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Thursday, March 26, 2015

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The Lowdown on Quasi-Endowments


When is an endowment not an endowment? When your board says so!

In fact, if your organization is like many other nonprofits, it may decide to utilize what is known as a “quasi-endowment” to gain some flexibility in funding special expenditures or future projects. 

First, a Definition
By definition, traditional endowments entail setting aside restricted funds to create investment income for a specific purpose. They are typically established to reflect specific donor intent.

By contrast, quasi-endowments are funds earmarked by the board—rather than by donors—to act like permanently restricted funds from which income is available for general operations (e.g., a “rainy day fund”) or certain specific purposes. In essence, the board decides to treat unrestricted funds as an endowment. Accordingly, these funds are not reported as “permanently restricted” on the organization’s financials.

A more specific definition can be found in Statement of Financial Accounting Standards (SFAS) 117:

An organization’s governing board may earmark a portion of its unrestricted net assets as a board-designated endowment (sometimes called “funds functioning as endowment” or “quasi- endowment”) to be invested to provide income for a long but unspecified period. The principal of a board-designated endowment, which results from an internal designation, is not donor restricted and is classified as unrestricted net assets.

Why Do It?
There are a number of reasons a nonprofit might establish a quasi-endowment.

For example, a nonprofit may not be ready to launch a true endowment campaign, yet it wants to provide some stability by investing resources and using only the interest for operating expenditures. Another organization might establish a quasi-endowment when it receives an unexpected windfall, such as a bequest (assuming the donor has not made any stipulations for its use).

How It Works
Quasi-endowments are established using either donor funds (such as unrestricted bequests) or institutional funds (typically excess operating support and revenue). The principal is preserved and distributions are made to support a specific purpose.

Unlike with permanent and term endowments, the board can end its restriction for any reason and remove any or all funds from the quasi-endowment at any time it chooses (typically through a simple majority vote).

Next Steps
It’s important for organizations to be able to build quasi-endowment funds. Yet, nonprofit boards are well advised to first take some cautionary steps.

Step 1: Establish policies. Consider establishing both an endowment policy and a quasi-endowment policy. A quasi-endowment policy will look much like the one for true, legally binding endowed funds, but will also stipulate that the funds are not subject to a binding spending restriction.

Step 2: Create parameters. Clearly delineate what funds can and cannot become a part of the principal of the quasi-endowment fund. Likewise, establish approved purposes for which quasi-endowment funds may be disbursed. (Note that with a “divestible quasi-endowment,” divestment of principal is allowed.) Just as important as stipulating how the funds will be used is outlining the mechanism by which the restrictions placed on the endowment by the board can be reversed.

Step 3: Establish criteria. Some boards structure their quasi-endowments so that interest and dividends must accumulate until they reach a certain point, at which time the income can begin to be used.

Step 4: Invest wisely. Outline how the quasi-endowment fund will be invested and who will oversee the investments. For example, a committee, a bank trust department or an investment broker might be the designated responsible parties.

Accounting for Quasi-Endowments
Accounting standards established by the Financial Accounting Standards Board (FASB) require nonprofits to report quasi-endowments as unrestricted funds. Quasi-endowments are reported on Form 990, Part X, Line 27 (unrestricted net assets). They are also reported on Part V (Endowment Funds) of Schedule D (Supplemental Financial Statements).

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