Five Minutes for Finance - Restricted and Unrestricted Donations
Unrestricted vs. Restricted Donations for Nonprofits
Many nonprofits rely on donations to sustain their missions and provide essential services to the communities they serve. However, not all donations are the same—some come with specific conditions, while others provide greater flexibility. Understanding the difference between unrestricted and restricted donations is crucial for both nonprofit organizations and their donors.
Note: This article does not discuss earned revenue, which will be covered in the subsequent article.
Unrestricted Donations
Unrestricted donations are contributions that a nonprofit can use for any purpose that aligns with its mission. These funds are not designated for specific time periods, programs or projects, allowing organizations to allocate resources when and where they are most needed.
Common Sources
General fundraising campaigns
Membership fees
Corporate donations
Individual contributions with no specific instructions
Advantages
Flexibility – Nonprofits can use unrestricted funds to address urgent needs or unforeseen challenges.
Operational Support – These donations can cover essential costs such as salaries, utilities, and infrastructure.
Long-Term Sustainability – Unrestricted funds help organizations maintain financial stability and invest in growth opportunities.
Challenges
Some donors may be hesitant to contribute unrestricted funds due to concerns about financial transparency.
Donors often prefer to see direct, measurable impacts from their contributions, which restricted donations typically provide.
Restricted Donations
Restricted donations are contributions designated for a specific time period, purpose, program, and/or project. Donors specify how their funds should be used, and nonprofits must comply with these stipulations.
Common Sources
Grants from foundations or government agencies
Endowments with specific conditions
Targeted fundraising campaigns (e.g., scholarship funds, disaster relief)
Individual donations with donor-imposed restrictions
Examples
A donor gives $50,000 to a nonprofit to be used exclusively for building a new community center.
A foundation provides a grant to fund research on a specific disease.
Advantages
Ensures Program Funding – Restricted donations guarantee financial support for key initiatives.
Attracts Mission-Driven Donors – Many donors prefer to give to specific programs that align with their personal values.
Encourages Accountability – Organizations must demonstrate that funds are used as intended, fostering donor trust.
Challenges
Administrative Burden – Tracking and reporting on restricted funds require additional effort and resources.
Limited Flexibility – Funds tied to specific programs may not be available for pressing operational needs.
Potential Surplus Issues – If a program is fully funded, excess restricted funds may be difficult to reallocate.
Balancing Unrestricted and Restricted Donations
To maintain financial health, nonprofits should strive for a balance between unrestricted and restricted donations. Here are some strategies to achieve this:
Encouraging Unrestricted Giving
Educate Donors – Explain why unrestricted funds are vital for your organization's sustainability and operational efficiency.
Recognition and Incentives – Acknowledge and reward donors who provide unrestricted gifts through impact reports and donor appreciation programs.
Demonstrate Transparency – Show how unrestricted funds are used effectively to build donor confidence.
Managing Restricted Donations Effectively
Implement Clear Policies – Establish guidelines on how restricted funds will be used and reported.
Maintain Open Communication – Keep donors informed about the impact of their restricted contributions.
Plan for Surplus Funds – If a program is overfunded, seek donor approval to reallocate excess funds to related initiatives.
Legal and Ethical Considerations
Nonprofits must adhere to legal and ethical guidelines when handling both unrestricted and restricted donations:
IRS Regulations – U.S. nonprofits must comply with tax laws regarding the use of charitable contributions.
Financial Transparency – Organizations should provide clear and accurate reporting to donors and regulatory bodies.
Ethical Fund Allocation – Funds should always be used in alignment with donor intent and organizational values.
Conclusion
Both unrestricted and restricted donations play critical roles in supporting nonprofits. While unrestricted funds offer the flexibility needed for long-term stability, restricted donations ensure that specific programs receive necessary funding. By fostering donor trust, maintaining financial transparency, and balancing these two funding types, nonprofits can maximize their impact and continue serving their communities effectively. Donors, in turn, can make more informed decisions about their contributions, ensuring their support aligns with their philanthropic goals.
About this Series
Subsequent articles in this series will cover other topics related to nonprofit financial management. Here is a list of, with links to, previous articles:
About the Author
For over 30 years, Robert Pascual has been a leader in nonprofit financial management as a CFO, consultant, conference speaker and educator. He holds an MBA from the Haas School of Business at the University of California and is the founder and principal of Robert Pascual, MBA LLC. He has worked with small, mid-size, and large nonprofit organizations spanning the fields of education, workforce development, housing, health, philanthropy, social services, media, fiscal sponsorship, nature, and the environment. Each of these organizations has faced both unique and common challenges, some of which are probably similar to ones that you wrestle with.