common purpose of reporting to the board is to:
    • Give assurance and verification of how resources are used and ensure operational efficiency and controls;
    • Provide accountability to funders, community partners, and the public on the use of funds.

    The board should receive:
    • Income statement compared to budget;
    • Balance sheet;
    • Annual review of the audit;
    • Verification of timely and accurate filing of IRS 990 and other required reports.
    2. Evaluation
    When the board seeks to:
    • Assess effectiveness of activities and use of resources;
    • Review administrative systems and controls;
    • Measure progress toward goals, including financial, fundraising, and program goals;

    Consider financial information in relation to the mission of organization.
    The board should receive:
    • Comparisons of actual results to budget and other plans;
    • Comparisons to financial and programmatic benchmarks, such as client levels, financial ratios, reserve levels, and costs of services;
    • Financial reports in relation to the programmatic activities and needs of the organization.
    3. Planning
    When the board is engaged in planning in order to:
    • Project future needs and consider trends, changes, and prospects for the future;
    • Develop assumptions for use in future plans.
    The board should receive:
    • Trend analysis of primary income and expense categories for past 1 – 3 years;
    • Information about the external environment and how it is affecting the organization;
    • Financial implications of new programs or management decisions;
    • Multiple budget scenarios based on different options under consideration.
    4. Taking Action
    When action is required by the board as a result of changes from previous plans and to:
    • Respond to changes, both negative and positive;
    • React to changes in external environment;
    • Address problems with programs, budget or cash flow.
    The board should receive:
    • Income statement compared to budget and plans;
    • Analysis of the causes of the variances;
    • Multiple scenarios based on the different options under consideration.

    Additional Reporting
    At times it may be appropriate to provide additional information to the board, such as:
    • Cash flow projections;
    • Forecasts or periodic updates to the budget when significant changes have occurred affecting finances;
    • New budgets may need to be approved by the board;
    • Specialized budgets for capital projects or major new initiatives to fully inform the board before making significant commitments.

    In times of financial difficulty or crisis, you will need to:
    • Provide more detailed information;
    • Report more frequently;
    • Update forecasts and track against plans;
    • Manage cash flow vigilantly.
    Presenting Information to the Board
    • Invest some time in creating a report format for the board using either your accounting software or a spreadsheet program.
    • Use summary categories for income and expenses to enable the board to focus on the big picture for decision making rather than micro-managing day to day details.
    • Provide a brief narrative along with financial reports. The narrative should highlight significant items and explain variances from plans.
    • Every board member needs training on reading and using the financial reports. Provide an annual orientation and review of the report
    format, major categories, and the key financial factors for the organization.

    Article from Propel Nonprofits which you can access directly at https://www.propelnonprofits.org

    12 Golden Rules of Nonprofit Finance

    12 Golden Rules of Nonprofit Finance by Propel Nonprofits

    Healthy nonprofit organizations employ financial management practices that build stability and flexibility, both today and in the future.  In this resource we set out the 12 golden rules for nonprofit finance, including budgeting, diverse funding sources, and interdependence.

    Nonprofit organizations impact communities and individuals by delivering services, providing advocacy, and building community. Behind the scenes, powerful missions, innovative programs, and passionate staff and volunteers are supported by financial activities and decisions. Healthy nonprofit organizations employ financial management practices that build stability and flexibility both today and in the future.

    1. Budgeting

    Budgets matter because they provide the financial information to support all planning. Effective budgets are realistic, using sound assumptions and clear accountability to achieve those assumptions.

    2. Program Costs

    Financial decisions rely on good information. It is essential that organizations understand the real costs of their programs in order to make decisions about fundraising needs, contract terms, and program expansion or modification.

    3. Diverse Funding Sources

    While it sounds good, diversifying funding sources isn’t easy, and isn’t necessarily a smart move. Different types of income require different systems, structures, relationships, and communications.

    4. Functional/Infrastructure Expenses (aka, Core Mission Support)

    Nonprofits are required to account for functional expenses – program services and general/administration & fundraising (often referred to as “overhead”). While lower overhead expenses may sound better to donors, this emphasis is destabilizing and unsustainable. Make the case by reframing from “overhead” to “infrastructure” or “Core Mission Support.”

    5. Cash Flow

    Day to day, cash in the bank to pay the bills often matters more than any financial statement or long-term plan. Cash flow can be monitored and managed with a few basic management tools.

    6. Financial Information

    To be an effective leader, encourage everyone to develop financial literacy. This includes learning the terminology, understanding and using financial reports, and asking lots of questions. Good information is provided by trained and respected staff and professionals.

    7. Financial Responsibility

    Responsibility for making financial decisions and carrying out financial activities is shared throughout an organization. Responsibility needs to be supported with good information, frequent communication, and appropriate authority.

    8. Operating Reserves

    Every nonprofit needs to have some cash in reserve in order to respond to an unexpected downturn or opportunity. Is there a golden number that every organization should maintain, and how can a nonprofit build reserves?

    9. Accountability and Transparency

    Between the IRS, Attorney General, foundations, and donors, everyone is demanding information and answers about how nonprofits receive and use financial resources. This trend is accelerating and many nonprofits choose to make accountability an important organizational value.

    10. Financial Integrity

    As public charities, nonprofits can expect to be held to a high standard of integrity and honesty in all financial activities. While policies, job descriptions, and internal controls help to maintain this integrity, they are built on the foundation of mission, values, and leadership.

    11. Responding to Financial Problems

    Sometimes things go wrong – contracts are lost, fundraising plans flounder, and expenses skyrocket. Responding to financial problems requires strong leadership, good communication, creative planning, and decisive action.

    12. Interdependence

    Financial management connects to every aspect of a nonprofit – governance, planning, programs, evaluation, on and on. Keeping everything connected is what financial leadership is all about.

    Please contact us to help your organization implement these 12 Golden Rules of Nonprofit Finance.

    COVID-19 Financial Management Strategies and Financial Contingency Planning

    Not-for-profit organizations are almost always dealing with the fragile nature of their operations and existence. Fears of possible loss of major donors, fears of recession, changes in tax laws, changes in reimbursement revenues, changes in government regulations, and dealing with the ever increasing cost of operations, are always present.

    What are some financial steps your organization can take to weather this pandemic and survive?

