Balancing the Mission Checkbook

Now that most nonprofits have filed the new version of the IRS 990, you might be taking a deep breath of relief that you got that big change done with and over. Don’t let the 990 sit in a drawer, though. Not after all that work. The new 990 is a big step forward to bring better, more usable information to a wide range of stakeholders including current and prospective donors, watchdog groups, public officials, media, and other nonprofits. Ultimately, the most important user of your 990 is you.

Part of the value comes when you pull together all the pieces to have the form completed. The new 990 requires information about mission, program accomplishments and costs, board members and key staff, policies and governance practices, compensation, fundraising, finance, and much more. While many nonprofits rely on their audit firms to complete the 990, most of the required information is not financial and must be supplied by various departments or staff of the organization. The second part of the value comes from continuing to use the 990 as a communication and analysis tool. Here are four suggestions.

As an organizational tutorial

Read the whole 990, front to back. New managers, board members, emerging leaders, or anyone else on staff who wants to know more about the organization can get a complete overview of the organization by reading the complete form including all of the schedules. This assignment will also help you identify any questions or sections that need to be clarified or completed more thoroughly.

As a financial analysis tool

The 990 contains a complete financial report in a standard format. The new form expands the financial information, particularly the income section, to provide more complete data. Most financial analysis steps can be conducted using the 990. To make it easier, Nonprofits Assistance Fund created a new tool that we call the “990_Decoder.” Transfer the three financial pages from the Core Form onto this spreadsheet and you will generate a familiar looking Balance Sheet and Income Statement and a page of six standard nonprofit financial ratios. These can easily be used for comparison with other years or with other, peer nonprofits. Just “decode” their 990, too. We’re happy that the Minnesota Council on Foundations likes to decode 990s, too.

As a source of comparable compensation data

A month ago we were fielded a number of requests for help from board members of nonprofits who were responsible for obtaining information about executive director compensation from comparable organizations. In many cases, salary surveys fit the bill, such as the thorough review that Minnesota Council of Nonprofits compiles. Another simple approach is to create your own peer group of 4 or 5 nonprofits that are of similar size and type of service. Compile a custom comparison by using Guidestar to collect compensation data from your peers’ IRS 990s. Compensation is usually listed in Part VII on page 7. Guidestar registration is easy and free for the basic search. The information will be at least a year old, but as we told the board members we talked with, no one got much in the way of salary increases last year anyway.

As a communications tool

One of the unique features of the 990 is the Program Accomplishments section that is now the second page of the form. Hopefully you have taken advantage of the opportunity to communicate specifically what activities you completed, who you served, and how this work had an important impact in the community. Take an hour or so and read the Program Accomplishments for your nonprofit and then read the section for a few other organizations that you admire. How well did they communicate their work? How did you do? Learn from other organizations and look for ways to promote your 990 as another communications tool. Post it on your website (along with you audit, please).

Don’t let the IRS 990 sit around gathering dust. Give it a workout and help both your organizations and the nonprofit sector show the value of transparency and accountability.

At the pace we’re all traveling it’s easy to forget what you said last week, much less a few months ago. It’s interesting, then, when we receive a comment on a past post and go back to re-read it. So much is happening and developing in the nonprofit world that I’m taking this week to update three topics.

Transparency

In December 2007 I wrote about Transparency and Financial Information:

I would strongly suggest that nonprofit organizations make the effort to make usable financial information available on their website. The IRS 990 is already a public document, so it seems like the obvious tool for financial disclosure. However, I think we should go past the 990 to share better information, especially since everyone seems to agree that the current version of the IRS 990 is overly complex, confusing, and very difficult to use. A better solution would be having the audited financial statement easily available on the website.

Guidestar recently published The State of Nonprofit Transparency Report, which included these findings:

A high percentage (93 percent) of nonprofits are embracing the Internet to disclose information about their programs and services.

Only 13 percent posted their audited financial statements on their Web sites. The results of our survey show a reluctance to disclose audited financial statements publicly. Although not all nonprofits obtain audits of their financial statements, our survey sample reflects organizations of the size for which an audit is both prudent and a necessary tool for assessing management’s financial capabilities and the organization’s financial health.

Let’s hear it for more audits online!

Mergers and Strategic Collaborations

In June 2008 I suggested Speed Dating for Nonprofits:

No one would say that mergers are the right answer for every nonprofit, but if you do think that joining forces would make sense and help your organization maintain stable services, where do you find your mate? I think I’ve found the answer – speed dating for nonprofits! Speed dating is an organized event to help singles meet a number of people in one evening with the intent of finding one or two for an actual date.

I’m excited that MAP for Nonprofits and the MACC Alliance for Connected Communities have organized a Speed Dating event on May 20^th to explore strategic partnerships.

