Total Income or Total Return Investing for Church Endowments

There are two major philosophies when it comes to how funds should be invested for the long-term benefit of the organizations holding the assets.

The Total Return Method

  • Modern portfolio management states that a return of 8% per year is something that should be expected.
  • Return is defined as total appreciation of the investment portfolio: this includes realized and unrealized gains/losses, interest, income, and dividends
  • US inflation has averaged 3% per year since 1928
  • A fund should always “plow back” at least 3% of its total appreciation per year into the total investment portfolio
  • That leaves, on average, 5% of the total appreciation which can and should be expended each year for the benefit of the organization for which the portfolio was created
  • The legal courts have ruled that foundations and endowments should spend 4-6% per year of their total investment portfolio on the purposes for which the donors gave the money
  • Distributing 4-6% and retaining 3% means the investment portfolio will always have the original purchasing power at the time of the gift
  • It also means that the investment portfolio will be invested in ways to achieve maximum

 The Total Income Method

  • For several hundred years, investment managers invested solely in income-producing financial instruments
  • Each year, the organizations “harvested” all or most of the investment income
  • Investing for total income results in a very different financial portfolio than investing for total growth
  • Inflation was not taken into consideration when investing for income
  • Over time, the portfolios invested in income-producing financial instruments were eroded by inflation and the organization used up the corpus to maintain its operations

Today, no major foundation or endowment uses Total Income; all have switched to Total Return. And, all use a 12 (or 16 or rarely a 20) quarter trailing average. That means they look at the past twelve quarters (3 years) and take the average of those quarters and then multiply that average by the 4-6% to be distributed. Looking back over 3, 4, or even 5 years flattens out many roller coaster curves of investments. Most foundation board decide each year what the distribution rate will be but it is almost always between 4 and 6% (e.g., sometimes 4.5%, sometimes 5.8%, etc.) depending on the financial investment returns for the prior year.

I could go on for about two more hours, but I won’t.

Lead On!

Steve

 

Financial Statements: What Are They Good For?

 

There are two essential financial statements:

Balance Sheet

This shows the current financial status of the organization since its inception. It lists all the bank balances, the designated and restricted funds (a heavily used and very good tool for non-profits), reserve accounts, debts and equity (the summary of all years’ receipts over expenses).

Income Statement (aka, Profit & Loss Statement, Statement of Revenues & Expenses, Statement of Receipts & Expenses)

This shows how well the organization is doing in the current fiscal year. It doesn’t take into consideration previous years (that is on the balance sheet). It should have annual budget to track actual expenses against what was forecasted.

  • Other financial statements are the designated funds summary (a very useful tool to track receipts and expenses in designated, restricted, and reserve funds) and statement of cash flows (to show how balance sheet money has been used).
  • Notes in financial statements are an excellent way to answer questions before they are asked. The rule of thumb is that if there is an extraordinary expense or receipt, it should be explained in the notes. Notes can also be used to explain variances from month-to-month and to give a heads-up about an upcoming expense or receipt.

But what is their purpose? How should this financial info be used?

Financial statements are not scorecards. Some organizations measure all progress in financial terms. This is a mistake. It’s like measuring a child’s progress strictly by his grades or her height. There are many, many nuances to finances that cannot be put in numbers. Financial statements are not THE measurement, they are A measurement.

Financial statements are not insignificant. Just as financial statements are not the absolute yardstick, they should not be ignored, either. There is a reason for every number on a statement. Some numbers are more important than others and it is up to the staff and finance committee members to decipher which figures should be analyzed further. Financial info should never be discarded.

Financial statements should lead to questions. Financial statements should never be taken at face value. They are a reason to ask questions, especially hard questions. All questions are good – some are purely explanatory, some may lead to defensiveness by the staff (and those ought to be explored further), and some may lead to more questions to get to the root of an issue. The oversight committee must never be afraid to ask good, tough questions and not be satisfied with easy and quick answers. This is the committee’s responsibility, to do less is negligent.

Financial statements are a decision-making tool. This is the ultimate purpose of financial statements: to aid in making critical decisions for the organization. Financial figures are one part, albeit very important, in making sound strategic and tactical decisions for every organization. This means the numbers and the reason for the important numbers must be fully understood and explainable. Then, use that knowledge to provide financial insight to critical decisions. An important decision that does not have financial input is not a fully thought-out decision. Make sure financial info is included in the process for making vital decisions but that finances are not the sole rationale for any decision.

