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Business Donors – Restricted vs. Unrestricted Funds

Business Donors – Restricted vs. Unrestricted Funds

When it comes to a not-for-profit organization, businesses can designate their donations in one of two different ways. They could ‘restrict’ the use of their donations to a particular purpose or project, such as an endowment for a scholarship fund at a university. They could also give ‘unrestricted’ funds that the not-for-profit can use for any purpose. These usually go toward generalized operating funds or even a specific project that the not-for-profit is planning out.

What are the differences between the two, and how is a choice between the two made?

The donor decides

The donor determines whether or not a donation should be designated as ‘restricted’. This is usually done with a letter from the donor, but it can also be mandated separately through an explicit agreement with the not-for-profit.

When foundations give out grants, it’s to ensure that they’re restricted to a specific endeavor or program. This is usually made clear in the documentation that accompanies the award. 

Designating Funds

When not-for-profits are making requests, most of the time their preference is for unrestricted funds. When filling out a donation form, they will usually specify that they would like to use the funds to their choosing. This makes sense, as a charity could always find socially responsible ways to spend extra money in bettering their community. Having no restrictions allows them to channel those funds towards whatever pressing need they might have. They usually solicit donors for the money by email or direct mail.

For specific projects like building funds, awareness campaigns, etc., a charity would be willing to take on funds restricted to those projects. They could make a request-for-proposal specific to that project to outline where they money would go.

Potential donors should look for not-for-profits that are very open about what they plan on using the funds for. There has been backlash in the past from donors who felt their funds were used for unintended purposes. While it might be an honest bit of miscommunication, that wouldn’t matter to the all the stakeholders who felt betrayed in the situation. Clarity is a must for donors when dealing with charities.

A good way for a business to avoid confusion is to make their choice in the designation of the funds early on in the process. You can ask charities for options on where they need the funds and pick how you’d like to allocate them. Some charities even offer these options on their website, updating you on their latest initiatives.

Donation Cup

What is the legality of restricted donations?

One reason to be entirely clear how a gift will be used when making a solicitation is that there is not only a moral obligation for nonprofits to honor a donor’s wishes, they are also required by law to do so.

Businesses can rest assured that their restricted donations will be used to their liking as not-for-profits are legally required to uphold those obligations. If a donor restricts their donation to a particular initiative, they can be assured that the charity is legally required to comply with that request.

Different Types of Restricted Funds

Restricted donations can be defined in two different ways, outlined in the “gift instrument.” That’s the document that determines how the donated money will be used. The gift instrument could be an award letter or a request from an individual donor.

Temporarily Restricted

Sometimes donors want restrictions that are time-limited.  That means that for specified period of time, the money should be used for a specific initiative or project.

When either the time is up or the project is finished, the money becomes unrestricted or is stopped (which is possible in the case of a grant, or completion of a construction project).

Permanently Restricted

Permanently restricted funds will never expire. This tends to mean that the principal of the gift is invested, and the not-for-profit uses the interest and investment returns in perpetuity. These types of funds normally go into an endowment set up for a specific program or activity or even the organization itself.

Food bank volunteers

All funds should also be well-accounted for, which is why you should ask charities about how well they adhere to General Accepted Accounting Principles. This will make your accounting easier as well.

Your funds when donating will be taken care of to your liking so long as you follow the guidelines in this article. Think about what you want to donate to and how you’d like your money to be used, and you’ll feel much better about your donation.

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