A Quick Guide to Financial Transparency for Nonprofits
by Chris Hammond, CEO, CGC
When you run a nonprofit, how you handle your finances isn’t only a concern for your board and staff members. Your financial management can be a factor for donors, potential corporate partners, and grantmakers in deciding whether to support your mission, as well as influence your reputation within the community.
While the financial data within your IRS Form 990 is publicly available, the best way to build trust with your supporters is to be proactively transparent with your finances. Ensuring that your financial reporting is accessible to external stakeholders helps build stronger relationships with them. We’ll walk through best practices for financial transparency in this guide.
What is nonprofit financial reporting?
Nonprofit financial reporting refers to the process by which charitable organizations organize and share their financial data. There are formal financial reporting requirements for accounting purposes, but the way nonprofits communicate this information to donors is up to their discretion.
The formal reporting requirements are within the Generally Accepted Accounting Principles (GAAP) set by the Financial Accounting Standards Board (FASB). This framework standardizes financial accounting and reporting requirements, and we’ll discuss the financial statements required under GAAP further below.
While you could simply publish your financial statements on your website, it can be overwhelming for supporters to dig through formal financial documents to evaluate how your organization is stewarding gifts, leaving them without the context they’re looking for. To truly be transparent with your donors and build trust, it’s best to communicate the data you gather in your financial statements in a way that will resonate most with them.
What financial statements do nonprofits prepare?
Under GAAP, nonprofits must compile three main financial statements:
- Nonprofit Statement of Financial Position: Like a for-profit organization’s balance sheet, this statement lists your assets, liabilities, and net assets to depict your nonprofit’s financial health. Unlike for-profit businesses, nonprofits have net assets (instead of a shareholders’ equity) and may include items like pledges receivable (promises of future gifts), refundable advances (funds with donor-imposed conditions yet to be met), and board-designated net assets (resources earmarked by the board for the future) on their balance sheets.
- Nonprofit Statement of Activities: Comparable to a for-profit business’s income statement, the Statement of Activities reports on your revenue, such as monetary contributions, in-kind contributions, sponsorships, and program revenue, and expenses to show how you’re managing your resources.
- Nonprofit Statement of Cash Flows: The Statement of Cash Flows tracks how cash moves in and out of your organization. This statement reports on cash inflows and outflows from operating, investing, and financing activities.
Another optional statement that many organizations also choose to compile is the nonprofit Statement of Functional Expenses. While this report isn’t explicitly required by GAAP, it fulfills the GAAP requirement of reporting a functional expense analysis. The Statement of Functional Expenses categorizes expenses by both nature and function (program, management and general, and fundraising).
As YPTC’s nonprofit financial statements guide explains, “Inaccurate financial statements can mislead internal and external decision-making, cause compliance issues, and erode trust with stakeholders.” To avoid financial reporting errors, work with an experienced nonprofit accountant.
What are best practices for sharing the data in your financial reports with stakeholders?
After your nonprofit accountant has compiled your financial statements, you can translate those documents into digestible insights for your supporters.
To promote transparency and ensure your financial data is readily available, follow these four tips:
1. Incorporate financial data in your annual impact report.
One of the best ways to promote financial transparency is to include financial data in your annual impact report. Summarize the key points from your financial statements so supporters can easily digest your nonprofit’s financial performance from the past year, and tie these numbers back to your impact. Consider weaving financial statistics into your program achievements. For instance, an environmental nonprofit might say how many trees it planted with the funds raised through monthly donations. This explanation helps contributors connect with the difference their generous gifts are making.
2. Manage and update your third-party watchdog profiles.
Charity rating sites like Charity Navigator, Candid’s GuideStar, and the Better Business Bureau (BBB) Wise Giving Alliance evaluate nonprofits on various criteria. GuideStar, in particular, awards “seals of approval” based on financial transparency. Donors often use these sites to research nonprofits and factor the information they find into their giving decisions. By claiming and updating your nonprofit’s profile on these sites, you can increase your transparency and help donors find the information they are looking for.
3. Use data visualization.
Across all of your donor and stakeholder communications, visuals are a valuable tool for promoting understanding. Instead of just showing the numbers, consider, for example, using a bar graph to show how much of your revenue comes from each source or a line graph to demonstrate revenue growth over time. That way, supporters can easily understand and engage with your financial data.
4. Share regular, customized impact updates.
For major donors, supporters of specific campaigns or projects, or corporate partners, your nonprofit can personalize communications with financial updates specific to their contributions.
For example, throughout a capital campaign for a new building, you might send donors updates as you hit your fundraising goals, with pictures of construction progress and details of what their money is accomplishing.
For a major donor or corporate partner, you might create a graph depicting where their gift has been invested, with connections to specific accomplishments like, “25% of your gift went towards our animal vaccination program, leading to 100 shelter pets receiving their shots.”
Being proactively transparent with your donors and sharing direct updates about their gifts builds stronger relationships and reassures them that you are stewarding their contributions effectively.
Nonprofits rely on external stakeholders to fuel their missions. In return, show these supporters that you value their contributions and use their funds appropriately through financial transparency. Prepare your staff to answer questions about your finances or direct interested parties to the appropriate resources so that donors and funders will feel confident that you’re using their contributions to power your mission.