Lead On!

Steve

New Income and Revenue for Churches

A brief audit of a client’s receipts over the past year revealed something interesting: 22% of their income came from sources other than the primary source. The organization has diversified their approach to receiving income so that more than one in five dollars comes from a non-traditional source. This means that if their primary revenue streams remain the same, this organization will have 20% more money to use – woohoo!

This is a good lesson for churches: are you dependent on your mainstay revenue source (tithes and offerings) or have you begun to look at other revenue streams? Churches must be creative in getting money in the door and then very transparent in how it is spent and used. Here are 21 different revenue streams (the first 10 come from a list prepared by George Bullard and the rest are from me):

  1. Special offerings
  2. Tithes and Offerings
  3. Designated gifts
  4. Fee for Services
  5. Capital Campaigns
  6. Foundations of the Organization
  7. In-kind resources and services from individuals and businesses
  8. Sale of Products
  9. Foundation grants
  10. Investment Income
  11. Rental Income
  12. Event Registration
  13. Cost Recovery
  14. Business Partnerships
  15. Offerings After Special Events
  16. Sponsorships and Scholarships
  17. Ownership of Facilities
  18. Memorials and Memorial Gifts
  19. Capital Investment Lists
  20. High Capacity Donors
  21. Gratitude Gifts
  22. Alumni Gifts
For a fuller description of these, visit Free Resources at www.financeforchurches.org
Lead On!
churchfinancialleadership.blogspot.com

Tips for Working with Grant-Making Foundations

  • They don’t want to support salaries of employees or operations; they want to give money for programming. Their true goal is to help with the programming – the part of a non-profit that is making a difference in the people it serves. One way to accomplish both is to prove how a person is so connected to a specific program that there is a symbiotic and synergistic relationship.
  • They give money to organizations that are working and collaborating with other orgs to accomplish the purpose. Grant-makers don’t like to have multiple non-profits all trying to do the same thing but who won’t work with each other. They feel that is not a wise use of resources.
  • They like organizations that have broad support from donors, not a narrow group. Mkae sure that you are tapping the widest possible group of potential contributors.
  • They are made up of people, of very caring people who want to do the most good with the resources they have. They all have restraints but I can tell you from personal experience all grant-makers want to give away far more than they are permitted to give.
  • Appeal to the generosity and humanity of the grant-makers. Get to know them as people and make sure they know you, not just your mission. Don’t be just a report they read, be a person and a face they relate to.
  • Ask them who else you can talk to. Not only do grant-makers know the local non-profits, they are usually well acquainted with many high-capacity donors. These donors may have additional financial resources they’d like to give away but do not know of a worthy opportunity. The grant-makers know the passions of these high-net-worth individuals and they might be willing to serve as a conduit for you to access these generous people.

Lead On!
Steve

Community Foundations

  • Every major city has a community foundation which is where people have given money, to be held in trust, until the donor or the board of directors distributes grants. Some CFs are very, very large (think billions of dollars investments) and some are small. All are legally required to give money away.
  • For two years I worked as the CFO of a community foundation. Nothing gave the staff and board more pleasure than giving away money. It was so much fun to see the faces, hear the stories, and dream about how much more could be done for the region.
  • CFs have major classifications for grant-making:
    • donor advised funds (DAFs) – the donor recommends to the CF which non-profit should receive a grant and how much the grant should be
    • field of interest funds – the board gives money to organizations which meet the donor’s criteria when the fund was established such as literacy, health, etc.
    • unrestricted – funds which the board gets to distribute according to their wishes and the grant requests which are received by the staff
  • CFs are in the business of helping local non-profits – most CFs have a geographical restriction – and improving the quality of life in their community. They are tied to their community – the staff and board shop in the same stores as you do, worship in the same churches, attend the same movies and theaters, etc. These people know what is going on in their city and they want to make it a better place.
  • Many churches have high net worth individuals who already have DAFs with the local CF. Churches would be well-advised to meet with their local CF staff to get to know them, to be known, to educate the CF of what the church wants to do, and seek ways to partner together.
  • A church can also work with the people who already have DAFs to educate the church leadership about how the church can work with other high-net-worth individuals (whether they are members or not) to accomplish what the church wants to do.
  • CFs are experts on all local non-profits. If your church wants to do something, meet with the CF staff to learn about other non-profits with which the church can partner to accomplish far more than each can do separately.
Lead On!

