4 Components of a Good Reserves Policy
Along with protecting the association from financial downturns and funding new initiatives, creating—and adhering to—a detailed reserves policy will help you manage board and staff expectations.
Finances are one of the top sources of stress in a marriage, according to the American Psychological Association’s Stress in America Survey. It’s easy to see why. Picture this: One spouse is a saver, dreaming of the perfect house or a blissful retirement, while the other is a spender, dipping into the savings account for that next-generation phone or car. With such opposing mindsets, it’s no wonder stress and conflict arise.
Association finance isn’t all that different from personal finance. On one hand, you have the finance department, which is in the weeds of budgeting, forecasting, and accounting for every cent. And then you have the rest of the staff and board, which are likely filled with great ideas to spend those dollars on behalf of its members. It’s another situation ripe for disagreement.
An association needs smart savers and smart spenders, and a clear, written reserve policy can help keep everyone on the same page. Pun intended. A documented, approved, and regularly reviewed policy not only allows the association’s leader, board, and staff to get on the same wavelength, but it can also help prevent conflict that arises over revenue allocation.
“I don’t think there’s a specific policy [that cuts across all associations], but there are some definite components that anybody writing a reserve policy would want to make sure are included,” says Elaine Lynch, deputy executive director and CFO at the American Anthropological Association.
Here are some of those components:
Define your reserves. Different finance departments will define reserves differently. For example, GrantThonton defines reserves as “a discrete subset of its liquid net assets.” AAA defines its reserves as unrestricted cash investments; in other words, those funds that aren’t earmarked for any other purpose.
Determine the purpose of your reserves. The purpose of a reserve policy is to elaborate on the definition and give specific goals. AAA’s policy includes the following:
- To provide sufficient assets to help carry out the mission of the association
- To provide funds for unforeseen contingencies due to unpredictable economics turns in the association’s financial status
- To cushion the association during dips in the cyclical variation of its circumstances
- To fund strategic initiatives
Calculate your reserve fund target. Most finance experts will tell you that there’s no one-size-fits-all yardstick when it comes to how robust your reserves are. In fact, the Nonprofit Finance Fund released a 2015 State of the Sector report, revealing that only 23 percent of surveyed respondents had more than six months of cash in reserve. The majority had less than three months in reserve, and 12 percent had less than 30 days saved for the proverbial rainy day.
But it’s important to base your reserve fund target off some association-specific metrics, including a long-term financial forecast and an analysis of potential risks. AAA decided to create a reserve fund target range, with a minimum of 100 percent of the association’s annual operating budget and a maximum set at 200 percent.
Create criteria for allocation. Once you’ve calculated your target amount of reserves, you’ll want to determine how it can be allocated. For example, what portion, and under what specific circumstances, can the reserve fund be dipped into—and allocated toward specific projects? At AAA, Lynch says that the reserves might fund a strategic initiative, but those are considered strategic investment loans and must include a payback plan and must not exceed 25 percent of the market value of the reserve.
By creating a policy with these components and getting it approved by the board, everyone is on the same page and if conflict arises, you can say, “Sorry. Refer to the policy.”
How did your association create its reserves policy? Please leave your thoughts in the comments below.