Low-profit, Limited Liability Corporation (L3C)

And in May 2008 in Where For-Profit and Nonprofit Meet I was excited about the new hybrid Low-profit, Limited Liability Corporation (L3C) that had been adopted in Vermont.

The idea is to create businesses that can attract some private capital, bolster that with more patient philanthropic or socially motivated investment, and result in value to the community (jobs, housing, local revitalization) and a below-market return to investors. This structure is not a fit for every nonprofit, or even for every social enterprise. The L3C is all about raising capital, and when the need for capital is significant, this is worth considering.

This post continues to attract readers and questions. The most common confusion is about the fit for nonprofits that need subsidy (i.e. grants and contributions), rather than capital. The L3C is designed for capital but doesn’t offer any incentive for contributions. For more information, the experts on the L3C are Americans for Community Development. We’ll explain this new hybrid form at the May 14^th meeting of the Social Enterprise Network.

Since the post was written several other states have adopted the model, with others in the legislative process. I’m hoping that Minnesota can get on the bandwagon in the next year.

Unfortunately, the news has been full of stories of struggling nonprofit organizations. Every nonprofit is grappling with budgets and growing community needs in the face of economic pressures. Fundraising is mixed right now, with individual giving as the biggest concern for many organizations, and corporate giving still an open question. Meanwhile, utilities and transportation costs are up and programs are trying to serve more clients. Balancing mission and money is always hard work.

It seems that every article includes a comment by either the director or board chair that identifies the current economic downturn as the cause of the financial problems. The next time you read something similar, consider the possibility that, in some cases, “it’s the economy” might be a masking a different story.

By doing a little financial detective work, I’ve found that some of the nonprofits that identify the current economy as their problem have actually been operating with deficits for several years. They spend more than they bring in – and eventually it catches up with them. Checking this out requires a few steps. Access to IRS 990s on Guidestar is a gift for this kind of research. Page 1 (Part I) of the 990 reports all income and expenses and the resulting surplus or deficit. Because this section consolidates all unrestricted, restricted, capital, and endowment activity, though, it isn’t helpful in reporting the operating results. Page ahead to Part IV, the balance sheet, and look at Line 67 – Unrestricted Net Assets. If the organization had an operating surplus, this balance will increase from the beginning to the end of the year. If they had an operating deficit, then the balance will decrease.

There are a wide range of reasons and circumstances that result in operating deficits. Recurring and unmanaged operating deficits are the number one red flag of financial problems and raise questions about ongoing viability. If deficits recur, the management and board must take the time to understand the causes and make needed changes in income and expenses. Raising money is challenging in every economic environment, especially during a downturn. Make sure you can distinguish between the economic, management, and program considerations that result in deficits and take the steps needed to address each one.

Jeanne Bell at CompassPoint wrote a wonderful column about surplus and deficit planning, Nonprofit Budgets Have to Balance: False!. She asks strategic questions about budgets:

Instead of “How can we make the budget balance?” the annual budgeting cycle should begin with the question, “What financial outcome does our organization want or need this year?”

I can’t think of a single nonprofit that would answer that question by saying, “Our desired financial outcome is to run out of money and close our doors.”

Many nonprofits think about the Internal Revenue Service only once a year – when they are filing their 990 return. Since the IRS is the regulator and enforcer of exempt status and activities, you might want to pay closer and more frequent attention. Of increasing importance are questions about the role and scope of the IRS’s watchdog and oversight activity. The IRS website has a section devoted to Exempt Organizations that contains some valuable resources. The article on Governance and Related Topics opens, “The Internal Revenue Service believes that a well-governed charity is more likely to obey the tax laws, safeguard charitable assets, and serve charitable interests than one with poor or lax governance.” Who could disagree? But where does the IRS fit in assessing the quality and effectiveness of your governance practices?

In speeches delivered at a conference on April 23rd and 24th, Commissioner Steven Miller makes clear that the IRS believes that there is no question about whether they have a role, but rather what that role is. In his April 23rd speech as part of a panel on nonprofit governance he addresses the questions by saying, “despite the absence of explicit federal statutory provisions setting forth clear governance standards, what I am calling jurisdictional gaps, we are not interlopers trying to regulate an area that is beyond our sphere.” In other words – the IRS intends to exercise its muscles, real and perceived, in the movement to push nonprofits to more specific standards in governance practices. If you doubt that they can, read the 20 questions contained in the Governance, Management, and Disclosure section in the new Form 990.