    1. Assess Available Cash and Reserves
      1. Your organization should know where you are with available cash.
      2. Determine how much of this available cash is unrestricted by reviewing your operating, money market, investment accounts, board reserves and review all receivable expected to be collected.
      3. Determine a typical months cash expenditures and consider different scenarios.
      4. Determine # of days of cash available by dividing available cash by a typical month’s expenditures to determine how long you can survive with no other sources of revenue or cash.
      5. Cash Flow projections over the next several months are important to identify future cash flow issues before they occur.
      6. Consider other possible sources of cash to include line-of credit, credit cards, board designated endowment funds, or donor restricted funds that would allow you to release restrictions for operating purposes.
      7. With this essential financial information, your board, management, and staff can work collectively to assess the urgency of the situation, make informed decisions, and develop a plan of action.
    2. Assess Impact on Organization’s Sources of Revenue
      1. Review sources of revenues and determine how they may change in the short term.   Keep in mind program service revenues may decrease significantly if the availability of these services decline.  Social service revenues may actually increase for services provided to vulnerable populations and fees for services contracts with federal, state, or local agencies may continue.  Grant making agencies and foundations may actually provide increased funding for short-term emergency needs
      2. Organizations who rely on investment earnings to fund operations should consult with investment advisors to determine projected investment revenues.
      3. Organization needs to prioritize those programs and activities with the most impact and profitability while considering reducing, delaying, or eliminating those programs and activities with less impact and profitability.  Can we reassign certain staff to those activities with greatest need and associated funding?  What is the financial impact if fundraising events need to be cancelled or rescheduled?
      4. Reach out to your supportive donors and foundations to explain to them your specific situation and what you are doing to address this crisis and your proposed solutions.  Also, ask them for support and help during the crisis.  You might suggest to donors to consider making their annual contributions now when its most needed instead of waiting until the end of the year.  For donors with restricted contributions, you might ask them if you can use their donation for general operations.    You should communicate your plan of action with progress updates so your donors can track  your progress and needs.  You might consider in-kind donations in addition to cash donations for goods, services, and volunteers.
    3. Assess Impact on Organization’s Expenditures
      1. You can identify variable expenditures(payroll, travel, and office expenses) and determine to what extent they can be reduced while still allowing you to operate
      2. You can reduce those program expenses where you experience reductions in program revenues
      3. You can increase program expenses from those programs that see increases and reallocate staff and resources from other program areas.
      4. You should evaluate each type of expense to determine the projected increases or decreases to the projected budget.
      5. This maybe the time when difficult decisions need to be made regarding the reduction or elimination of programs and activities including the reduction of employees.  Would some employees consider some volunteer services in order to keep the programs going and increase their chance of returning to work in the future?  Keep employees informed of upcoming potential lay-offs or terminations.
      6. You should contact vendors and negotiate extended payment terms or payment plans.  Also, contact your landlord or banker to delay rent or loan payments.  You might check to see if you bank would consider interest only payments instead of full payments for a short period of time.

    It is important to communicate with everyone in the organization to find solutions and have a collaborative approach.  Lower level staff may have a better hands-on evaluation of what specific measures need to be taken.  This crisis in not a result of lack of oversight, poor management, or bad decision making.  Everyone seems to be effected by this crisis so take comfort in knowing that we are all going through this together at the same time.    Your organization can do it’s best by having a pro-active crisis response that’s decisive and provides timely and accurate communication to all.   You should be exploring all funding sources available to your organization including the federal loan, grant, and tax credit program available to help with these short-term financial needs.  You should take this opportunity to reach out and show everyone how you have taken control or your organization’s destiny.

    There are 5 Nonprofit Finance Must-Do’s in the time of COVID.

    • Understand your cash position
    • Assess damage to revenue streams
    • Look at the dual bottom line to include financial and impact
    • Include everyone in the discussion
    • Communicate consistently

    The following financial management strategies should be considered as financial contingency planning for your short-term financial needs with the following practical takeaways.

    1. Forgivable loans to maintain full operations.  You should pursue this option if you plan to continue at the same staffing level as you did before the crisis.  You will apply with your financial institution and it will pay your entire payroll for 8 weeks after funds are revised and pay your essential operating costs like rent payments, mortgage interest, and utilities.  We would suggest you track how these loan proceeds are used so you can maximize the loan forgiveness once these funds are spent.  Keep in mind the employer portion of Social Security and Medicare is excluded from the allowable payroll costs.
    2. Employer Social Security Tax Deferrals.  Employers can defer the deposit and payment of Social Security taxes from March 27, 2020 to December 31, 2020.  The deposit due date for 50% of the taxes is deferred to December 31, 2021 and the remaining 50% deferred until December 31, 2022.  Please note that an employer is ineligible to defer paying the Social Security Tax if it acquires a loan through the Paycheck Protection Program and receives a decision from the lender that the loan was forgiven.
    3. Families First Coronavirus Response Act – Employment Provisions.  Two weeks of emergency paid sick leave to quarantine, seek diagnosis, or preventive care including 2/3 regular rate for family member care.   Twelve weeks of emergency family and medical leave for those employers with more than 50 employees.  Employers paying the mandated paid leave are entitled to claim a refundable tax credit.
    4. Employee Retention Credit.  This is a fully refundable tax credit for employers equal to 50% of qualified wages from March 12, 2020 to December 31, 2020.  This is a great option for those organizations that have experienced a significant decrease in revenues or reduction in operations.   An eligible employer may not receive the employee retention credit if the eligible employer receives a paycheck protection loan.

    You can use these financial contingency planning options, but feel free to customize what works best for your organization.  Let us know if we can provide assistance to help you make and implement these difficult financial decisions.

    AICPA makes PPP loan forgiveness recommendations

    The AICPA on Wednesday issued a series of recommendations it would like to see the U.S. Small Business Administration (SBA) adopt and issue as guidance for small businesses to use in calculating loan forgiveness under the Paycheck Protection Program (PPP).

    In the release, the AICPA urges that:

    • The eight-week covered period under PPP should align with the beginning of a pay period, not the date loan proceeds are received.
    • The eight-week period should be flexible, with businesses able to choose to commence it once stay-at-home restrictions are lifted instead of when loan proceeds are received.
    • Full-time equivalents (FTEs) should be calculated using a simple wage-based proxy when hours worked are not tracked by the employer (e.g., for salaried workers or those paid by piece).
    • Payroll reduction calculations should be based on an employee’s average payroll per week in the eight-week period compared to the prior quarter, rather than comparing total compensation in the periods. Loan forgiveness is reduced if an employee’s compensation decreases by more than 25% but an eight-week period will naturally have 33% less payroll than a 12-week quarter.

