Section 1. Planning and Writing an Annual Budget

• What are the elements of an annual budget?

• Why should you prepare an annual budget?

• Some practical considerations

• Planning and gathering information to create a budget

• Putting it all together: Creating and working with a budget document

What are the elements of an annual budget?

Creating an annual budget can feel challenging, especially if you are unfamiliar with accounting and financial terminology. A budget becomes easier to work with when it is understood as a planning tool: it translates the organization's priorities, expected resources, responsibilities, and financial assumptions into numbers for a defined period of time.

Accurate and up-to-date budgets help organizations plan responsibly, monitor their financial position, communicate with boards and funders, and make informed decisions as circumstances change. How detailed the budget needs to be will depend on the size and complexity of the organization, its programs, funding sources, reporting requirements, and financial systems.

At a minimum, an annual budget generally includes:

• Projected expenses. Estimate what the organization expects to spend during the coming fiscal year, organized into meaningful categories such as personnel, program costs, facilities, technology, transportation, insurance, accessibility, professional services, and administration.

A fiscal year is the 12-month period an organization uses for budgeting and financial reporting. It may or may not match the calendar year. Choose and maintain the fiscal year appropriate to your organization's legal, accounting, governance, and funding requirements. Prepare and approve the annual budget before the new fiscal year begins whenever possible.

• Projected revenue and other support. Estimate the resources you reasonably expect to receive during the coming fiscal year, broken down by source. Depending on the organization, these may include grants, contracts, individual contributions, foundation support, public funding, membership dues, earned revenue, investment income, sponsorships, and in-kind resources.
• Restrictions and relationships between revenue and expenses. Some funding can be used only for specific programs, positions, populations, activities, or cost categories. Build these restrictions into the budget and financial system so the organization can understand which resources are available for which purposes.
• Cash-flow considerations. A balanced annual budget does not necessarily mean cash will be available when bills are due. Consider the timing of grant payments, reimbursements, fundraising revenue, payroll, contracts, and other major receipts and expenses.
• Updates based on actual results. A budget begins with assumptions. Throughout the year, compare the budget with actual revenue and expenses, investigate significant differences, update forecasts where appropriate, and communicate meaningful changes to organizational leadership and the board.

Why should you prepare an annual budget?

• It connects financial decisions with organizational goals. Developing the budget requires the organization to identify what work it intends to prioritize and what resources are required to carry it out.
• It provides a realistic picture of available resources and gaps. A budget helps show what the organization can responsibly support, what requires additional resources, and where tradeoffs may be necessary.
• It supports proactive financial planning. Identifying gaps before the year begins creates more time to pursue additional funding, revise plans, build partnerships, or adjust expenses thoughtfully.
• It provides information required by boards, funders, partners, lenders, and regulators. Budget information may be required in grant applications, contracts, financial reports, governance processes, and other organizational documents.
• It creates a basis for discussing financial priorities and tradeoffs. Staff, board members, and others involved in governance can use the budget to understand how resources support the organization's mission.
• It helps reduce financial surprises and strengthen financial oversight.
• It supports accountability. Comparing actual results with the approved budget helps leaders understand where assumptions were accurate, where conditions changed, and where corrective action may be needed.

Some practical considerations

Budget development and financial management require knowledge and time, and responsibility should not automatically fall to one person. Depending on the organization, the process may involve an executive director, finance staff, program leaders, bookkeeper, accountant, treasurer, chief financial officer, board finance committee, or other people with appropriate knowledge.

Smaller organizations that do not have financial staff may seek support from nonprofit associations, community foundations, accountants, pro bono professional networks, universities, fiscal sponsors, or shared-service arrangements with other organizations. Whatever approach is used, organizational leaders and the board should still understand the budget well enough to carry out their oversight responsibilities.

Obtain professional accounting, tax, legal, or audit guidance when necessary. Requirements vary according to the organization's legal status, location, funding, contracts, size, and other circumstances.

Planning and gathering information to create a budget

The preliminaries: What resources will you need next fiscal year?

Budgeting should begin with organizational priorities rather than simply copying last year's numbers. Consider the work the organization intends to carry out, what it has learned, what conditions have changed, and what resources are needed to fulfill its mission responsibly.

Consider questions such as:

• Which programs, activities, and organizational functions are most important to advancing the mission and responding to community priorities?
• What staffing capacity is required to carry out that work effectively and sustainably?
• What compensation, employee benefits, contractor costs, training, and other workforce investments are required?
• What facilities, supplies, technology, communications, insurance, transportation, accessibility supports, security, professional services, and other resources are required?
• What costs are likely to increase because of inflation, compensation adjustments, insurance changes, contracts, program growth, or other known factors?
• What investments would help reduce risk or strengthen long-term organizational capacity?

