How to Track Functional Expenses and Related Revenues
It is important for those involved nonprofit accounting, management, and even donors to understand nonprofit functional categories. Functional categories when properly used provide valuable information about the nonprofit’s efforts to programs, management, fundraising, and membership services. To accomplish an accurate depiction, it is important that you understand what how revenue and spending fall into each functional category, which is what I will discuss in this article.
Program Revenues and Expenses
Nonprofits exist to provide a service and advance their mission. They accomplish this through their programs. Most nonprofits will have several programs which all serve the mission in some aspect while some such as churches or a small startup nonprofit may only have one program.
First, let’s look at program revenue. Nonprofits obtain program revenue by (1) raising contributions through a specific campaign (which results in donor restricted contributions) (2) applying for grants (3) receiving contributions that are restricted for purpose. It is best practice to code these revenues to an appropriate class when they arrive and to add them to your net assets roll-forward to be able to track restrictions more easily.
Program expenses are expenses that directly support the programs. This includes individuals spending time directly working to accomplish program services and the cost of goods to provide the program services. Some expenses may not be direct expenses of the program, but instead serve multiple functions. These types of expenses, such as building depreciation or communications expenses, should be allocated among all the functions that benefit using a reasonable method. We will talk about this later.
Management and General
Rarely do nonprofits receive revenue specifically for management and general. Rather management and administration encompass the expenses that are required for the nonprofit to operate. Some common expenses/activities included in management and general include:
· Accounting and finance services
· Strategic planning and budgeting
· Facility maintenance
· Human resources services
· Information technology maintenance
· Risk management
· Legal services
It is best to think of management and general expenses as those that are not program, fundraising, or membership development expenses.
Often contributors and the board look to minimize management and general expenses as much as possible. But as you can see these often include services that are valuable to the proper operation of the organization. I would be skeptical if I saw an organization with an unusually low percentage of management and general expenses because either
(1) they may be misrepresenting the expenses or over allocating to programs or
(2) they have not invested enough into management and general to operate effectively
Fundraising
Similar to management and general fundraising should generally not have revenue associated with it. Any revenue brought in through fundraising should be unrestricted contributions or donor restricted contributions as the result of an event or a campaign.
Fundraising expenses include those for sales and marketing of a nonprofit. Some common fundraising activities/expenses include:
· Grant proposals
· Fundraising events
· Direct solicitations for contributions
· Passive solicitations for contributions
· Seminars with the intent of raising contributions
It is important with fundraising campaigns to track the expenses incurred as well as the revenues brought in as a result. It is often easiest to maintain this type of tracking either (1) in a donor database or (2) in a spreadsheet.
Note that a lot of associations and some churches may not have any fundraising expenses. Associations derive their revenues from membership dues rather than contributions. Churches often rely on their congregants to donate and do not spend any significant amount of money on marketing or soliciting funds.
Membership Development
Like management and general and fundraising membership development generally should have revenue associated with it. Revenue brought in through membership development is likely going to be exchange revenue and will be unrestricted.
Membership development activities include those needed to obtain and maintain member relationships. Some common membership development activities/expenses include:
· Solicitation of new members
· Collection of member dues
· Membership relations
· Maintaining membership data
· Other membership activities not related to fundraising
Note that expenses related to selling additional goods or services to members would be included in management and general activities.
Examples
Now that we have looked at what types of expenses are included within each of the functions let’s go through some examples.
Example 1
The Leaf and Bean Conservatory’s mission is to spread awareness of the uses and benefits and preserve the variety of coffee and tea plants. During the past month the Conservatory (1) held a plant exhibition to raise awareness about the Conservatory’s mission and teach locals about the best plants for indoor growing, (2) it hired a new accounting manager whose primary function is to review the accounting, prepare budgets, and oversee the staff accountants, (3) it also published an informational pamphlet about various herbal tea recipes and benefits.
How would each of these activities functions be classified?
1. This involves a fundraising activity because raising awareness about the mission does not directly work towards the Conservatory’s mission. If the exhibition meets certain joint costs criteria the portion that teaches locals about the best plants for indoor growth may be included in the program activity.
2. This The accounting manager’s activities in this scenario would fall under management and general activity.
3. The publishing of the informational pamphlet would be included in program activities as it is spreading awareness of the uses and benefits of the plants without including fundraising or administrative information.
Example 2
The Association for Law and Governance had a gala to raise money for local law enforcement officers injured in the line of duty. During the gala the Association donated a total of $1M to various local organizations benevolence funds to distribute to officers in need of help with injury related medical costs.
How would each of these activities functions be classified?
1. The expenses to have the gala would be classified as fundraising activities.
2. The donations to local organizations would be classified as program activities.
Summary
As you can see the various functions can provide a significant amount of valuable information when properly used. Additionally, when presenting a functional expense statement or schedule it is important to break out program activities in a way that makes sense and does not overwhelm. In the next blog we will discuss how to go about identifying and breaking out your nonprofits program activities.