    The AICPA also addressed the eight-week loan forgiveness period in a letter sent late Tuesday to Treasury Secretary Steven Mnuchin and SBA Administrator Jovita Carranza. In the letter, signed by AICPA President and CEO Barry Melancon, CPA, CGMA, the AICPA lays out the case for changing the current interpretation for when to start the eight-week period for the forgiveness calculation component of the program.

    Congress created the PPP as part of the $2 trillion Coronavirus Aid, Relief, and Economic Security (CARES) Act, P.L. 116-136. The legislation authorized Treasury to use the SBA’s 7(a) small business lending program to fund loans of up to $10 million per borrower that qualifying businesses could spend to cover payroll, mortgage interest, rent, and utilities. PPP borrowers can qualify to have the loans forgiven if the proceeds are used to pay certain eligible costs. However, the amount of loan forgiveness will be reduced if less than 75% of the funds are spent on payroll over an eight-week loan forgiveness period.

    Current guidance from Treasury and the SBA interprets the eight-week period as beginning on the date the lender makes the disbursement of the PPP loan to the borrower. However, the AICPA says, with many states still shut down by government order, most small businesses are unable to bring their employees back to work. For those businesses, starting the loan forgiveness clock on the date the lender disburses the funds means the recipient business must either pay employees while it is unable to operate or forgo the maximum amount of loan forgiveness. Flexibility in the start dates of the eight-week period would position more small businesses to survive and contribute to an economic rebound while working within the parameters of the CARES Act and subsequent guidance.

    To address this problem, the AICPA letter urges Treasury to “[i]mmediately take a very simple but critical step and define the origination date as the date on which a state’s shelter-in-place order is lifted and businesses are authorized by government to return to full operations. This will provide the necessary flexibility for the 8-week clock to start, businesses to bring back employees and to pay sufficient payroll to meet the 75% requirement.”

    Recommendations provided

    The AICPA has received numerous questions from CPAs about the loan forgiveness portion of the PPP. Many of those inquiries have sought answers on the documents and calculations that should be used in applying for loan forgiveness to be awarded.

    In response, the AICPA has developed recommendations for applying for loan forgiveness that have been added to earlier recommendations on how to apply for PPP loans. The full list of recommendations is available on the AICPA’s website.

    The AICPA said in the release that it has requested further clarification on how reductions in forgiveness are to be applied. Specifically, the AICPA is seeking clarity regarding how reductions in forgiveness are to be applied and whether the CARES Act lists forgiveness reductions in the intended order of application, as some of the forgiveness requirements cause a dollar reduction while others produce a percentage reduction. The order in which these are applied can have a significant impact on the forgiveness amount.

    The AICPA’s recommendations were made in consultation with an AICPA-led small business funding coalition, CPA firms, and other key stakeholders. They build on previous guidelines the AICPA has provided to help bring clarity to the implementation of the PPP.

    The PPP so far

    Congress established the PPP through the CARES Act, which was signed into law on March 27. The program is available to small businesses that were in operation on Feb. 15 with 500 or fewer employees, including not-for-profits, veterans’ organizations, tribal concerns, self-employed individuals, sole proprietorships, and independent contractors. Businesses with more than 500 employees in certain industries also can apply for loans, according to the SBA and Treasury.

    SBA lenders were flooded with PPP applications from businesses in need of resources to help their businesses as the coronavirus pandemic and the consequences from social-distancing requirements devastated the economy. By April 16, the SBA had stopped accepting applications for the PPP after exhausting the initial $349 billion in funding. Last week, Congress approved an additional $370 billion in funding for small businesses, with $310 billion in fresh funds provided to the PPP. The application window for the second round of PPP funding opened Monday.

    The AICPA’s Paycheck Protection Program Resources page houses resources and tools produced by the AICPA to help address the economic impact of the coronavirus.

    For more news and reporting on the coronavirus and how CPAs can handle challenges related to the pandemic, visit the JofA’s coronavirus resources page.

     Jeff Drew (Jeff.Drew@aicpa-cima.com) is a JofA senior editor.

    What the Families First Coronavirus Response Act Means to Nonprofits

    On March 19, the President signed into law, H.R. 6201, the Families First Coronavirus Response Act. The bill includes a complex set of temporary paid leave mandates and employer reimbursement provisions, as well as funding for free coronavirus testing, food nutrition security, and Unemployment extension.

    Employment Provisions

    The Families First Coronavirus Response Act imposes new job protections for workers, paid leave mandates on employers, and a generous reimbursement scheme for employers that are designed to hold nonprofit and for-profit employers. The law provides two weeks of paid sick leave, a subsequent ten weeks of partially paid family leave for care of a child, and refundable tax credits in many cases will result in the Treasury Department writing checks to employers to cover some of the costs of the mandates.

    Two Weeks of Emergency Paid Sick Leave: The law (Section 5102) requires employers with fewer than 500 employees (including nonprofits) and government employers to provide their employees two weeks of paid sick leave, paid at the employee’s regular rate up to $511 per day, to quarantine or seek a diagnosis or preventive care for the coronavirus. It also requires payment at two-thirds the employee’s regular rate up to $200 per day to care for a family member for those purposes or to care for a child whose school has closed or child care provider is unavailable due to the coronavirus. These provisions expire at the end of December 2020.

    The Secretary of Labor is authorized to exclude health care providers and emergency responders from the definition of employees allowed to take leave, exempt small businesses, including nonprofits, with fewer than 50 employees, and ensure consistency between paid family and paid sick standards and tax credits. In general, employees are entitled to 80 hours of paid sick time, and are immediately eligible for the leave under this bill.

    Twelve Weeks of Emergency Family and Medical Leave: The law (Section 3102) expands the number of workers who can take up to 12 weeks of job-protected leave under the Family and Medical Leave Act for coronavirus-related reasons. After the two weeks of emergency paid leave (above), employees of employers with fewer than 500 employees will be eligible to receive at least two-thirds of each employee’s usual pay, up to $200 per day.  Employees must have been employed for at least 30 days to qualify and meet a “qualifying need related to a public health emergency.” The qualifying reasons for the emergency paid leave are caring for a child if the child’s school or childcare center is closed due to coronavirus. The provisions would also expire at the end of 2020.

    Generally, employees taking Emergency FMLA have job protection, but the bill provides an exception for employers with fewer than 25 employees if the position no longer exists following leave due to operation changes from the public health emergency. Health care providers and emergency responders are also excluded from the definition of employees allowed to take this leave, and the law exempts small businesses, including nonprofits, with fewer than 50 employees.