Estimating expenses: What will it cost?

Step 1: Develop realistic forecasting assumptions

Begin with reliable information such as current contracts, payroll records, vendor quotes, historical spending, known rate changes, program plans, and other available evidence.

Where exact amounts are not known, develop reasonable estimates and document the assumptions behind them. Consider several scenarios when costs are particularly uncertain rather than relying on one arbitrary number.

Prudent forecasting means using evidence, documented assumptions, and reasonable caution when projecting both expenses and revenue. Avoid overstating likely revenue or understating known costs simply to make the budget appear balanced.

A reasonable contingency may be appropriate for uncertain or unexpected costs, but avoid using a large "miscellaneous" category that makes it difficult to understand what the organization actually expects to spend.

Step 2: Estimate the organization's core operating expenses

These may include:

• Salaries and wages
• Payroll taxes, employee benefits, leave, insurance, retirement contributions, and other employment costs
• Rent, mortgage, coworking, or other facility costs
• Utilities
• Communications services
• Internet, software, cloud services, cybersecurity, website hosting, and other technology costs
• Insurance
• Accounting, payroll, legal, human resources, data security, and other administrative services

Step 3: Estimate the costs of carrying out programs and activities

• Program and office supplies, educational materials, software, subscriptions, and other consumable resources
• Equipment and technology, including purchase or lease costs, maintenance, repairs, replacement, licensing, and service agreements
• Participant compensation or stipends, childcare or dependent-care support, interpretation, translation, transportation, and other resources needed for equitable participation
• Evaluation, communications, outreach, training, and professional-development expenses

Funders may classify expenses differently and may limit certain administrative or indirect costs. Use each funder's current definitions and rules rather than assuming that the same percentage or classification applies to every grant.

Step 4: Include other financial obligations and necessary costs

• Debt payments and other financial obligations
• Consulting, accounting, bookkeeping, legal, evaluation, audit or financial-review services, and contracted services from other organizations
• Printing, design, and production costs
• Transportation and travel for staff, participants, and volunteers, including appropriate vehicle costs
• Mailing, shipping, and delivery

Financial reviews and audits: Do not assume that every nonprofit is required by the IRS to obtain an annual independent audit. Audit, review, compilation, and other financial-reporting requirements may depend on state law, federal-award expenditures, funder or lender requirements, contracts, governing documents, or board policy. Determine which requirements apply to your organization and budget accordingly.

Step 5: Identify additional priorities and strategic investments

After identifying core costs, list investments that are desirable but may depend on additional resources. These could include new positions, expanded programs, compensation improvements, new technology, accessibility improvements, professional development, equipment replacement, facility improvements, or reserve contributions.

Step 6: Add the projected expenses

The result is the amount you estimate the organization would spend during the coming fiscal year under the assumptions in your plan.

Estimating revenue and other support

Use historical information when it is relevant, but do not assume that last year's revenue will automatically continue. Review current grant periods, contracts, donor trends, fundraising performance, membership, earned revenue, and other known conditions.

Step 1: List committed or reasonably predictable funding

This may include grants and contracts already awarded, recurring government support, foundation grants, recurring contributions, or other resources with a strong basis for inclusion in the forecast.

Distinguish between funds that are committed, reasonably expected, and aspirational or still being pursued. This helps leaders understand the level of uncertainty in the budget.

Step 2: Estimate fundraising revenue

Fundraising may include individual giving, major gifts, events, peer-to-peer campaigns, direct mail, online fundraising, sponsorships, workplace giving, planned giving, or other approaches. Base projections on realistic participation, historical results, fundraising costs, and current strategy.

Step 3: Estimate earned revenue

Include fees for services, consulting, training, publications, merchandise, facility use, or other mission-aligned earned-income activities when applicable. Consider affordability and whether fees could create barriers to access.

Step 4: Estimate membership revenue

If your organization charges membership dues or fees, estimate revenue using realistic assumptions about membership levels and collection rates.

Step 5: Estimate sales or other earned-income activities

Include projected revenue from products or other business activities where appropriate, along with the expenses required to generate that revenue.

Step 6: Estimate rental or shared-space revenue

If the organization rents or sublets space, include reasonable estimates based on current agreements or realistic occupancy assumptions.

Step 7: Estimate investment and interest income

Include interest, investment income, or endowment distributions using assumptions consistent with the organization's investment and spending policies. Avoid treating uncertain market gains as guaranteed operating revenue.

Step 8: Add other expected sources

Include other revenue or support that is reasonably expected and clearly identify significant restrictions.

Step 9: Add all projected revenue and support

Compare this total with projected expenses, but also consider timing, restrictions, and uncertainty. Two budgets with the same total revenue may have very different levels of financial risk.

