Charity money myths: the facts about operating as a not-for-profit

Charities registered with the Australian Charities and Not-for-profits Commission must operate on a not-for-profit basis. Generally, a not-for-profit is an organisation that does not operate for the profit, personal gain or other benefit of people such as the charity’s members, employees, responsible persons or their friends or relatives. The definition of not-for-profit applies both while the charity is operating and if it ‘winds up’ (closes down).

The responsible persons of a charity (board directors, committee members or trustees) have duties to make sure that:

  • the financial affairs of the charity are managed responsibly
  • the charity does not operate while it is insolvent, and
  • the charity continues to meet all of its obligations to the ACNC, including continuing to work towards its charitable purposes and remain not-for-profit.

With the release of data sets about Australian charities, including their financial information – it is important to shine a light on not-for-profit financial management and separate the facts from the myths.

Myth one: A charity can’t make a surplus (profit)

Fact: A charity can make a surplus (profit)

  • A charity can make a surplus, providing the surplus is used to further its charitable purposes.
  • Generating a surplus is generally considered good practice for charities.
  • A surplus is important for the financial viability of a charity and can help account for expected and unexpected expenses in the future.
  • Based on the 2014 data on Australian charities, charities are more likely to have a surplus than a deficit.
  • There may also be times when a charity experiences a deficit. A planned deficit, as part of financial management and overall operations of the charity, may also be helpful for the charity’s long term success. For example, a charity may experience a deficit in order to deliver immediate relief during a disaster, or the charity may have adequate retained earnings from a large grant awarded during a previous reporting period.
  • There are a number of ways that surplus can be used, depending on the charity’s purposes and any relevant requirements in its governing documents or the law.  A charity could use a surplus by:
    • implementing a new project or service
    • keeping some money in reserve
    • making a payment on a loan
    • acquiring investments, or
    • donating funds to another charity with a similar charitable purpose.

Myth two: A charity can’t keep money in reserve

Fact: A charity can keep money in reserve

  • It is good practice for a charity to have a reasonable amount of funds in reserve to protect it in the event of unfavourable or unexpected circumstances (in other words, contingency or ‘rainy day’ funds), such as a sudden loss of funding or a humanitarian disaster that requires a quick response.
  • A charity may put aside a reserve to pay for planned future capital expenditures (such as a non-government school planning to build a new campus, or a disability service planning to purchase a mini bus to transport beneficiaries).
  • A charity should only accumulate a reserve to further its charitable purposes.
  • There is no set limit on how much money a charity can place in reserve. The charity’s responsible persons need to decide on what is appropriate, keeping the charity’s overall objectives, as well as the size of the profit in mind.
  • There is no rule setting out how long a charity is able to keep money in reserve - again it is up to the charity’s responsible persons to decide how retaining the money furthers its charitable purposes. However, a charity cannot accumulate indefinitely, as this would not be furthering its charitable purposes.

Note: If the charity is a private ancillary fund or a public ancillary fund, it will have slightly different obligations in relation to the accumulation of reserves. Read the factsheet on private and public ancillary funds.

Myth three: A charity can’t invest its funds

Fact: A charity can invest its funds

  • Prudent (well advised) investments can diversify a charity’s income stream and form part of good financial management practice.
  • It is common for charities to make investments.
  • When a charity is planning to invest money, it needs to think about how the funds will ultimately further its charitable purposes.
  • It is good practice for charities to seek appropriate financial advice about investments.
  • A charity should invest its funds as a part of a financial management plan that includes risk management policies and procedures.
  • A charity can invest its funds by purchasing bonds, stocks or term deposits. However, high risk investments are generally not appropriate for charities.
  • Many charities that choose to make investments aim to do so in an ethical way to align with their charitable purposes.
  • Any investment decisions made by a charity must comply with the requirements set out in the ACNC governance standards. This will assist the charity to make sure that the decisions are made within an appropriate governance framework, in a way that furthers the charitable purposes.

Myth four: A charity can’t undertake commercial activities

Fact: A charity can undertake commercial activities

  • A charity can undertake commercial activities but must do so with the aim of advancing its charitable purposes. ‘Commercial activities’ involve transactions (sales and purchases) that aim to provide goods and services to businesses and individuals for the purpose of making money.
  • There are three scenarios where a charity can undertake commercial activities in a way that is consistent with the requirements of being a charity:
    1. A charity can undertake commercial activity with the purpose of generating profit to fund its work towards its charitable purpose. For example, a charity that provides free health checks and information sessions for people experiencing homelessness and disadvantage establishes a medical centre in Sydney CBD. The general public utilise the medical centre and pay to use the services. All of the profits made by the medical centre are used to fund the free health checks and information sessions.
    2. A charity can undertake commercial activity where the activity directly contributes towards its charitable purpose.For example, a charity might have the purpose of providing employment to people living with disability. To achieve this purpose, the charity could operate a retail store and provide employment and training to people living with disabilities. In this way, the charity is undertaking commercial activity while also working towards its charitable purpose.
    3. A charity can undertake commercial activity where the activity is only incidental to the purpose of the charity. For example, a charity with the purpose of rescuing and rehabilitating native animals that are injured or have lost their habitat finds that it has a stock of organic fertilizer as a result.  The charity decides to sell the fertilizer as a way of raising its profile and generating a very small amount of income. The sale of the fertilizer is a commercial activity that is incidental to the charity’s charitable purpose.

Myth five: A charity can’t spend money on administration

Fact: A charity can spend money on administration

  • Charities are justified in incurring administration costs. Running professional, sustainable and effective charities costs money, which includes spending money on their administration.
  • Generally, the administration costs of charities are understood to be costs incurred by the charity to allow it to operate. For example, the costs of renting an office, supplying it with electricity, purchasing and maintaining an IT system, and the salaries of the CEO and office staff who do not provide services directly to clients, are all administration costs.
  • It is up to the charity’s responsible persons to decide how much money should be spent on administration, as long as they comply with the ACNC governance standards to make sure that the charity’s financial affairs are managed in a responsible manner.
  • The Australian Charities Report 2014 provides evidence of the diversity, variability, geographic spread, and complexity in the sector. All of these differences affect how much money a charity spends on administration. For example, a remote health charity employing a range of medical professionals and offering services such as dialysis, will have administration costs that are far greater than a charity based in the centre of Perth raising funds for a local childcare centre.
  • High administration costs alone do not indicate that the charity is poorly run; in fact, it would be concerning if a charity had no such costs.
  • Administration costs can be a mark of effectiveness – for example the charity that trains its staff and evaluates its programs may be more efficient and effective than the charity that does not. 
  • When trying to understand a charity’s effectiveness, it is better to pay attention to other factors of not-for-profit performance: transparency, governance, leadership, and impact.
  • In Australia, there are no standards or clear definitions to guide which of the charity’s costs should be classified as ‘service related’ and which should be classified as ‘administration’. In the absence of any such standards or guidelines, information about administrative costs is not comparable and is often misleading.