    Reimbursable Payroll Tax Credits Available: Employers paying for the mandated paid leave are entitled to claim a refundable tax credit. Specifically, the tax credit is allowed against the employer portion of payroll taxes, and any paid leave costs that exceed the amount of payroll taxes owed will be refundable to the employer at the end of each quarter. This means the federal government will cover all or a portion of the costs of these paid leave mandates. The amounts depend upon what the employee is doing.

    Under the Paid Sick Leave Mandate: Employers paying for employees who must self-isolate, obtain a diagnosis, or comply with self-isolation recommendation with respect to coronavirus may receive tax credits of up to $511 per day. Payments to employees caring for a family member or for a child whose school or child care center is closed, qualified sick leave wages are capped at $200 per day. Both types of wages are capped at 10 days in the aggregate. (Section 7001)
    Paid Family and Medical Leave Mandate: The refundable tax credit for qualified family leave provision is capped at $200 per day and $10,000 each quarter. (Section 7003)

    FAQs: Employee Retention Credit under the CARES Act

    The Coronavirus Aid, Relief, and Economic Security Act (CARES Act), enacted on March 27, 2020, is designed to encourage Eligible Employers to keep employees on their payroll, despite experiencing economic hardship related to COVID-19, with an employee retention tax credit (Employee Retention Credit).

    The Families First Coronavirus Relief Act (FFCRA) requires certain employers to pay sick or family leave wages to employees who are unable to work or telework due to certain circumstances related to COVID-19. Employers are entitled to a refundable tax credit for the required leave paid, up to specified limits. [See FAQs]. The same wages cannot be counted for both credits.

    Basic FAQs

    The Employee Retention Credit is a fully refundable tax credit for employers equal to 50 percent of qualified wages (including allocable qualified health plan expenses) that Eligible Employers pay their employees. This Employee Retention Credit applies to qualified wages paid after March 12, 2020, and before January 1, 2021. The maximum amount of qualified wages taken into account with respect to each employee for all calendar quarters is $10,000, so that the maximum credit for an Eligible Employer for qualified wages paid to any employee is $5,000.

    Eligible Employers for the purposes of the Employee Retention Credit are those that carry on a trade or business during calendar year 2020, including a tax-exempt organization, that either:

    • Fully or partially suspends operation during any calendar quarter in 2020 due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to COVID-19; or
    • Experiences a significant decline in gross receipts during the calendar quarter.

    Generally, tax-exempt organizations that are consider essential would not qualify under the fully or partially suspends its operations criteria, but they could still could qualify with the significant decline in gross receipts criteria.

    Note: Governmental employers are not Eligible Employers for the Employee Retention Credit.  Also, Self-employed individuals are not eligible for this credit for their self-employment services or earnings.

    The operation of a trade or business may be partially suspended if an appropriate governmental authority imposes restrictions upon the business operations by limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to COVID-19 such that the operation can still continue to operate but not at its normal capacity.

    Example: A state governor issues an executive order closing all restaurants, bars, and similar establishments in the state in order to reduce the spread of COVID-19. However, the executive order allows those establishments to continue food or beverage sales to the public on a carry-out, drive-through, or delivery basis. This results in a partial suspension of the operations of the trade or business due to an order of an appropriate governmental authority with respect to any restaurants, bars, and similar establishments in the state that provided full sit-down service, a dining room, or other on-site eating facilities for customers prior to the executive order.

    A significant decline in gross receipts begins with the first quarter in which an employer’s gross receipts for a calendar quarter in 2020 are less than 50 percent of its gross receipts for the same calendar quarter in 2019.  The significant decline in gross receipts ends with the first calendar quarter that follows the first calendar quarter for which the employer’s 2020 gross receipts for the quarter are greater than 80 percent of its gross receipts for the same calendar quarter during 2019.

    Example: An employer’s gross receipts were $100,000, $190,000, and $230,000 in the first, second, and third calendar quarters of 2020, respectively.  Its gross receipts were $210,000, $230,000, and $250,000 in the first, second, and third calendar quarters of 2019, respectively.  Thus, the employer’s 2020 first, second, and third quarter gross receipts were approximately 48%, 83%, and 92% of its 2019 first, second, and third quarter gross receipts, respectively.  Accordingly, the employer had a significant decline in gross receipts commencing on the first day of the first calendar quarter of 2020 (the calendar quarter in which gross receipts were less than 50% of the same quarter in 2019) and ending on the first day of the third calendar quarter of 2020 (the quarter following the quarter for which the gross receipts were more than 80% of the same quarter in 2019). Thus the employer is entitled to a retention credit with respect to the first and second calendar quarters.

    The credit equals 50 percent of the qualified wages (including qualified health plan expenses) that an Eligible Employer pays in a calendar quarter.  The maximum amount of qualified wages taken into account with respect to each employee for all calendar quarters is $10,000, so that the maximum credit for qualified wages paid to any employee is $5,000.

    Example 1: Eligible Employer pays $10,000 in qualified wages to Employee A in Q2 2020. The Employee Retention Credit available to the Eligible Employer for the qualified wages paid to Employee A is $5,000.

    Example 2: Eligible Employer pays Employee B $8,000 in qualified wages in Q2 2020 and $8,000 in qualified wages in Q3 2020. The credit available to the Eligible Employer for the qualified wages paid to Employee B is equal to $4,000 in Q2 and $1,000 in Q3 due to the overall limit of $10,000 on qualified wages per employee for all calendar quarters.

    Qualified wages are wages (as defined in section 3121(a) of the Internal Revenue Code (the “Code”)) and compensation (as defined in section 3231(e) of the Code) paid by an Eligible Employer to employees after March 12, 2020, and before January 1, 2021. Qualified wages include the Eligible Employer’s qualified health plan expenses that are properly allocable to the wages.

    The definition of qualified wages depends, in part, on the average number of full-time employees (as defined in section 4980H of the Code) employed by the Eligible Employer during 2019.

    If the Eligible Employer averaged more than 100 full-time employees in 2019, qualified wages are the wages paid to an employee for time that the employee is not providing services due to either (1) a full or partial suspension of operations by order of a governmental authority due to COVID-19, or (2) a significant decline in gross receipts.  For these employers, qualified wages taken into account for an employee may not exceed what the employee would have been paid for working an equivalent duration during the 30 days immediately preceding the period of economic hardship.

    If the Eligible Employer averaged 100 or fewer full-time employees in 2019, qualified wages are the wages paid to any employee during any period of economic hardship described in (1) and (2) above.

    No. The CARES Act does not require employers to pay qualified wages.  In addition, Eligible Employers may elect to not claim the credit for the Employee Retention Credit.  (The FFCRA does require certain employers to pay sick or family leave wages to employees who are unable to work or telework due to a COVID-19 circumstance.  These employers may be entitled to a refundable tax credit for those wages paid, although the employers may elect not to claim the credit.)

    Eligible Employers may claim the Employee Retention Credit for qualified wages that they pay after March 12, 2020, and before January 1, 2021. Therefore, an Eligible Employer may be able to claim the credit for qualified wages paid as early as March 13, 2020.

    No.  The Employee Retention Credit is only available with respect to wages paid after March 12, 2020, and before January 1, 2021.

    The credit is allowed against the employer portion of social security taxes under section 3111(a) of the Internal Revenue Code (the “Code”), and the portion of taxes imposed on railroad employers under section 3221(a) of the Railroad Retirement Tax Act (RRTA) that corresponds to the social security taxes under section 3111(a) of the Code.

    The credits are fully refundable because the Eligible Employer may get a refund if the amount of the credit is more than certain federal employment taxes the Eligible Employer owes.  That is, if for any calendar quarter the amount of the credit the Eligible Employer is entitled to exceeds the employer portion of the social security tax on all wages (or on all compensation for employers subject to RRTA) paid to all employees, then the excess is treated as an overpayment and refunded to the employer under sections 6402(a) and 6413(a) of the Code.  Consistent with its treatment as an overpayment, the excess will be applied to offset any remaining tax liability on the employment tax return and the amount of any remaining excess will be reflected as an overpayment on the return.  Like other overpayments of federal taxes, the overpayment will be subject to offset under section 6402(a) of the Code prior to being refunded to the employer.

    Example: Eligible Employer pays $10,000 in qualified wages to Employee A in Q2 2020. The Employee Retention Credit available to the Eligible Employer for the qualified wages paid to Employee A is $5,000. This amount may be applied against the employer share of social security taxes that the Eligible Employer is liable for with respect to all employee wages paid in Q2 2020.  Any excess over the employer’s share of social security taxes is treated as an overpayment and refunded to the Eligible Employer after offsetting other tax liabilities on the employment tax return and subject to any other offsets under section 6402(a) of the Code.

    Eligible Employers will report their total qualified wages and the related credits for each calendar quarter on their federal employment tax returns, usually Form 941, Employer’s Quarterly Federal Tax Return.  Form 941 is used to report income and social security and Medicare taxes withheld by the employer from employee wages, as well as the employer’s portion of social security and Medicare tax. 

    In anticipation of receiving the credits, Eligible Employers can fund qualified wages by accessing federal employment taxes, including withheld taxes, that are required to be deposited with the IRS or by requesting an advance of the credit from the IRS.

    Yes. An Eligible Employer may fund the qualified wages by accessing federal employment taxes, including those that the Eligible Employer already withheld, that are set aside for deposit with the IRS, for other wage payments made during the same quarter as the qualified wages.

    That is, an Eligible Employer that pays qualified wages to its employees in a calendar quarter before it is required to deposit federal employment taxes with the IRS for that quarter may reduce the amount of federal employment taxes it deposits for that quarter by half of the amount of the qualified wages paid in that calendar quarter.  The Eligible Employer must account for the reduction in deposits on the Form 941, Employer’s Quarterly Federal Tax Return, for the quarter.

    Example:  An Eligible Employer paid $10,000 in qualified wages (including qualified health plan expenses) and is therefore entitled to a $5,000 credit, and is otherwise required to deposit $8,000 in federal employment taxes, including taxes withheld from all of its employees, for wage payments made during the same quarter as the $10,000 in qualified wages.  The Eligible Employer has no paid sick or family leave credits under the FFCRA.  The Eligible Employer may keep up to $5,000 of the $8,000 of taxes the Eligible Employer was going to deposit, and it will not owe a penalty for keeping the $5,000.  The Eligible Employer is required to deposit only the remaining $3,000 on its required deposit date. The Eligible Employer will later account for the $5,000 it retained when it files Form 941, Employer’s Quarterly Federal Tax Return, for the quarter.

    Yes.  An Eligible Employer will not be subject to a penalty under section 6656 of the Code for failing to deposit federal employment taxes relating to qualified wages in a calendar quarter if:

    1. the Eligible Employer paid qualified wages to its employees in the calendar quarter before the required deposit,
    2. the amount of federal employment taxes that the Eligible Employer does not timely deposit, reduced by any amount of federal employment taxes not deposited in anticipation of the paid sick or family leave credits claimed under the FFCRA, is less than or equal to the amount of the Eligible Employer’s anticipated Employee Retention Credit for the qualified wages for the calendar quarter as of the time of the required deposit, and
    3. the Eligible Employer did not seek payment of an advance credit by filing Form 7200, Advance Payment of Employer Credits Due to COVID-19, with respect to any portion of the anticipated credits it relied upon to reduce its deposits. 

    For more information, about the relief from the penalty for failure to deposit federal employment taxes on account of qualified wages, see Notice 2020-22 (PDF).

    Yes.  Because quarterly returns are not filed until after qualified wages are paid, some Eligible Employers may not have sufficient federal employment taxes set aside for deposit to the IRS to fund their qualified wages.  Accordingly, the IRS has established a procedure for obtaining an advance of the refundable credits.  

    The Eligible Employer should first reduce its remaining federal employment tax deposits for wages paid in the same calendar quarter by the maximum allowable amount.  If the anticipated credit for the qualified wages exceeds the remaining federal employment tax deposits for that quarter, the Eligible Employer can file a Form 7200, Advance Payment of Employer Credits Due to COVID-19, to claim an advance refund for the full amount of the anticipated credit for which it did not have sufficient federal employment tax deposits.

    If an Eligible Employer fully reduces its required deposits of federal employment taxes otherwise due on wages paid in the same calendar quarter to its employees in anticipation of receiving the credits, and it has not paid qualified wages in excess of this amount, it should not file the Form 7200.  If it files the Form 7200, it will need to reconcile this advance credit and its deposits with the qualified wages on Form 941 (or other applicable federal employment tax return such as Form 944 or Form CT-1), and it may have an underpayment of federal employment taxes for the quarter.

