How Much Debt Should A Nonprofit Have?

 How Much Debt Should A Nonprofit Have? 

In a perfect world, the generosity of God’s people is so extravagant that you will borrow ZERO. I know we don't live in an ideal world, and sometimes there's an opportunity or the need to grow before the funding has all come in. 

For-profit organizations often use debt because they can spread the cost of providing a product or service over time. And that matches the service's cost to the income that comes from the service or product. 

Nonprofits are not the same because nonprofits do not typically generate income from their borrowings. So debt can become a burden to the nonprofit because if it's spread out too long, you reach a point where the value of that borrowing is not connected to revenue.  And the budget for debt service reduces the fund available for mission/program priorities.  

While borrowing can create mission opportunities, there is not a direct correlation. Borrowing money and building an asset doesn't necessarily correlate directly to the nonprofit's income or revenue.

In balancing this decision of borrowing, I want to share with you a helpful ratio to keep in mind. It's the debt to net asset ratio. Nonprofits' debt to net assets ratios is calculated as total debt divided by total net assets. 

 The Benchmarks of Borrowing | Borrowing Scenarios 

The benchmark for the debt to net assets ratio is 30%. Let us apply this to a couple of different nonprofit sizes. 

If you looked at your balance sheet and saw that you have a total net asset of $1 million, then the maximum amount you should take in a loan would be 300,000. For a 3 million net asset nonprofit should borrow a maximum of 1.5 million and for $10 million in net assets you should borrow a maximum of 3 million. 

These are the benchmarks based on industry standards. I would say every situation is absolutely unique. It's one of my strengths, and it's probably the thing I most get excited about, scenario planning. 

If I could help you on this journey – whether it’s a question of your debt payoff or capital planning, how much to borrow or evaluating how borrowing will impact your budget – I would love to be a part of that conversation.  Schedule a free call with me here.