Guidestar.org

  • Guidestar is an online non-profit company with one purpose. It publishes the Form 990 that most non-profits are required to submit to the IRS each year.
  • A 990 is a legal doc which states the total expenses and income for a non-profit. It breaks the expenses down into sub-categories and even lists the salaries of the five highest paid employees and their benefits. The 990 also shows the various sources of revenue for a non-profit from programming receipts to investment income. Finally, a 990 lists all recipients for organizations who grants from the non-profit whether these were small gifts or very, very large ones. All 990s on Guidestar are in PDF format so they can be downloaded and/or printed for further analysis.
  • Guidestar has a cool tool which enables people to search the hundreds of thousands of non-profits for any category which interests you. This makes finding your specific field of interest that much easier.
    • For example: your church is working with nearby elementary schools and wants to find money to expand a literacy program. A Guidestar search on “children’s literacy foundation” shows over 150 non-profits which have literacy as one of their interests. Not all of them write grants so further research is required. This is time-consuming but eventually you’ll find a dozen or so foundations to which you will write a compelling grant proposal/request. You may not get much or as much money you want/need the first time you ask, but be persistent and over time you’ll develop relationships with the foundations that will open some doors.
  • Use Guidestar as a research tool to find local and national foundations which can provide additional resources for your efforts.

Lead On!
Steve

How to Calculate a Church Budget

Every church I’ve worked with has struggled with determining the amount at which to set the subsequent year’s budget. Everyone wants to increase the budget in order to provide more funds for staffing and programming (rarely for building needs, but that is another matter). But Finance Committees know that even if they put a figure out there, it means little if the income/receipts/revenues don’t come in to support that budget target. Committees want to step out in faith, but they also don’t want to be caught overstepping (and dropping into a financial void). So, what’s a church Finance Committee to do?

Here’s my idea:

  • In the month that you set the budget for the next year, look back 12 months and calculate how much money came in during that period. That figure is your budget for the next year.
  • For instance:
    • Your fiscal year is the calendar year
    • In July and August, ministry areas work on their respective budgets with a deadline to get their requests to the Finance Committee by August 31
    • The Finance Committee gathers all the data to finalize the budget by September 30 so that it can be voted on in October
    • At their July meeting, the Finance Committee looks at the total undesignated receipts for July 1 through June 30 (the previous 12 months). That figure is the new budget for the fiscal year that starts in January (six months away).
    • Whatever that increase (or decrease) is over the current fiscal year, that percentage (up or down) is communicated to all the ministry areas as to how much they can increase (or decrease their budget.

This has many benefits:

  • This is a conservative or fiscally prudent way of budgeting – churches should receive at least that amount in the next 12 months, perhaps a good deal more.
  • This means that you shouldn’t have to go into spending freezes and hurt the morale of the staff and church
  • This enables the church to continue to plan well for its ministries and not feel it is over-reaching financially
  • If more money comes in than was budgeted, the extra money can be used for capital needs, rainy-day or reserve fund(s), money for unforeseen opportunities, additional money for budgets that were shorted, etc.

This process makes short work out of deciding how much you’ll budget for the next year. That will enable the Finance Committee to focus on more important things such as assisting ministers, ministries, and members with good stewardship practices.

Lead On!
Steve

Overhead Costs?

What is the overhead cost for a church and what percent of the budget should it be? That’s not easy to answer – there are lots of variables. Take a look at this article to see what this research shows.

http://www.greymatterresearch.com/index_files/Nonprofit_Overhead.htm

Why is this important? Because you should know what are your fixed costs and your variable expenses (although, at some point, ALL costs are variable if the church closes it doors).

Overhead costs are expenses which can be made more efficient in many cases. Take a look at what you’re spending your money on and see how you can save some money. Your only regret will be in not having done it sooner.

 

Lead On!

Steve