    Example: An Eligible Employer paid $20,000 in qualified wages, and is therefore entitled to a credit of $10,000, and is otherwise required to deposit $8,000 in federal employment taxes, including taxes withheld from all of its employees, on wage payments made during the same calendar quarter.  The Eligible Employer has no paid sick or family leave credits under the FFCRA.  The Eligible Employer can keep the entire $8,000 of taxes that the Eligible Employer was otherwise required to deposit without penalties as a portion of the credits it is otherwise entitled to claim on the Form 941.  The Eligible Employer may file a request for an advance credit for the remaining $2,000 by completing Form 7200.

    Yes, but not for the same wages.  The amount of qualified wages for which an Eligible Employer may claim the Employee Retention Credit does not include the amount of qualified sick and family leave wages for which the employer received tax credits under the FFCRA.  

    No.  An Eligible Employer may not receive the Employee Retention Credit if the Eligible Employer receives a Small Business Interruption Loan under the Paycheck Protection Program that is authorized under the CARES Act (“Paycheck Protection Loan”). An Eligible Employer that receives a paycheck protection loan should not claim Employee Retention Credits.

    CARES Act Introduces Forgivable Loans for Nonprofits With Paycheck Protection Program

    On March 27, President Trump signed into law the Coronavirus Aid, Relief, and Economic Security (CARES) Act. While the sweeping legislation introduces a multitude of significant measures, the Paycheck Protection Program is a lifeline for nonprofits, injecting capital when they need it most. However, the hallmark of the program is that the loans can be partially or fully forgivable, provided certain criteria are satisfied.

    What Is the Paycheck Protection Program?

    • The Paycheck Protection Program, which was allocated nearly $350 billion through the CARES Act, is an extension of the existing U.S. Small Business Administration (SBA) 7(a) Program.
    • Loan applicants may be granted up to $10 million with an interest rate not to exceed 4%.
    • The loans are nonrecourse, and collateral is not required to secure the loan.
    • The loan is forgivable if the employer maintains certain levels of full-time equivalents (FTEs) and payroll. The amount forgiven is based on a sliding scale through a compliance period.
    • Loan forgiveness under this program is non-taxable.
    • The new program waives the SBA’s “credit elsewhere” requirement, which determines whether the borrower has the ability to obtain some or all of the requested loan funds from alternative sources without causing undue hardship.

    Is My Nonprofit Eligible?

    • Applies to certain nonprofits including 501(c)(3) organizations with fewer than 500 employees.

    What Are the Borrower Requirements?

    Borrowers must make a good faith certification to the following:

    • Uncertainty of economic circumstances makes the loan request necessary to support ongoing operations.  This certification should take into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business.  If current economic circumstances support the likelihood that the employer will have to lay off employees, cut pay, or miss rent, mortgage, or utility payments then the statue would seem to be satisfied.   The loan applicant must be under enough financial stress that, without the PPP,  it would have to have pay cuts, layoffs, or missing rent, mortgage, or utility payments to stay financial healthy.  The loan is necessary to preserve the status quo regarding current business activity and related expenses.  The applicant only needs to exhaust those sources of liquidity that can be accessed in a manner that is not significantly detrimental to the business.
    • The Small Business Administration (SBA) has just released new guidance regarding the good-faith certification for Paycheck Protection Program (PPP) loans. This guidance, which was added as question #46 to the PPP FAQs, should come as welcome relief to many Nonprofits that took out PPP loans and have struggled with the good-faith certification. The SBA states that PPP loans with original principal amounts less than $2 million will be deemed to have made the certification in good faith.
    • Funds will be used to retain workers and maintain payroll or to make mortgage, rent, and utility payments.

    What Is the Maximum Loan Amount I Could Receive?

    • The maximum loan amount for any recipient is $10 million.
    • Loans will be formula-driven: the average monthly payroll costs over the prior 12 months multiplied by 2.5.
      • In this calculation, payroll costs are categorized as follows:
    Included
    Excluded
    Salary, wages, and commission Compensation for an employee that exceeds $100,000 (prorated over the covered period from Feb. 15, 2020, to June 30, 2020)
    Cash tips or equivalents Compensation to an employee with a principal residence outside the U.S.
    Vacation or other leave Qualified sick wages or family leave wages paid under Families First Coronavirus Response Act for which the payroll credit is permitted
    Allowance for dismissal or separation Federal employment taxes including employees and employers share of FICA (Federal Insurance Contributions Act)
    Payments for group health (insurance premiums)
    Retirement benefits
    Payment of state or local tax assessed on compensation

     

    How Can I Use the Loan Proceeds?

    The loan proceeds can be used for the following:

    • Payroll Gross Wages (at least 75% of the forgiven loan amount must be used for payroll) including paid leave and severance
    • Employer paid healthcare benefits (Medical, Dental, and Vision)
    • Employer paid retirement benefits
    • Employer paid state and local payroll taxes
    • Employee salaries, commissions, bonuses, or similar compensation that you would normally do
    • Interest on mortgage obligations (but not mortgage prepayments or principal payments)
    • Rent
    • Utilities (Water, Gas, Electricity, Telephone, and Internet)
    • Interest on other debt obligations that were incurred before Feb. 15, 2020

    How Much of My Loan Will Be Forgiven?

    Maximum Forgiveness Amount

    • Borrowers are entitled to loan forgiveness equal to the sum of the following expenses paid during the eight-week period, which begins on the loan origination date:
      • Payroll costs
      • Covered utility payments, including electric, gas, water, transportation, telephone, and internet access for which service began before Feb. 15, 2020
      • Covered rent obligation, including rent obligated under a leasing arrangement in force before Feb. 15, 2020
      • Covered mortgage interest obligation, including a mortgage on real or personal property incurred prior to Feb. 15, 2020
    • The loan forgiveness amount will not exceed the amount of the loan.   The PPP Loan Forgiveness appear to be based on full time equivalent not just headcount or number of employees as the application required.  Maintain proper documentation though the 8 week covered period.

    Reduction of Forgiveness Amount

    • The loan forgiveness amount will be reduced if there is a reduction in the number of FTEs. This reduction percentage is calculated at the election of the borrower by either of the following:
      • Average number of FTEs per month (over the eight-week period)
        Average number of FTEs between Feb. 15, 2019, and June 30, 2019
      • Average number of FTEs per month (over the eight-week period)
        Average number of FTEs between Jan. 1, 2020, and Feb. 29, 2020
    • The loan forgiveness amount will be reduced by any reduction in total salary or wages of any employee that is in excess of 25%. This applies only to employees that received a 2019 annualized salary of less than $100,000.
    • There is a special rule for a reduction in seasonal employees.
    • Employers can mitigate – or eliminate these reductions – if they restore the number of FTEs and total salary by June 30, 2020.

