In light of the current relatively borrower-friendly environment, we have prepared this paper to address the topic of using financial leverage to increase the reach, impact, and financial feasibility of 501(c)(6) organizations’ efforts.
For sake of clarity, we will start by identifying two common approaches: borrowing from an investment pool and borrowing against an investment pool.
As a preface, it is important to note that many organizations, especially those with restricted funds, will not easily be able to engage in either method; furthermore, the charter, investment policy statement, or other policies may also prevent borrowing in any form. We are not able to give legal advice as to the feasibility of borrowing, and suggest an organization consult with its legal services provider before taking any action.
Why Use Financial Leverage?
Primarily, 501(c)(6) nonprofit organizations’ budgets are increasingly strained due to the increasing needs of their members and missions that they serve. There are just not nearly enough resources to address every need and every cause. For example, the volatility and unpredictability of fundraising could result in the potential for an operating cash shortfall if operating and investment income is not sufficient to meet budgetary requirements.
Further complicating things, donations are increasingly coming with donor restrictions attached.
A study by the Stanford Social Innovation Review found that even the restriction on the reimbursement of indirect costs (typically 15%) is leaving nonprofits with excessive, and sometimes unexpected, bills that, in turn, can also lead to an operating cash shortfall . Regardless of the cause, an organization might borrow to make up the shortfall, whether through a line of credit or a short-term loan.
The second major reason for a 501(c)(6) organization to borrow is to fund large-scale, longterm capital projects.
These projects could include a new building, major renovations, or new equipment , and would likely need to be funded (at least partially) through borrowing. The loan or debt, in most cases, would have to be paid for through a combination of donations, investment income and operating income, if applicable. The major issue with this is that, given donations and investment income streams are not adequately predictable, nonprofits without substantial operating income sometimes have to pay a higher rate of interest (meaning higher cost of borrowing) than a comparable (with regard to leverage), for-profit entity would pay.