Budgeting is an essential governance and management tool for boards and senior management. A well-organized not-for-profit prepares a budget in some form or another. Whether or not the budget is effective is a different story.
Material and unexplained monthly variances, cashflow problems, struggles to pay expenditures, poor leadership buy-in to budget priorities, and misalignment between strategy and resource allocation could be symptomatic of a failure to budget or budget effectively.
The first best practice is, of course, to prepare an effective budget. The budget should be a realistic estimate of planned or expected income, expenditure, and other financial results. In many not-for-profits, budgets for things like service user volumes or clients served are important offshoots of financial budgets. Prepare budgets in granular detail for line items and departments. Document and use sound budget assumptions from the outset. Ensure board approval of the overall budget and senior management approval of overall and departmental budgets.
Avoid the inclination to understate expenditures and be unrealistically optimistic with revenues. Bite the bullet at the outset and budget realistically. The alternative is scurrying during the year when unrealistic numbers come home to roost.
Train, explain, and involve to generate buy-in from program managers and other department heads. Involving leaders ensures they understand budget assumptions and the technical aspects of budgeting. Within preset constraints empower leaders to develop budgets and close the feedback loop when their proposed budgets are changed to align with broader goals and pressures. Involving leaders is conducive to holding them accountable for achieving budgeted results or explaining deviations. This type of accountability is an important internal control.
Consider the benefits of zero-based budgeting. Zero-based budgeting is an approach that typically requires the budget preparer to justify each expense for every budgeting cycle, regardless of whether previous budgets included the cost or not. In other words, the budget starts from base or zero. Although typically applicable to expenses, it is also possible to adapt the approach to revenues.
An opposite approach to zero-based budgeting is automatically setting the budget at the prior year’s amount plus 2% without evaluating if prior-year amounts are truly necessary for the upcoming fiscal period.
Zero-based budgeting is responsive to changing economic environments. For example, many organizations have discovered that their employees have been able to negotiate much higher rate increases post-pandemic. Additionally, inflation rates after 2019 have recorded historic highs due to environmental, social, political and other impacts. Zero-based budgeting better responds to current economic trends instead of being stuck in the unrepresentative past.
It is not heretic to employ performance-based budgeting in not-for-profits, although this concept is second nature in the for-profit world. It is not unkind or uncharitable to think about allocating funds to programs with the most significant impacts on vision, mission, and strategic goals.
Elevate the budgeting experience by assessing whether technology could assist. Some accounting packages include budgeting modules that could be very useful. Nonetheless, in many cases where operations are straightforward, well-designed and controlled Excel workbooks may be enough (a single worksheet is often not enough).
Use the approved budget as the yardstick to assess actual performance, the baseline to forecast likely financial results and the basis for implementing corrective action where necessary.
Meeting your duty of care
Failing to plan—failing to budget, for example—is planning to fail. The Not-for-Profit database in PolicyPro, particularly SPP NP 4.06 – Budgets, Forecasts and Reporting, includes guidance.
Policies and procedures are essential, but the work required to create and maintain them can seem daunting. The Finance and Accounting, Operations and Marketing, Not-for-Profit, and Information Technology databases in PolicyPro, co-marketed by First Reference and Chartered Professional Accountants Canada (CPA Canada), contain sample policies, procedures, checklists and other tools, plus authoritative commentary to save you time and effort in establishing and updating your internal controls and policies. Not a subscriber? Request free 30-day trials of Finance and Accounting, Not-for-Profit, Operations and Marketing, and Information Technology databases in PolicyPro here.
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