    Any balance remaining after the loan forgiveness would have a maturity of 2 years. The interest rate will be one percent for loans not more than $350,000; .50 percent for loans of more than $350,000 and less than $2,000,000; and .25 percent for loans of at least 2 million.  You will not have to make any payments for six months following the date of disbursement of the loan.

    Loan Forgiveness Application

    Documentation is critical for loan forgiveness. Here is a list of documentation that would need to be submitted to your lender:

    • Verification of FTEs and pay rates
    • Payroll tax filings
    • State income, payroll, and unemployment insurance filings
    • Documentation that covered mortgage, rent, and utility obligations were made
    • A certified statement that the amount of forgiveness was required to retain employees or meet the covered obligations

    Lenders will have 60 days to render a forgiveness determination.   Borrowers may have to certify loan proceeds were used for authorized purposes.  You need to keep or increase your FTE count to maximize loan forgiveness.

    The Small Business Administration (“SBA”) issued the Loan Forgiveness Application on May 15, 2020 and revised it on June 16, which may be accessed here. The application addresses a number of questions previously posed by borrowers, and we anticipate additional guidance regarding forgiveness to be forthcoming.

    Congress passed the Paycheck Protection Flexibility Act to make it easier for small businesses and other PPP borrowers to qualify for full loan forgiveness. Among the changes in the act are an expansion of the “covered period” for loan forgiveness to 24 weeks from eight weeks, a reduction of the proportion of proceeds that must be spent on payroll costs to 60% from 75%, and the establishment of a safe harbor for businesses that have been unable to return to the level of business activity they had before the COVID-19 pandemic due to compliance with health and safety guidelines for slowing the spread of the virus.

    PPP Loan Funds not subject to single audit

    One of the most common questions we have received is whether SBA PPP loans obtained by NFPs are subject to the Uniform Guidance single audit requirements. The good news is that we have recently received an answer to this question. Based on recent discussions with SBA staff, we have been informed that PPP loans made to NFPs will not be subject to single audit.

    PPP Loans:  Accounting Considerations from the AICPA

    Keep in mind that whatever is not forgiven will continue to remain a loan payable.  You should consider comparing your allowable expenses for PPP versus your other federal grants and contracts.  There may be other allowable expenses your other federal funding can cover, including during the 8 week period.   Organizations receiving other federal funds cannot “double dip” meaning you cannot claim the same expenses twice to two different funding sources.

    You need to start managing the loan by recording the loan in your general ledger.   You should create a long term liability account called PPP Loan Payable.  You will record the cash when loans proceeds are received and offset to PPP Loan Payable.    You should setup a contribution revenue account called PPP Loan Forgiveness or PPP Grant.  You will setup a funding source called Paycheck Protection Program to track all activity including allowable expenses and unallowable expenses.

    You should setup an Interest Expense account for the portion in which forgiveness is not expected.    Accrue interest expense at 1% APR against the total loan amount until full forgiveness determined or all funds paid back.

    On May 13, 2020, the AICPA, through the Center for Plain English Accounting (CPEA), released a report (“Accounting in the Fog of War – Treatment of PPP Loans”) to provide clarification on the accounting considerations.  Although the report is non-authoritative guidance, the CPEA is the AICPA’s national accounting and auditing resource center.   While there are several nuances to consider in the accounting that could impact the treatment and judgments that may been to be made by management, there are some overarching scenarios to review.

    Scenario 1 – The Loan is Intended to be Repaid

    If repayment is expected, the loan should be accounted for consistent with other debt arrangements (FASB ASC 470) and reported as a loan payable. If facts and circumstances change and partial or total forgiveness is obtained, the gain on extinguishment is recognized once the company is legally released as the primary obligor of the debt.

    Scenario 2 – Partial or Total Forgiveness is Anticipated – Entity is a Not-For-Profit Entity

    If partial or total forgiveness is anticipated for a not-for-profit (NFP), the report recommends accounting for the funds similar to other government grants under FASB ASC 958-605. Due to the forgiveness being conditional on incurring the qualified expenses (among meeting other criteria), the funds will be initially accounted for as a refundable advance and will generally be recognized into contribution revenue as the qualified expenses are incurred.  A key consideration in this treatment is that contribution revenue is only recognized as the conditions of the program are “substantially met;” for the portion in which forgiveness is not expected, no revenue should be recognized and interest will be accrued on the advance.  Accounting for the funds as Government Assistance under the International Accounting Standards (IAS) 20 model will record funds recognized into other income.

    Please contact us for help with the Paycheck Protection Program.

    Sustainability to Survivability: 5 Nonprofit Finance Must-Do’s in the Time of COVID

    In the nonprofit sector, the fragility of life is always very present. Likewise, for nonprofit leaders, the fragility of our organizations is also always present. Fears of an impending recession and the decline in the percentages of individuals donating to nonprofits have made the sustainability of organizations a top concern for executive directors for quite some time. But none of us expected the sudden disruption of our lives and society brought on by a pandemic.

    As nonprofit professionals scramble to devise new operating plans designed to serve as many as possible while protecting and caring for employees, the thought of sustainability seems almost quaint. All revenue streams, from foundations to individuals and even fees for service, are under extreme pressure. Indeed, for many executives, thoughts today are not on sustainability but survivability—and, as always, it is at these times our constituents need us most.

    The initial steps to respond to the pandemic have varied by type of organization with the focus, rightly so, being on humanity—serving our clients—as well as safety and protection. Arts and culture organizations, educational institutions, and other community organizations have closed their doors for extended periods while several social service organizations continue to operate, balancing constituent service with social distancing. One constant across the sector has been the cancelling of spring fundraising events and the upheaval of development plans. As organizations struggle to maintain operations, payrolls, or both while revenue is decreasing, there are steps they can take to increase likelihood of success:

    • Understand your cash position.
    • Assess damage to revenue streams.
    • Look at the dual bottom line.
    • Include everyone in the discussion.
    • Communicate consistently.
    Understand Your Cash Position

    Cash is king. With expenses continuing and revenue on hold, knowing your cash position serves as a foundation for action. Certain common ratios like the quick ratio or current ratio calculate whether the organization has enough cash to pay its bills today, but they don’t provide guidance on how long it can weather this disruption. The best ratios for that help with understanding your liquid reserves:

    This ratio calculates how many months of savings the organization has if it operates at its current rate and receives no additional income. The numerator subtracts restricted cash and receivables, assuming the organization will not be able to perform the work necessary to release those revenues. The denominator is simply the annual budgeted expenses divided by 12 months.

