Launching a Nonprofit? Accounting Best Practices
If you’re planning to start a nonprofit organization, you’ve undoubtedly been making plans and learning about how these entities function compared to for-profit businesses. You know for example, that if you meet the IRS’ requirements for tax-exempt status, you’ll have one less budget item to worry about – and a major one at that.
But this critical legal designation is a double-edged sword. Nonprofits that do not pay taxes are subjected to a great deal of scrutiny to ensure that their status is warranted.
Unless you have someone managing your finances that has done so for a nonprofit in the past, you’d be wise to call on a financial advisor to get you started and consult with you periodically. Non-compliance with IRS procedures may result in the loss of your tax-exempt status, which would mean the end of your organization.
Where to start? Like any business entity, you’ll need to have a clear understanding of your organization’s mission. If you’re creating a business plan (which is advisable), you’ll have to be able to explain your reason for existing early on. Make sure that your financial advisor knows exactly what your vision is and what your primary goals and objectives are (how will you accomplish your mission?).
Many a nonprofit organization has folded because its founder believed that he or she only needed to:
- Represent a cause that would strike a chord with many people,
- Hold some events to bring in donations,
- Identify donors, both large and small, and,
- Pay the organization’s expenses and then allocate the remainder to the charity.
These first three are a part of the process, while the fourth is a little less cut-and-dried; it involves decisions and equations that your financial advisor can address (who gets paid first?).
All of these elements scream for something that few businesspeople – for-profit or non-profit – like to create: a realistic, workable budget. This is an absolutely necessity. No reputable organization gets to the end of the year and says, Sorry, but our overhead was higher than we expected. We have little left over to devote to the cause we’re supporting.
As the founder of a charity, you are accountable to numerous groups of people. The recipients of the funds you raise. Your staff and board of directors. The IRS. The public, which may scrutinize, for example, the salary of your executive director and your stated expenses.
This is why a budget is so critical, and why you need to help of a financial advisor to build one: transparency. Like a company on a stock exchange, your finances are public information. They have to be. Anyone can start a foundation supporting a cause that seems credible, but when you’re asking for tax-exempt status, you need to operate like any business that is accountable to the IRS.
Much of this transparency will come in the form of the standard financial reports that are needed to express your compliance and your commitment to your cause. You’ll need to be able to quickly produce donor contribution reports, for example, and donation statements. These are too time-consuming and detailed to compile by hand, so you’ll need a specialized accounting application.
And when tax time comes, you’ll need to know which Form 990 needs to be filed and how to document your organization’s donations and expenses.
There are other issues that are critical for nonprofits, like the need for internal controls. If you’re successful, there will be a lot of money floating around in the form of checks, currency in cash boxes at events, and credit card donations. There may be many individuals handling all of these contributions. Your financial advisor can help you devise a system that will ensure the safety of all incoming funds.
Managing a nonprofit can be an incredibly rewarding experience. But it comes with many caveats in terms of your finances. Keep your organization compliant by using technology, adhering to the specialized accounting requirements of nonprofits, and consulting with a financial professional who can advise you.