In today’s nonprofit landscape, trust is integral to your organization’s fundraising success. According to recent studies, more than two-thirds of nonprofit donors believe it’s essential to trust the organizations they support. However, the same survey showed that only about one in five donors highly trusts nonprofits, meaning your organization has a gap to overcome as you work on building strong relationships that lead to long-term support.
Demonstrating proper financial management is among the best ways to build trust with donors. Although your nonprofit might be looking into implementing a fund accounting system (or improving your existing one) primarily for compliance purposes, this organized method of tracking finances can also fortify donors’ confidence in your nonprofit if you leverage it effectively.
In this guide, we’ll review what fund accounting is and how your nonprofit can use it as a relationship-building tool to future-proof your fundraising efforts. Let’s get started!
Fund Accounting Overview
CFO Leverage’s guide to fund accounting defines this term as “a method of managing finances designed for tax-exempt organizations. Generally speaking, it tracks which funds are designated for various programs and operations and how much money is allocated to each activity.” Fund accounting focuses on the accountability side of accounting (rather than prioritizing profitability like traditional accounting does), making it perfect for all types of nonprofits.
In a fund accounting system, all of your nonprofit’s revenue will fall into one of three categories depending on what donor- or funder-imposed designations (if any) are attached to it. Your funding might be:
- Unrestricted, meaning you can use it to cover any of your organization’s expenses.
- Permanently restricted, meaning it’s part of an endowment fund that you invest and use to earn interest to support a long-term initiative, rather than spend directly.Temporarily restricted, meaning the contributor specified that you had to use the funds for a specific project, but if you finish the project or a deadline passes, any leftover funding may become unrestricted.
Generally speaking, the larger a contribution is, the more likely it is to be restricted because the donor or funder wants some control over how your organization uses their money. Major and planned gifts, corporate sponsorships, and grants usually make up the temporarily restricted category, while small and mid-sized donations (both individual and corporate) and earned income (e.g., membership dues and service fees) are typically unrestricted.
How to Leverage Fund Accounting to Cultivate Donor Trust
1. Publicize Financial Data
Naturally, the easiest way to be transparent with donors about your financial management practices is to publish your collected data. And when you leverage fund accounting, you can make your nonprofit’s trustworthiness especially clear in public reports by showing how you’ve kept your promises to donors regarding funding designations.
You can publicize your organization’s financial data using these resources:
- Tax returns. After you submit your nonprofit’s annual Form 990 to the IRS, the form is required to be publicly available for at least three years. The IRS publishes all returns automatically, but you can also link to your organization’s recent Form 990s on your website to make them easier for donors to access.
- Financial statements. Some nonprofits also post their latest financial statements on their websites in addition to referencing them during tax filing, grant reporting, and other activities. To incorporate fund accounting principles, make sure to separate restricted and unrestricted net assets on your statements of activities and financial position and note revenue restrictions on your statement of cash flows.
- Annual report. Dedicate a section of your annual report to charts and graphs that present the year’s financial highlights in a digestible format, including how much of the revenue you brought in was restricted vs. unrestricted. Then, attach your financial statements as appendices in case some readers want to learn more.
Additionally, it’s beneficial to share the direct impacts of restricted funds with their contributors to reassure them that you’re following through on your promises. This is why many grantmakers require periodic reports that detail your use of grant funding and the progress you’re making on the initiative the grant is supporting.
You can also communicate restricted funding impacts less formally with individual and corporate donors. For example, if you’ve recently completed a capital campaign to fund a building project, you might update the major donors who contributed to the campaign on the construction progress throughout the project and explain what the new building will help your organization achieve to reassure them that their gifts are making the intended impact.
2. Budget With Funding Restrictions in Mind
Implementing fund accounting affects your nonprofit’s financial planning as well as its reporting. When you create your organization’s annual operating budget, always allocate restricted funds to the initiatives they’re designated for first. That way, you’ll know how much unrestricted funding you have available to fill in the gaps in your programs and cover overhead costs (which fewer supporters designate their contributions for than directly mission-related spending).
Budgeting this way also helps your nonprofit avoid the consequences of misallocating restricted funds, which are often more serious than simply breaking the contributor’s trust. Donor-imposed designations on nonprofit gifts are legally binding, meaning your organization could face lawsuits or fines if you misappropriate those funds, even accidentally. So, if you prioritize restricted funding from start to finish in your financial management processes, you’ll protect your nonprofit’s reputation and resources in more ways than one.
3. Strategically Pursue Restricted Contributions
Organized recordkeeping, transparent reporting, and careful budgeting are all strong financial practices for ensuring your nonprofit honors the restrictions noted in its fund accounting system and thereby secures donor trust. Another key factor in accomplishing this goal is only going after the commonly restricted contributions that will support its overarching strategy.
Here are a few tips for strategically pursuing different types of restricted contributions:
- Major gifts: Use the information you learn about a potential major donor through prospect research and communication during the cultivation process to suggest gift designations that align with their values and your biggest funding needs.
- Grants: Determine which of your current and upcoming programs most need funding, then seek out grant opportunities that specifically fund those types of programs.
- Sponsorships: Double the Donation’s corporate sponsorship guide recommends considering different types of sponsorship opportunities beyond the classic financial agreement (e.g., in-kind and media) to meet your organization’s and your corporate partner’s needs more effectively.
All of your nonprofit’s planning processes—strategic, fundraising, and financial—should support each other to strengthen supporter relationships and ultimately further your mission.
Financial transparency cultivates donor trust, and fund accounting makes it possible for your nonprofit to be fully financially accountable to its supporters. Use the tips above to get started, and don’t hesitate to reach out to nonprofit financial professionals if you need help setting up your system or have any questions about how you can leverage fund accounting to be more transparent with your supporters.