When should a nonprofit establish – and maintain – an endowment? The term “endowment” typically refers to funds set aside, either internally within a nonprofit or externally through a separately-created entity for the charity’s benefit. Whether internally maintained or separately developed, endowments provide significant opportunities for financial stability, donor development, and risk management. But there are some drawbacks to this strategy, and nonprofit leaders should pay attention to these fundamental considerations.
What Does an Endowment Look Like?
A nonprofit may set up a special fund after receiving a large gift from a key donor (or donors). The donor may make certain restrictions, such as to engage in only certain charitable activities or to provide scholarships for certain educational pursuits. The nonprofit typically must invest the principal gift and promise to spend only income generated from the principal. The nonprofit organization must honor such restrictions through development of an investment policy, continued monitoring, and financial reporting. A nonprofit organization should avoid donor-imposed conditions that would cause the organization to move beyond its mission (absent intentional organizational changes).
Alternatively, donors may impose minimal or no restrictions. In that case, the nonprofit directors must determine how best to steward this valuable resource for the organization’s long-term well-being. The directors may decide among themselves to restrict the endowment funds, such as to use them only for a building campaign or for other specific goals. Little or no reporting requirements or restrictions will apply, which is helpful for optimal flexibility.