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10 threats and distractions to nonprofits

Nonprofits have played a special role in benefitting people and communities in this country since well before the beginning of our nation. With a history going back to Henry VIII of England, the modern nonprofit is a legal creation of corporation law and government regulation, earning status as tax exempt, with donations to (c)(3)s largely tax deductible. The mission and vision of nonprofits are focused on societal benefit. 

Without getting into the remarkable variation in the sector, nonprofits do good, achieve public benefit, serve as seedbeds for innovation, and contribute to the overall welfare of society. Most universities and colleges, theaters, museums, research facilities, classical orchestras, social service agencies, animal welfare agencies, hospitals, and a myriad of other social benefit groups qualify under section 501(c)(3) of the IRS code for this special recognition.

Nonprofits serve as mirrors of society’s values and as pilots for new ideas and new ways of doing things; they are creative, offering freedom to experiment, to fly, to contribute to the betterment of all. They are the agencies for continuous quality societal improvement.

We are at an all-time high in the number, activity, and importance of nonprofits. Here in Minnesota, nonprofits make up about 10 percent of the economy, with healthcare the overwhelming leader. Nationally, there are a million (c)(3)s, receiving private donations of $300 billion, earning an equal amount, and obtaining government funds of even more.

At the height of all of this doing good, nonprofits and their constituents have become direct and indirect targets from a number of sources, including various levels of government, for-profit organizations, political associations, and a bevy of organized and unorganized special interests.

Portions of this targeting are threats, even to the very existence of organizations. Others are serious distractions, taking away resources, time and talent. They add up to the most significant challenges to nonprofits ever: a barrier to growth, a hindrance to service, and an overall drag on the wellbeing of the sector, if not the society itself. Here are the most serious:

While tax exempt, nonprofits receive all government services and benefits in return for their contributions to the welfare of the community. Now, revenue-strapped government units have nonprofits in their sights, creating special tax districts, assessing fees, and negotiating payments in lieu of taxes (PILOTs) to tap the revenue of both large and small nonprofits. Nonprofits, especially larger institutions, face the possibility of losing all exemption from local, county, and state taxation.

In their efforts to find revenue, a number of politicians, including President Obama, propose various limitations on allowing tax deductibility for the full amount of an individual’s charitable donations. This will clearly affect major donors to charities, which rely on them for a significant source of revenue. The limits will influence many donors in their charitable decisions—and these are the very same donors who have already begun focusing and restricting their contributions.

Some states, including Minnesota, are increasing income taxes to levels that are seeing wealthy individuals, many of them major donors to charity, leave these states and reside in other parts of the country. Gifts from such individuals have not only gone down, but, in Minnesota, existing gifts have been the basis of legal action against donors, with the state claiming they are still residents. So far, state claims have been denied by the courts. And, of course, another round of federal income tax increases are proposed.

While the new, higher federal tax rates may technically encourage additional giving, given higher tax “savings,” federal budget sequestration will deprive nonprofits of significant revenue presently derived from contracts with government. In the last thirty years, nonprofits, especially those in the social services, have become dependent on government revenue for a large proportion of revenue. Public housing suppliers, homeless shelters, university research budgets, preschool programs, hospitals serving the poor, and many others will feel the pinch.

A new trend focuses on solving or ameliorating societal problems through for-profit organizations. Private business methodology is supposedly superior to nonprofit processes in efficiency and effectiveness as well as the ability to effect solutions. To date, most of this work, with some success, is focused on low-hanging fruit. For-profit hospitals do well with a case mix that is largely middle and upper income patients. For-profit schools have a mixed record, with higher dropout rates and higher student loan totals. Impact investing, social impact bonds, B Corps, double and triple bottom-line businesses are all in this mix. Add to this the number of what should be for-profit groups seeking (c)(3) status and there is confusion about what nonprofits should and should not be.

Perhaps as many as one third of the current executive directors of nonprofits will leave or retire in the next few years. The lack of succession and transition planning is widespread, with few resources to train successors. While there have been a growth of nonprofit masters programs in higher education, the graduates are insufficient to meet the need. MBA graduates are also in short supply for nonprofits, with less than five percent of all MBA graduates joining nonprofits. An investment in preparing the next generation of leaders is vital.

