How many months of reserves should a nonprofit have?

Why it matters

Your months of reserves figure helps the board understand how long the organization could keep paying its bills if new revenue stopped coming in. It becomes especially useful when a grant payment is late, a funder doesn't renew, or you're considering whether you can afford a new position.

Trouble starts when the calculation changes from month to month. One report might divide the bank balance by payroll; the next might count a pledge that hasn't been signed. When the definition keeps shifting, the board can't reliably compare results or make decisions.

How to work it out

Start with the money available to you, then account for amounts that are already committed or can't be used for general operations:

1. Cash and cash equivalents. Include checking, savings, and money market balances you can access within a few days.
2. Less payables. Subtract bills you've received and expenses you've incurred but haven't paid. That money is already committed.
3. Plus pledges and receivables. Count only amounts that are documented and expected within the next 12 months, such as a signed grant award or a submitted reimbursement request. Don't count proposals or informal expressions of interest.
4. Less restricted funds. Subtract unspent money that a donor or funder has restricted to a particular purpose or time period. You can't use those funds to cover general operating costs.
5. Divide by average monthly expenses. Use expenses from the past 12 months to calculate the monthly average. Exclude noncash expenses, such as depreciation, and the value of donated goods or services.

Here's how the calculation works for a hypothetical organization with a $2.4 million annual budget:

Looking only at the bank balance, you might think the organization has more than four months of reserves. After subtracting unpaid bills and restricted funds, the available cushion is closer to three months.

You may also hear the term LUNA, short for liquid unrestricted net assets. It's related to this calculation and gets at a similar question: how much of the organization's available resources can actually be used?

What's the right target?

There’s no single reserve target that works for every nonprofit. The Nonprofit Operating Reserves Initiative recommends 25% of annual operating expenses, about three months, as a good baseline for a board-designated operating reserve, and a higher target for some organizations. Hilda Polanco of Fiscal Management Associates has noted that many organizations find three months extremely hard to reach, especially those funded by government.

Consider a higher target if you wait weeks or months for grant reimbursements, rely heavily on one funder, or receive most of your revenue in a few large payments during the year. In each case, a delayed payment can put more pressure on cash flow.