Strong financial governance is an important part of running an effective non-profit organisation (NPO) or charity.
Much responsibility lies with trustees, people who have a vital, demanding (and often unpaid) role in governing an NPO and directing how it’s managed and run.
Trustees make sure all decisions put the needs of the beneficiaries first. If they fail to meet their obligations, they can be held personally liable.
In this article, we cover a series of steps so you can explain your NPO’s finances to your trustees, so they can fulfil their role of signing off accounts.
Here’s what we cover:
- 1. Consider the trustees’ current level of financial knowledge
- 2. Explain key financial fundamentals
- 3. Explain every significant income stream
- 4. Explain balance sheet terminology
- 5. Explain how the management accounts map to the statutory accounts
The Charity Commission lists six responsibilities of trustees:
- Ensure your organisation is carrying out its purposes for the public benefit
- Comply with your organisation’s governing document and the law
- Act in your organisation’s best interests
- Manage your organisation’s resources responsibly
- Act with reasonable care and skill
- Ensure your organisation is accountable.
You could apply all these responsibilities to finance, but it’s the last point above that includes the need to produce and file statutory accounts.
The bulk of this responsibility could fall to the treasurer, working with the finance manager or other staff as appropriate. But trustees have overall control of an NPO and are responsible for making sure it’s doing what it was set up to do.
Understanding financial responsibilities as a trustee
Your trustees have responsibility for overseeing your NPO’s money.
Trustees are required to sign off on accounts, and if they are to act with reasonable care and skill, they need to understand their NPO’s finances.
However, it’s common that they find the finances hard to engage with, compromising their role and making it hard for the board to function effectively.
Trustees have a difficult job as they must shoulder a disproportionate amount of responsibility.
If they’re involved in strategic and operational discussions without sound financial understanding, they could be ineffective and potentially cause damage to your organisation’s future due to gaps in their knowledge.
Trustees must make sure that money is only spent on what’s allowed by your NPO’s governing documents and policies—if it isn’t, it’s on them to put it right.
How to help your trustees understand your financials
Understanding financial management as a trustee is vital.
Below are five necessary steps to help your trustees take an active role in the financial management of your organisation.
We’d recommend a briefing session for all new trustees and those requiring an update, supported with appropriate presentation materials.
1. Consider the trustees’ current level of financial knowledge
There’s no point in teaching financial management concepts to a trustee if they already know them.
So it’s essential to understand their current level of financial knowledge and appropriately adjust the information you give them.
Let’s imagine some trustees know the financial basics while others don’t. It may be wise to split them up into groups.
You could separate those who need a basic grounding in accountancy from those who know the basics and need more information on specific areas related to NPO finance.
2. Explain key financial fundamentals
- Always look ahead. Financial information is out of date by default because it’s telling us what has already happened.
- Use financial information to understand the organisation’s status with one eye on the future.
- Forecasting budgets is crucial in giving you a picture of where you think the NPO will be in the future. It’ll help you set the right financial target.
Statement of financial activities (SoFA)
- A statement of financial activities (SoFA) is one of the main financial statements your NPO will issue.
- A SoFA is sometimes called an income and expenditure statement, or a receipts and payments account.
- The SoFA corresponds to what commercial businesses call the profit and loss (P&L) account (also known as a profit and loss statement, or income statement).
- The SoFA is a financial report summarising income, expenditure, and gains and losses incurred during a specified period—usually a month, a fiscal quarter, or a year.
3. Explain every significant income stream
With increased competition for grants and donations, you’ll have to keep a close eye on where your income is coming from.
Your trustees need to understand:
- Who is funding, commissioning and donating? If you’re part of an NPO that trades, you’ll also have customers.
- What activity is your NPO performing to secure the income? Examples include the delivery of grant-funded projects, commissioned services, and supply of a product if you’re trading.
- The expenses associated with delivering each of the activities, such as major contracts and sub-contracts, as well as staff delivery, material, and travel costs. In the commercial world, these expenses would be called cost of sales.
- Historical and budgeted income, as well as restrictions.
You should then explain all other cost categories, such as fundraising, marketing costs and overheads.
Also, provide details of any other significant contracts, such as property leases.
4. Explain balance sheet terminology
You should explain everything in your balance sheet (known as a statement of financial position for NPOs).
A fixed asset is a long-term tangible piece of property or equipment that an organisation owns and uses in its operations to generate income.
It isn’t expected to be consumed or converted into cash within a year.
A debtor is a company or individual who owes the organisation money.
Sometimes referred to as accounts receivable or receivables.
This is money in the bank.
A creditor is a person or company to whom money is owing. You typically split them between:
- Accounts payable or payables: Amounts falling due with one year.
- Long-term liabilities: Amounts falling due after one year.
The money you have available to use freely to further your charitable aims.
You sometimes refer to general funds as unrestricted funds.
You are given restricted funds for a specific purpose and ring-fence them as such. Sometimes time constraints are also imposed.
Once your trustees are confident about what these terms mean, walk them through your balance sheet covering each category.
5. Explain how the management accounts map to the statutory accounts
Typically, finance provides trustees with financial reports called management accounts.
These could include income and expenditure accounts, cash flow forecasts, financial projections, and a balance sheet.
There are three critical reasons for creating regular management accounts for your trustees to review.
They are to:
- Measure current performance
- Allow financial decision making
- Provide evidence that you’re fulfilling financial oversight responsibilities.
Your NPO should produce management accounts regularly (ideally monthly, but sometimes quarterly).
Statutory accounts are reports produced after the end of the financial year to provide a formal record of the financial activity and position of the organisation.
- Management and statutory accounts may have different levels of detail, aggregating and separating costs in different ways.
- Your job is to explain any differences between management and statutory accounts.
Final thoughts: Support your trustees
We’ve given you five steps to work through in explaining your NPO’s finances to trustees, but you should also outline any other points of financial significance.
Finally, remember this point.
If you’re managing finances for an NPO, you should get trustees to a position where they understand enough about finance to ask questions and approve year-end accounts.
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