The costs for an annual gala or another major fundraising event can add up quickly. What percentage is too much to get a fundraiser off the ground? More importantly, does your board’s expectations for spending on fundraising match with that of donors and watchdogs?
Your board also has to consider compliance issues related to fundraising expenses. We’ll take a look at the perspectives of the watchdogs, donors, and the IRS on fundraising expenses. We’ll also guide you on how to navigate the waters in the overhead vs return on spending race.
What Are the Legal Requirements for Nonprofit Fundraising?
As a board member, you should be exceedingly familiar with IRS Form 990, a mandatory form for 501(c)(3) organizations. This form tells the IRS whether your nonprofit uses its assets and resources appropriately. Nonprofits must list their administrative or overhead expenses on the form each year.
How do we define overhead? Overhead encompasses the following:
- Overall administrative expenses
- Accounting expenses
- Management expenses
- Human resource expenses
- Professional consulting fees
- Special events
- Fundraising expenses
What does the IRS consider too large a percentage for overhead? Unfortunately, they don’t provide a handy chart, and there are no clear answers. They look at whether the overhead rate is excessive due to expenses unrelated to your mission. They’ll also look at the scale of executive compensation. If the IRS sees any red flags, your nonprofit could get audited, and your board will have to justify the expenses.
Not only does the IRS monitor what nonprofits spend on overhead for fundraising, but donors, foundations, and watchdogs also monitor nonprofit spending.
The Role of Watchdogs Over Nonprofit Fundraising Spending
Watchdog groups attempt to hold nonprofits accountable by policing their spending. However, much like the IRS, they don’t have a consistent, reliable way to assess nonprofit spending on fundraising.
Some watchdogs view spending on overhead as a percent of operations costs. For example, some watchdogs believe nonprofits should spend no more than 35% of their donations on overhead. The Better Business Bureau specifies that nonprofits should spend less than 10% on executive compensation. According to Charity Navigator, nonprofits should spend less than 10% on fundraising spending. Charity Navigator also promotes healthy spending on activities because nonprofits that spend less than a third of their budgets on program expenses are likely to be failing to meet their missions.
Considering this, certain large fundraising events such as high-ticket galas or telemarketing campaigns may move nonprofits over the 35% threshold, yet they can be very profitable.
Watchdogs are apt to lend a little leeway as long as nonprofits participate in lower-cost fundraisers such as social media fundraising marketing and grant writing to lower the average spending overall.
Watchdogs may or may not consider the type, size, and structure of the nonprofits they’re monitoring in their assessment.
Charity Watch has one of the most sophisticated and complex scoring systems to rate nonprofit financial health. As an example of how Charity Watch works, it gives the American Red Cross an A- rating it costs them $24 to raise $100.
Watchdogs serve a valuable purpose for stakeholders and nonprofits. They lend transparency to donors to help them avoid fraud and scams, and they help stakeholders compare charities against each other.
Watchdogs also highlight legitimate, well-run nonprofits, and they give nonprofit boards a basis for how to evaluate themselves in this area.
One of the problems with watchdogs is they put pressure on boards to cut administrative expenses down to a bare minimum which can negatively impede growth and progress. To make the numbers look good to outsiders, some boards get creative in allocating spending to intentionally muddy the waters.
Overall, watchdogs can be instrumental in improving nonprofit performance, increasing public trust, and inspiring philanthropy.
Keeping Your Nonprofit’s Fundraising Spending in Check
How can your board approach fundraisers, so organizers have sufficient funds to carry them off profitably yet appease donors and watchdogs?
An excellent first step is for your board to learn more about the various watchdog organizations and their standards. Determine whether they based the fundraising percentage on the percentage of total revenues, total expenses, or related contributions (revenues derived only from fundraising activities). Be aware that some watchdogs calculate figures based on multiple forms of percentages before awarding a nonprofit an ultimate ranking.
From there, you can incorporate their requirements into your evaluations of your fundraisers. Even if you never need to justify your expenses, the exercise can help you improve your results.
The media and donors have access to your IRS Form 990 through GuideStar, an online database, and they use the data to inform their opinions about your nonprofit’s performance.
As your board evaluates how much to spend on fundraising efforts, it’s prudent to consider how new your nonprofit is and what your mission is.
For example, newer nonprofits can expect to have higher fundraising expenses than those that have been in existence longer. This is because it costs more to acquire donors than to retain them. It all comes down to getting organized, and a BoardEffect board management system can help you do that.
Also, it’s easier for popular charities such as food banks, children’s issues, and animal welfare organizations to have success with fundraising instead of less popular causes such as the LGBTQ community or AIDS support.
Final Thoughts on the Percentage of Your Nonprofit’s Budget for Fundraising
Thinking through what percentage of your nonprofit’s budget your board should allocate for fundraising is a valuable learning experience. Putting it on your agenda is an excellent way to learn the appropriate jargon to communicate how and why you made decisions about fundraising allocation.
As your board gets better acquainted with fundraising ratios, rating agencies, and rating reports, you will be able to benchmark your results against that of other nonprofits. Your board will better be able to explain how your nonprofit compares with similar and dissimilar nonprofits, as you may be competing for the same funds.
Finally, by taking a deeper dive into your fundraising expenses, you will establish greater credibility with your donors and the media, and your fundraisers are likely to be successful.