The new IRS 990 form is effective in 2009, with a two year transition period for some nonprofits. Most nonprofits I’ve talked with have only a general awareness of it out there in the future. It’s time to pay close attention now. It’s a significant change to the current 990, with several new schedules that may require different record keeping for 2008 activities. The IRS recently released the draft instructions that offer the most detailed view. (Read through Part VI of the new form: Governance, Management, and Disclosure.) You’ll also be seeing more e-newsletters from accounting firms and nonprofit associations with updates and training events.

Regarding the question of whether the IRS should have an enforcement/watchdog role in governance, I think we should take a step back. Let’s consider why the service, and Congress, think that they need to. When there are bad actors and the public feels victimized, regulations often follow.

In the midst of the big fundraising season of the year, I’m wondering about how much nonprofits really want to be open and forthcoming about their financial information. With all the talk about accountability and transparency, I don’t see a lot of evidence of easily available, freely shared financial information from most nonprofits. While I realize that I have a unique (and probably unusual) interest in financial information, I think that it’s important to walk the walk of transparency.

The Panel on the Nonprofit Sector, convened by Independent Sector, just released their report, Principles for Good Governance and Ethical Practice: A Guide for Charities and Foundations. The report lays out 33 practices “that should be considered by every charitable organization as a guide for strengthening its effectiveness and accountability.” Number seven on the list reads:

A charitable organization should make information about its operations, including its governance, finances, programs and activities, widely available to the public. Charitable organizations also should consider making information available on the methods they use to evaluate the outcomes of their work and sharing the results of those evaluations.

In the longer description of ways to implement this practice, the panel suggests an annual report and using websites to make available information such as the IRS 990 and other financial statements.

I would strongly suggest that nonprofit organizations make the effort to make usable financial information available on their website. The IRS 990 is already a public document, so it seems like the obvious tool for financial disclosure. However, I think we should go past the 990 to share better information, especially since everyone seems to agree that the current version of the IRS 990 is overly complex, confusing, and very difficult to use. A better solution would be having the audited financial statement easily available on the website. Many nonprofits already do this, but most do not. I checked the websites of six organizations in Minnesota that I have supported financially in the last few years. Of these six, one had their audit posted, three had a detailed annual report but no audit or 990, and two had no financial information that I could find. Why not post the audited financial report?

I recommend a look at the financial section from the website of The San Diego Lesbian, Gay, Bisexual, Transgender Community Center. In addition to posting their annual report and audit, The Center devotes a page to describing their financial management commitments and policies what a great a model of financial transparency.

In just a few days the comment period will end for the IRS proposed changes to Form 990. Since these proposed changes will impact every nonprofit organization that is required to file a 990 (nonprofits with revenues over $25,000) it will be worthwhile to pay attention to the comments and the IRS’ process for considering and responding to the input received. IRS hopes to have the changes finalized and a new 990 form in place for the 2008 tax year and they have a mountain of comments to digest if they want to stay on schedule. Many commentators, in fact, are urging the IRS to delay the implementation date of all or parts of the new form to allow time for more review and discussion of the impact of this major change. Comments are available for review on the IRS web site. Many state and national organizations have convened their members and constituents to analyze the draft and submit thorough comments, including Independent Sector and the National Council of Nonprofit Associations. Read these comment letters to get a sense of the analysis and feedback to the IRS.

Form 990 has not had a major overhaul in many years. The need for a change is widely accepted, and summarized well in the IRS background paper on the redesign: “The current 990 has not kept pace with changes in the sector and the law. Because of its history of ad hoc revisions, the current form neither adequately describes the filing organization nor provides a basis for comparing an organization with its peers.” The proposed redesigned Form 990 consists of a 10 page core form for all filers, and 15 separate schedules that will be required only of those nonprofits for which the information applies. This format will hopefully be much easier to read and keep related information together instead of scattered on different pages and schedules. It is very different, though, and will require learning a new structure and format.

The core form begins with a summary page with the organization’s mission and activities and several key points about activities, governance, and key financial information. While comments are generally positive about the summary page, there are concerns throughout the proposed form about questions that reach into what might be called best practices. Management and governance practices are developed to respond to an individual organization’s structure, community, financial situation, and activities and any simple yes and no questions can easily be misinterpreted without sufficient context. The comments reflect this concern over and over again, on questions about compensation, conflicts of interest, and audit committees.

The 15 proposed schedules range from supplemental financial information that will be required for most filers to schedules for tax-exempt bonds or foreign activities that would apply to a small percentage. There are several proposed schedules that will require new reporting for many organizations such as non-cash contributions and gaming and fundraising events. Some of these will necessitate additional recordkeeping and could be onerous. Hospitals have commented en masse requesting a delay of the implementation for a new schedule regarding community benefits and charity care.

I suggest you pay attention to this change as it goes through review and any further drafts or discussion. A clearer, more easily understood Form 990 will be good in the end, but will require much effort along the way.