Managing Your Operating Reserves During and After an Emergency

A strong operating reserve in a time of crisis helps everyone focus on helping the people who need to be helped. But it’s not a blank check either.

If you expend all your operating reserves, you can put your organization in a pinch going forward.

With the right policies and strategies in place, your nonprofit organization can draw from your operating reserves during and after an emergency without putting future operations at risk.

Want to learn more about operating reserves for your nonprofit organization? Check out our webinar with A. Michael Gellman and Paul Preziotti, “The Crucial Impact of Operating Reserves on Your Organization’s Financial Health and Sustainability.”

The Purpose of Operating Reserves

Unfortunately for nonprofits, the need will always be greater than the resources. It’s hard to choose to put funds into operating reserves when that could help one more person transition out of homelessness. Nonprofits must recognize the balance between helping more people today and helping more people long-term because you are still in operation. If you can give your organization a long life, you can help more people.

Operating reserves play a dual role in supporting nonprofit organizations. They provide a safety net for unexpected financial distress and enable future growth and stability. Here, we explore these two equally important but distinct purposes.

Relief from Short-Term Distress

Operating reserves act as a buffer to help nonprofits navigate short-term economic disruptions. These may include delays in grant approvals, rescheduling of major events due to unforeseen circumstances, or sudden increases in demand for disaster relief services. By tapping into operating reserves, organizations can bridge temporary gaps in funding without compromising their immediate operations.

Supporting Future Growth Strategies

Beyond emergency relief, operating reserves can also support strategic growth initiatives. These may involve launching new programs, funding mergers or acquisitions, expanding digital platforms, or other one-time investments aimed at enhancing the organization’s impact. By judiciously using reserves for these purposes, nonprofits can position themselves for long-term success.

Understanding Your Spending Policy

During a crisis, it can be tempting to deplete your entire reserve to address immediate needs. However, a clear operating reserve spending policy works as a pause button to ensure that funds are used responsibly and sustainably. Here are some key considerations for developing and adhering to a spending policy:

• Allocation for Program and Staff Support: Determine how much of the reserve can be used to support ongoing programs and staff salaries during an emergency.
• Annual Spending Cap: Set a limit on the total amount that can be drawn from the reserves each year to prevent overuse.
• Board Approval Process: Establish a procedure for obtaining board approval if it becomes necessary to exceed the allocations and spending caps.
• Plan for Replenishing: Work with your leadership and board to have a clear plan for replenishing your operating reserves should your organization need to draw from them.

Deciding When to Use Operating Reserves

It’s important to differentiate between short-term financial gaps and long-term strategic shifts when considering whether to draw from operating reserves. Here are some guidelines to help make this decision:

Short-Term Financial Gaps

In the immediate aftermath of a crisis, such as a natural disaster, operating reserves can be used to cover urgent expenses like staff salaries or temporary program costs in the immediate aftermath of a flood, when you aren’t able to hold your programs, for example. Using your operating reserves for a temporary and short-term reason allows the organization to maintain operations and provide critical services without delay.

Long-Term Strategic Shifts

Operating reserves provide flexibility to invest in new opportunities or experiments to meet the changing needs of your community. Operating reserves shouldn’t be used to maintain “business as usual” if business is no longer going to be “as usual” for the foreseeable future. Ongoing crises such as COVID or policy changes that eliminate funding for your organization require you to re-evaluate your strategy.

If the crisis necessitates a fundamental change in how your organization operates—such as rebuilding infrastructure or changing service delivery models—it’s better to focus on reallocating and diversifying funding sources rather than relying solely on operating reserves. For example, you will need to re-think how you serve your community while you rebuild your food pantry after a fire. This approach ensures that the reserves remain intact for future emergencies, and you are updating your strategy to meet the changing needs of your community.

Creating a Plan for Replenishing Operating Reserves

Regardless of how much of the operating reserves are used during a crisis, replenishing them should be a top priority. Here are several strategies to help nonprofits rebuild their reserves to a healthy level, ideally equivalent to at least three months of operating expenses:

• Diversify Revenue Streams: Explore new funding sources, such as grants, donations, and earned income opportunities, to create a more resilient financial base.
• Budget Line Item for Reserves: Include a specific line item in the budget dedicated to contributing to the operating reserves.
• Non-Cash Depreciation Funding: Allocate cash income to cover non-cash depreciation expenses, thereby freeing up funds to replenish reserves.
• Multi-Year Capital Budgets: Incorporate reserve contributions into multi-year capital budgets to ensure consistent replenishment over time.
• Capital Campaigns: Include operating reserve goals as a component of capital campaigns to raise dedicated funds for replenishing reserves.
• Planned Giving Campaigns: Encourage donors to designate planned gifts specifically for the operating reserves.
• Board Contributions: Engage board members in contributing to the reserve fund, either through direct donations or fundraising efforts.
• Staff Vacancy Savings: Allocate savings from staff vacancies towards the operating reserves.
• Windfalls: Designate unexpected financial windfalls, such as one-time grants or gifts, to the reserve fund.
• Unrestricted Gift Tariffs: Assign a percentage of unrestricted gifts to build the reserve fund.

Building a Resilient Financial Foundation

Operating reserves are a vital component of a nonprofit’s financial health and sustainability. By understanding their purpose, developing a clear spending policy, making informed decisions about when to draw from the reserves, and having a robust plan for replenishment, nonprofits can navigate crises effectively while maintaining long-term stability.

To learn more about operating reserves and developing a strong operating reserve policy, check out our Nonprofit Operating Reserve toolkit.