One of the most important duties estate planners can carry out is ensuring their clients leave behind a legacy.
Many planners are more than willing to do the legwork for their clients, making certain the gifts they make are useful and appropriate. That’s why so many planners have become conversant in the ways charities are evaluated — the many metrics out there that determine which organizations make the most of their donations and which ones squander them.
Perhaps the most popular measure of efficiency for a charity is its financial ratio. This makes perfect sense: donors want to be assured their money is being used well and that a high percentage of it is going into program activities rather than fundraising (which can mean lavish parties that only incidentally bring in money) or overhead (which can mean fat salaries for the executives and the board). There’s a reason surveys have found that 36 percent of the public strongly agrees or mostly agrees with the statement that charities are wasteful.
See also: Leaving a phoenix-like legacy
But while those financial ratios are worth keeping an eye on, they’re not the be-all and end-all. There are very good reasons why some charities’ ratios aren’t so impressive on first blush. Here are some caveats to keep in mind when looking at the numbers:
Expense ratio. One of the most-respected charity watchdogs out there, Charity Navigator, recently revamped its evaluation system to downplay expense ratios. Critics had claimed that by focusing on expense ratios, the system punished charities making long-term investments in their programs and facilities. Those costs often get wrapped up into administrative or overhead categories, when they’re really in the long-term interests of serving the charity’s beneficiaries. And a charity that pays for too little management and administration can run into inefficiencies all on its own.
In order for charities to grow, their first order of business is to increase donations. It’s not usually possible for them to turn around and spend that extra money quickly on program activities — which means thriving charities can often score poorly when it comes to the expense ratio.
Charity Navigator has taken note of this. “By showing growth and stability, charities demonstrate greater fiscal responsibility, not less, for those are the charities that will be more capable of pursuing short- and long-term results for every dollar they receive from givers,” the site says in its evaluation criteria.
The research group CharityWatch considers any figure above 60 percent spent on program activities to be “reasonable.”
Fundraising ratio A charity’s fundraising is subject to several factors that can throw off the ratio between the amount of money it spends on fundraising and the amount it actually takes in. For one thing, the organization has little control over when sizable estate donations might be coming in. The expenses the charity incurs this year on bringing in donations may not pay off until several years down the line.
It can also be an unfair comparison across charities. Many groups receive stable government or foundation funding that requires very little outlay to keep that money coming in, while others have to work harder for their donations. That doesn’t make the latter groups less worthy than the former. CharityWatch also drills into whether what’s considered fundraising may actually be a method of educating members — or may otherwise fall under program activities — and adjusts its ratios accordingly.
More effective metrics
So if expense ratios and fundraising ratios can be misleading, which metrics do professionals look at to evaluate charities?
Charity Navigator looks at primary revenue growth and program expenses growth to see the extent to which charities are fulfilling and expanding their mission. Charities need to keep their income growing in order to stay in business, and they need to keep their expenses growing in order to bring their good works to more people. An organization that is impressive on both counts is probably one that has found a great deal of success in achieving its purpose.
Another key metric for Charity Navigator is working capital ratio. The extent of the liquid assets a charity holds in reserve shows how long a group can sustain its current programs and services without additional revenue. This indicates both the overall health of the organization as well as the planning ability of the administration.
Mission performance is considered maybe the best indicator of an organization’s efficiency. While it can be harder to quantify then some other ratios, aligning what the organization’s purpose is and how effectively it achieves its goals is the key to any effective charity.
And, of course, it’s generally appropriate to look at expense ratios and fundraising ratios, too. But don’t let them tell the whole story. There are many other ways to evaluate the efficacy of your clients’ charities.
For more on charitable giving, see: