Reserve Planning for Charities in 2022

Davy UK and Worthingtons Solicitors delivered a webinar earlier this year, in partnership with CO3 (Chief Officers 3rd Sector), on the challenges and opportunities for the third sector. 

We discussed the legal obligations and duties placed on charity trustees, the importance of managing reserves, investments, and returns on cash deposits.

Duties and Responsibilities

Whilst the role of a trustee can be incredibly rewarding, it is important to fully understand your duties as you are both personally and collectively responsible for the control and management of the charity. The legal responsibilities of trustees have increased considerably over recent years, placing an emphasis on good governance and continued training which may require obtaining professional advice where appropriate. 

The main roles and responsibilities of charity trustees include: 

• the stewardship role of safeguarding assets and ensuring that charitable funds are properly used and accounted for, 
• ensuring the charity has sufficient income streams and resources to meet its objectives,
• administration of the charity including the preparation of annual returns, reports, accounts, and reporting serious issues,
• ensuring compliance with all applicable laws, e.g., charity law, trustee law, health and safety law, employment law, the Bribery Act and data protection law; and
• ensuring the charity acts within its governing document.

It is important to note that trustees who have specialist knowledge, e.g., if they are a solicitor or accountant will be held to a higher standard and may have more onerous obligations to comply with. Further, charity trustees who are also company directors are obliged to comply with the Companies Act 2006.

Reserves and investments, why are they important?

The Charities (Accounts and Reports) Regulations (Northern Ireland) 2015, requires registered charities to report on their financial position as part of their trustees’ annual report. This should include the charity trustees’ position in relation to holding, or not holding reserves.

The Coronavirus pandemic has had a significant impact on many charities with an increase in demand for their services at a time when their income stream and fundraising efforts reduced substantially. This highlights the need for robust reserves to weather challenging periods. Holding sufficient reserves and an appropriately risked investment portfolio can help charities manage through these difficult times. Reserves are also a reputational balancing act. Whilst trustees may have little influence on the charity’s ability to build up or maintain reserves, they can demonstrate resilience to donors, creditors, and lenders with a robust reserve policy. 

Are your policies fit for purpose?

A good starting point is to consider the guidance on “Developing a Reserves Policy” for charity trustees produced by the Charity Commission of Northern Ireland. The next step is to identify weaknesses in your policies and to consider whether professional advice is appropriate in assisting you with your trustee duties. 

The most successful reserve and investment policies have several characteristics that support the continued financial operation and sound governance of the charity:

• Help to explain to stakeholders why they hold reserves, how they use them and contextualises the number of reserves with respect to the size, aims and activities of the charity.
• Provide a framework for decision making and the allocation of future excess / shortfalls in income – particularly during periods of uncertainty.
• Ensures clear lines of accountability and oversight where advice or decision-making responsibility is outsourced.

Considerations for trustees

In the webinar, some of the reasons why the nature of reserves and investments are changing and why trustees must revisit their existing policy were discussed. The main points are set out below.

Deposit rates & inflation

Most charities wish to preserve the real value of their assets. For reserves that are held for the longer-term, inflation poses a real threat to the purchasing power of the funds. For many years, deposit rates with banks were ahead of the rate of inflation in the UK and investors were able to take little to no action and enjoy growth in the real value of their assets. With deposit rates at historic lows and inflation concerns growing in the minds of policy makers, there is now a real cost to inaction. For some charities, there simply is no alternative to cash. However, we believe care must be taken to avoid holding too much cash where it may not be necessary. 

Income

Charities that hold an investment portfolio will have noticed that the dividends received from their portfolio is lower than it has been in the past. Trustees should revisit the level of income provided by their portfolio and consider the benefits of funding some of their income requirements from the capital value of their portfolio. 

Confusing certainty for security

There are a variety of reasons why charities hold cash. Unquestionably, however, often a considerable portion of uninvested cash is not needed to meet short-term expenditure or liquidity requirements. 

All charities should have immediate liquidity requirements addressed as part of their reserve policy, meaning there are legitimate reasons for holding cash. However, to the extent that the amount of cash held goes beyond requirements for short term expenditure, the reasons provided are generally a variant on a constant ‘safety’ or ‘peace of mind’ theme. This is, however, confusing certainty for security.

• Does cash provide certainty? Unequivocally yes. We are certain about the direction of deposit interest rates and that cash holdings will be negatively impacted.
• Does cash provide security? Unequivocally no. The certainty of cash does not provide security against the real risk that charities face, which is the value of reserves – the primary threat to which is inflation.

Challenges and opportunities 

The extent to which the coronavirus pandemic has affected the charitable sector remains unknown, however, across the sector it is predicted that there will be a significant shortfall in income for 2021. It is now more important than ever for charities to be adaptable, agile, and resilient, particularly in the areas of strategy, governance, and finance.

During our discussion, we encouraged trustees to consider and reflect on the challenges faced due to the pandemic, cash flow issues and financial instability, and whether they have a detailed plan in place to help their charity to return to their pre-coronavirus financials and productivity.

Future planning is critical for the survival of the charity sector. We encourage charities to take this as an opportunity to consider any lessons learned from the pandemic, and if there are any better ways of working which have evolved.

Actions

• Reconsider the short, medium, and long-term objectives of your charity and ensure that they remain appropriate in today’s environment.
• Ensure that effective controls and adequate procedures are in place to encourage sound governance and that these are reflected in your policy documents. 

If you require any advice or a consultation on any of the matters discussed, please do not hesitate to contact us at:

This article was written in association with Worthingtons Solicitors.