The turmoil in the development and fundraising functions of nonprofits has been graphically demonstrated in the recent report, Underdeveloped. Until the profound misunderstanding about who does what in development between and among boards, EDs, and DDs is resolved and repaired in every nonprofit experiencing this dysfunction, the revenue-raising potential of nonprofits is compromised. At a time when nonprofits should be exploring alternative sources of revenue, such as entrepreneurial activity, many are experiencing instability in their core development personnel and functions.

With an increase in nonprofits, most of them small, a number of funders have been encouraging merger and acquisition as a way to stabilize both the number and revenue streams of nonprofits as well as to reduce the number seeking grant and program related loans. There is a clear signal that consolidation, affiliation, cooperation, and merger are strong indicators on criteria used by funders to evaluate projects. This should not always be the case. Results are mixed. For example, a local nonprofit has acquired three related nonprofits and has experienced larger deficits and fewer supporters as a result. A middle way needs to be found so that the small, creative nonprofit, which cannot be scaled up, has a place in the sun. Bigger is not always the answer.

Recently, a TED Talk by Dan Palotta on the need for flexibility in overhead expense spending has gone viral in nonprofit circles, strengthening resolve to educate donors and funders on certain needs that boost overhead beyond the traditional notions of a target percent of budget. Actually, overhead is a poor way of measuring performance and, perhaps this attention will result in a more reasonable approach to spending, investing and venturing in nonprofits’ attempts to better serve their constituents and achieve mission. Overhead simply doesn’t do it; outcomes and impact hold the key.

Whether a fad or trend, funders are increasingly demanding that empirical measurement and evaluation are part and parcel of any program grant awarded. Often no additional funding is included in the grant, resulting in amateurish attempts to demonstrate outputs, outcomes, results, and impact. Most of this is a waste of resource and time. What is needed are measurement standards developed for each subsection of the sector so that results are comparable, allowing enhancements and improvements in service to the community. Many of the larger national foundations seem to be headed in that direction, so we will wait and see.

There is an eleventh factor that sums up what is going on in all of this.

As a now legendary nun said about her hospital system, “No Money, No Mission.” So, should we formulate consensus on what it is that we want from the nonprofit sector and ensure that the resources are available? Or is it optimal to leave this Brownian movement as it is, letting the hundred flowers bloom and allowing many of these threats and distractions to disrupt and destroy?

We need sector leadership to articulate the importance of the nonprofit in positive ways, to help create this new consensus on the importance of the sector’s contributions to society and to appeal successfully for the resources needed to do the desired job.

Finally, we need leadership in the for-profit and government sectors to recognize the importance of nonprofits to overall community welfare, as well as all of us to do the same and, in various measure, to respond generously with the desired resources, all to produce the social good we all so desire and need.

About the Author

James V. Toscano, Principal, Toscano Advisors

Jim has over 50 years experience in nonprofit management, ranging from teaching at the Wharton School to service as president of the Minneapolis Heart Institute Foundation. His expertise includes: planning, governance, values analysis, outcomes measurement, and accountability and transparency in nonprofit organizations. He served as the head of research and education at Park Nicollet for 25 years. He is a past chair of the Minnesota Charities Review Council and served on over fifty boards and commissions during his career, including the Minnesota Health Care Commission and as Chair of the Medical Education and Research Committee of the State Health Department. A chair and co-chair of the committees that produced the two editions of Minnesota Council of Nonprofit’s “Principles and Practices for Nonprofit Excellence,” he has taught nonprofit management at the University of Chicago, University of Saint Thomas and, currently, Hamline University’s Graduate School of Business. He is a graduate of Rutgers College and Yale University.

This article was originally published at BePollen.com.

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Comments (1)

  1. Submitted by James Hamilton on 09/03/2013 - 11:15 am.

    Time to become self-supporting.

    Given the proliferation of supposedly charitable non-profits and their political involvement and the indirect use of my taxes to subsidize the operations of organizations whose aims I disagree with completely, I endorse the complete elimination of both the charitable tax deduction and the property tax exemption. I will continue to provide financial support to the organizations whose goals I endorse and I expect others will as well. To the extent that their efforts are directed at goals we alll support, tax dollars can be used as directed by Congress, subject to at least a modicum of public input. A phase in period would be required, perhaps as long as 10 years, but it is time to turn off the flow of tax expenditures to the non-profit trough.

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