Everyone has heard that planning for success will help you attain it, but why is this so? When you plan, you are reducing uncertainties by defining what you need, how you will get it, and how it will help reach your ultimate goal. An operational budget focuses on the income statement and helps you plan your expenditures properly in order to not end up with a significant surplus or deficit at year end.
It should be noted that the kind of budget we are discussing in this article is not a cash flow budget but rather a budget of operations. A cash flow budget will help you plan your financing needs, capital purchases, and revenue streams. An operational budget focuses on the income statement and helps you plan your expenditures properly in order to not end up with a significant surplus or deficit at year end.
Creating the Operational Budget
Here are some helpful tips on creating a useful budget:
Plan the major events first – the first order of budgeting is to estimate and plan for the next year's major events such as capital purchases, annual general meetings, visits by special guests, or anything else your organization is planning for. Once you are comfortable with what will be going on in the next year, you can start to allocate funds.
Start with revenues – if your NPO has secured or is trying to secure a grant (or multiple grants) then add those at the top – those are easily budgeted for as you will usually know the actual amount from the start. When estimating donations, fundraising events, or other charity events, the best estimate is the results from the previous year unless there was (or will be) extenuating circumstances.
Budgeting expenses – expenses are much harder to estimate as there can be significant variance from year to year. However, most Non-Profit Organizations will be required to show a nil surplus/deficit at year end so you can use this unique feature to allocate funds.
It is best to start with expenses you are more certain about or that are consistent from year to year. Examples include utilities, rent, program expenses, or expenses directly relating to grants received.
After the more consistent expenses are entered, you can enter the remaining amounts until you reach a zero balance at the bottom. You should try to account for known variances (such as a new worker in the upcoming year) at this time, but otherwise make the number proportionally similar to the prior year.
The last part includes revising your draft budget based on the comparison of the prior year's budget-to-results report (or a similar report unique to your organization). If you over-budgeted an account in the prior year, make adjustments as necessary (the same is true for under-budgeting).
Presentation of the budget – in order for the budget to be the most useful, you should set it up like your financial statements are presented. Some organizations utilize fund accounting as they deal with restricted funds or money that was given for a specific purpose. Presenting your budget in the same manner will aid you in figuring out what funds have surpluses or deficits and where transfers should/could be made.
Surpluses/deficits over time – as you may or may not know, surpluses or deficits that are consistent over time can lead to complaints from organization members, board members, or government agencies. They are giving their money to your organization in order for you to facilitate a service and provide them with equal value. If you constantly have a substantial surplus or deficit, without good reason, then you are not doing your job as an organization. This is where budgeting can help – it can provide that reason. Consistent, well thought-out budgets will show where shortfalls come from and can be used to prove that more funding is needed. Similarly, consistent overages can be recognized so you can allocate funds better in future budgets.
Using the Operational Budget
Once you have created the budget for the upcoming year, depending on your organization's policy, the Board of Directors will go over it and approve it. Make sure that once it has been approved that you don't revise it unless there is a significant, unforeseen event brought to your attention. Revising the budget does not help the organization – it only skews results. At year end, the budget will show where there is the most room for improvement and where you estimated accurately. This variance (along with the proper analysis) will aid the organization in the future as, over time, you will be able to pinpoint certain areas that are hard to budget for and adjust your estimates accordingly (like keeping a surplus for specific accounts that always seem to go over budget).
It is also useful to split the budget into months to further pinpoint which months are the busiest for your organization. In order to do this, you simple divide each line by 12 so that you have the same budgeted amount for each month. Then when you compare to actual results you will see what months most of the funding comes in or what months you have to pay the most expenses. This information is useful for future planning as it will tell you the best time to make a capital purchase or add new fundraising events.
The budget is also used in obtaining grants or money from the government. In this way, a budget becomes a key success factor because often times the organization will not be able to operate into the next year without this funding. Further, the government will require the budget be updated yearly, so having a good budgeting process will make this step a breeze.
Monitoring and Follow-up
At year end, your accountant will go through the books and provide actual results to you. Further, some of you will have experienced a question session where the accountant asks you about variances between the budget and the actual results. This is a useful step in determining if you made estimation errors or if it was due to unforeseen, unique circumstances. Further, if you split up the budget into months, you can track your progress as the year goes on and make organizational changes as necessary (but not changes to the budget).
Bringing it all Together
So an operational budget starts with the prior year budget and the results. You then revise the estimates to start fresh this year. If it is your first year of budgeting, you could use a similar organizations budget as a starting point. In any case, you begin with the revenues you expect to receive. After you are satisfied with the revenues, you begin with known or consistent expenses in the upcoming year followed by the lesser known expenses. Utilizing a zero surplus/deficit model, you can fill in the lesser known expenses until the bottom line is nil. From here it is best to format the final budget in the same way the Income Statement is presented in your financial statements. This way the Board of Directors and the members can compare the budget to the actual results from one year ago much more fluently.
As the year unfolds, you will compare actual results to the budget but remember, you should not change the budget to hide variances. Once you have year end results, you analyze why you had variances and what could have been done differently to make a more accurate budget. After this evaluation stage, you begin the process over again.
A final note: Surpluses are not necessarily a positive thing for Non-Profit Organizations. Oftentimes, consistent surpluses in organizations with grant monies will result in a liability to repay the unused funds to the funder. Further, if funds could be used to improve the community you serve but are kept as surpluses, members could find this disheartening and stop providing support in the future. It really is a balancing act, but it becomes easier to budget accurately as your organization grows and gains experience.