Donor-restricted contributions can provide valuable support for a nonprofit’s programs and long-term goals, but they also come with an important responsibility—using the funds according to the donor’s instructions. Properly identifying, tracking, and reporting these contributions can help your organization maintain accurate financial statements, support effective budgeting, and demonstrate accountability to donors and grantors.
Understanding donor restrictions
A donor may restrict a contribution for a particular purpose, period of time, or both. Restrictions generally arise from explicit donor instructions, such as a gift agreement, grant agreement, solicitation materials, or other communications associated with the contribution. Under current generally accepted accounting principles (GAAP), nonprofits report net assets in two categories:
- Net assets with donor restrictions: Resources subject to donor-imposed restrictions that have not yet been satisfied or that must be maintained in accordance with the donor’s instructions.
- Net assets without donor restrictions: Resources that are not subject to donor-imposed restrictions, including amounts whose restrictions have been satisfied or expired.
This distinction is important because not every designation placed on funds makes them donor restricted. For example, a nonprofit’s board may designate unrestricted resources for a particular project or reserve. Because the board generally can change that designation, these amounts remain classified as net assets without donor restrictions.
What happens when restrictions are satisfied?
Some donor restrictions are temporary in nature. A donor might require a contribution to be used for a specific program or during a particular period. Once the organization fulfills the specified purpose or the time restriction expires, the restriction is generally considered satisfied, and the related amount is reclassified from net assets with donor restrictions to net assets without donor restrictions. Other gifts may be subject to restrictions that require the contributed assets to be maintained in perpetuity. Endowment arrangements are a common example. However, the rules governing endowment spending can be more nuanced than simply preserving principal and spending interest. Spending may depend on the donor agreement, applicable state law, and the nonprofit’s spending policy. Because restrictions can vary considerably, organizations should carefully review the terms of each significant gift or grant rather than relying solely on how it has been labeled internally.
Track restricted resources carefully
Strong recordkeeping is essential. Nonprofits should maintain records that clearly identify the nature and amount of donor restrictions and track expenditures against those restrictions. An up-to-date net asset schedule can help management understand which resources are available for general operations, and which must be reserved for specified purposes. This is particularly important when preparing budgets and evaluating cash flow. Having cash in the bank does not necessarily mean all of it is available to cover general operating expenses. Fund accounting or appropriate accounting-system tracking can help organizations monitor resources by program, grant, donor restriction, or another relevant category. Although restricted resources do not necessarily need to be held in separate bank accounts, the organization should have accounting records sufficient to demonstrate that the funds were used appropriately.
Strengthen your processes
Nonprofit financial managers should establish procedures for reviewing contribution and grant agreements when funds are received, determining whether restrictions exist, and communicating those restrictions to the employees responsible for spending and budgeting. Organizations should also consider:
- Maintaining supporting documentation for donor restrictions and grant requirements.
- Regularly reconciling restricted balances and reviewing when restrictions have been satisfied.
- Tracking grant expenditures and reporting deadlines.
- Limiting access to financial systems and using appropriate cybersecurity controls.
- Providing the board with timely, accurate financial information that clearly communicates significant restrictions and liquidity considerations.
- Reviewing accounting policies and systems periodically to make sure they continue to support the organization’s financial reporting needs.
Promises to give also require careful accounting. Under GAAP, an unconditional promise to give is generally recognized when the promise is made, rather than when the cash is ultimately received. Conditional contributions, however, are generally not recognized until the applicable barriers have been substantially met and any right of return or release has been addressed.
Keep accountability at the forefront
Managing donor-restricted resources is about more than compliance. Clear records and strong financial processes help nonprofit leaders understand what resources are truly available, make informed budgeting decisions, and demonstrate that donor contributions are being used as intended. If your organization needs assistance with nonprofit accounting, financial reporting, grant tracking, or strengthening its financial processes, SEK’s nonprofit team can help you navigate the requirements and build practices that support your mission.
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