    This is the purest form of a reserve. It allows leadership to understand how much time they have to stabilize the organization. For many organizations, this is somewhere between two weeks and four months.

    For organizations that have ceased operations but are committed to maintain payroll as long as possible, a separate calculation that only includes essential expenses such as payroll, health insurance and occupancy-related costs in the denominator may be useful:

    This formula lets leadership see how long their current position allows them to maintain these basic expenses. In this ratio we have excluded receivables, but they can be included if the organization believes there is a high likelihood of collecting them.

    These formulas are the simplest way of calculating and monitoring the organization’s savings. A more strategic approach would be to prepare or update the organization’s cash flow projections for the next six months showing expected inflows and outflows of cash. With the ratios as a foundation and the cash flow projection as a tool, leadership can work with the board to build out scenarios if they have time. At the very least, leadership can monitor the urgency of the situation and make informed decisions about how to continue.

    Assess Revenue Streams and Damage

    The formulas above focus on the organization’s expense side, assuming no additional income. Attention should also be paid to revenue. Many foundations are attempting to continue grantmaking, and many local government agencies are seeking to fund expanded social service activities for vulnerable populations with emergency dollars. Therefore, revenue projections based on the updated development plans and budget, which take into consideration our new reality, can be inputted into the cash flow projection for a more realistic picture. While it is conservative to assume your organization will not receive any new income, acting on a worst-case scenario does not necessarily lead to strategic or beneficial decision-making.

    Revisiting revenue streams also allows leadership the opportunity to discuss revised plans and to focus on those efforts where the organization has the strongest relationships and greatest likelihood of securing funds. For example, some special events have already moved online, with operas livestreaming performances and social service agencies holding online auctions and sending recorded messages to supporters. While less revenue has been raised, there may have also been fewer expenses. This is also the time to identify areas where board members might have relationships and could meaningfully engage in sharing the fundraising workload.

    Look at the Dual Bottom Line

    When cash gets tight, the financial bottom line becomes readily apparent. But in stressful times, it is important to consider both bottom lines: impact and financial. Especially if challenging decisions need to be made about where to focus, consider the impact of each program and fund the highest impact programs first. This is often a difficult discussion. Everything an organization does has value, but given the current situation in which we find ourselves, which aspect of the organization has the most value today? Are there longer-term programs or projects that could be put on hold? Could unrestricted resources and staff be transferred to those efforts with the highest impact, such as direct services? Could reducing expenditures on lower impact programs allow the organization to build cash reserves?

    This is especially helpful if cuts need to be made. One common response to crisis is to implement a straight percentage cut across all activities; however, this is not the most strategic decision. Yes, it avoids conflict, but focusing on those programs where there is an intersection of organizational strength and pressing constituent need is essential. Not only does this allow the organization to most effectively have impact and accomplish its mission given the resources it has available, but it also helps make the case for increased support to funders.

    The matrix map visual is a helpful way of highlighting both the impact and profitability of an organization’s programs and looking holistically at how each program of an organization contributes to its impact and financial viability. While the process of completing a detailed map can take some time, a rapid version can be created in an afternoon. Remember, the map is a representation of the business model used to inform decision-making, not a 100-percent-accurate picture. In some cases, some information is better than complete information, especially when the goal is to bring others along in the discussion and make decisions. This is one of those cases.

    Include Everyone in the Discussion

    Speaking of bringing others along, there are no “right” answers to these challenging questions, and ideas for sustaining the organization know no positional boundaries. Engaging everyone in these candid conversations can often surface new approaches or meaningful strategies. That said, programmatic staff may be overwhelmed and overworked responding to the crisis, and leadership will need to decide whether it is appropriate to add to their workload by bringing them into the conversation. However, our default position is that nonprofits are community organizations responding to a community challenge and they benefit from the input of close community members during these difficult times. Our desire is for everyone to have a voice.

    Determining the organization’s cash position, described above, will inform how much time leadership has to meaningfully engage a broad group of people in discussion. At a minimum, however, board and senior leadership should be involved in surfacing potential solutions. Ideally these positions will be informed by staff and constituents. Especially for social service organizations, it is important that the needs of those being served are well known and represented in the discussions.

    Again, the easy solution in these times is for a small group at the top of an organization’s leadership to come together and make decisions, but this group may not be as well informed about constituent needs as others. By opening the discussion, unexpected opportunities might surface. Additionally, by sharing the complexity of the decision to be made and the options to consider, leadership helps to build community and buy-in for implementation.

    Communicate Consistently

    Our last point may be the most important. Often, in times of crisis when leadership is busy trying to serve constituents and make informed decisions to save their organization, communication can lapse. Leaders may feel they have “nothing new” to say or they might not yet have a “path forward” or solution for the organization and therefore don’t communicate to key stakeholders. Unfortunately, while understandable, this is the wrong course of action.

    Nonprofit organizations are expressions of our humanity—people coming together to build stronger, more enriching and more equitable communities. By expressing the hardship that our organizations are experiencing and the difficult choices that must be made, we invite others to participate in the process. We are all joined together in this time, living through a pandemic the likes of which none of us have ever seen.

    This is especially true of donors. Helping donors understand firsthand what your constituents and the organization face allows them to support you in the most effective manner. We cannot only talk with stakeholders when things are going well. Helping everyone understand that the organization is maximizing impact and leading with its values—with the needs of our constituents and staff front-of-mind—strengthens the connection and relationship donors feel with the mission. This connection will be necessary for organizations to survive this shock and ultimately be able to thrive once again.

    Time is of the Essence

    None of the steps here are easy—especially in a time of crisis. Given this rapidly evolving pandemic, it is tempting to put off decision making to see how the situation progresses. One lesson from the Great Recession, however, was that those organizations that assessed their situation earlier were able to make strategic decisions which resulted in less severe measures later. Nonprofit leaders face competing demands and priorities as they deliver on their missions. By inviting others in, communicating clearly, looking at the organization holistically, and understanding where we’re starting from financially, leadership can attempt to spread the workload, build commitment, surface strategies and implement solutions to help their organizations—and our communities—survive and, once again, eventually thrive.