Putting it all together: Creating and working with a budget document

Analyzing and adjusting the budget

Step 1: Organize the information in a useful format

Most organizations use accounting software, spreadsheets, or other financial-management systems that allow expenses and revenue to be organized by program, funding source, department, grant, restriction, and other dimensions.

A useful budget should make it possible to see not only total revenue and expenses, but also which resources are restricted and whether sufficient flexible funding exists to support shared organizational costs.

Expense Category	Public Grant	Foundation Support	Unrestricted Contributions	Service Revenue	Total
Personnel	90,000	30,000	20,000	10,000	150,000
Employee benefits and payroll costs	22,000	8,000	5,000	3,000	38,000
Program supplies and participant support	18,000	10,000	4,000	2,000	34,000
Technology and communications	5,000	3,000	6,000	1,000	15,000
Facilities and utilities	12,000	6,000	14,000	3,000	35,000
Insurance and professional services	4,000	2,000	7,000	0	13,000
Total	151,000	59,000	56,000	19,000	285,000

A format like this can help an organization see whether restricted funding is assigned to allowable expenses and whether sufficient unrestricted resources are available for shared costs that program-specific grants may not fully cover.

Step 2: Compare projected expenses with projected revenue and support

• If planned revenue and support approximately equal planned expenses, the organization has a balanced operating budget.
• If planned revenue exceeds planned expenses, the organization has a budgeted operating surplus. Depending on restrictions and cash flow, this may support operating reserves, strategic investments, debt reduction, future programs, compensation improvements, or other board-approved purposes.
• If planned expenses exceed planned revenue, the organization has a budgeted deficit. Determine whether the deficit is intentional and supported by available reserves or whether additional revenue, spending changes, or other action is required.

A nonprofit does not necessarily need to budget to exactly zero every year. Building reasonable operating reserves and occasionally budgeting for strategic use of reserves can both be appropriate when supported by clear policies and organizational circumstances.

Step 3: Make sure resources can actually be used as planned

Review restrictions, grant periods, allowable costs, indirect-cost rules, cash timing, match requirements, and other conditions attached to funding.

If there is a mismatch:

• Ask the funder whether a budget modification or reallocation is permitted when appropriate
• Allocate legitimate shared costs across programs using a consistent and supportable methodology
• Reconsider timing, scope, or priorities if resources do not support the planned work
• Seek flexible or unrestricted funding where restricted grants leave essential organizational costs unsupported

The organization's mission, values, community commitments, and strategic priorities should guide funding decisions. Avoid creating or reshaping programs simply because money is available when doing so would pull the organization away from its purpose.

Step 4: Plan responsibly for a budgeted surplus

A projected surplus is not necessarily immediately available cash. Consider when revenue will actually be received, whether any funds are restricted, and what obligations remain outstanding.

Possible uses of unrestricted surplus may include:

• Building or replenishing operating reserves under a board-approved reserve policy
• Improving compensation, benefits, workplace conditions, staffing capacity, or professional development when the organization can reasonably sustain those commitments
• Replacing deferred equipment or technology
• Investing in a new or expanded program after considering its long-term resource requirements
• Making appropriate capital investments
• Supporting partnerships or shared infrastructure with other organizations
• Reducing debt or other financial risk

Investment of organizational funds should follow applicable law, board-approved financial and investment policies, liquidity needs, risk tolerance, donor restrictions, and appropriate professional guidance.

Step 5: Respond thoughtfully to a projected deficit

A deficit deserves attention, but the goal should not simply be to cut until the numbers balance. Understand why the deficit exists, whether it is temporary or structural, how much unrestricted cash or reserves are available, and what effect different choices would have on staff, participants, programs, and the organization's long-term health.

Possible responses include:

• Using board-designated reserves when that use is consistent with the organization's reserve policy and long-term financial position
• Pursuing additional grants, contributions, contracts, earned revenue, or other realistic sources of support
• Sharing services, facilities, purchasing, personnel, or other infrastructure with partner organizations where doing so improves efficiency without reducing quality or accountability
• Reducing or redesigning lower-priority expenses
• Delaying or scaling back activities that are not essential or that can be postponed responsibly
• Revisiting contracts, purchasing practices, insurance, technology, facilities, and other recurring expenses
• Adjusting program scope or timing when the organization cannot responsibly support the original plan

A thoughtful approach to budget reductions

Begin with mission, legal obligations, contractual requirements, safety, accessibility, and the effects on people. Review discretionary or lower-priority spending before making changes that substantially affect staff compensation, benefits, employment, or essential services.

• Identify expenses that can be reduced, delayed, renegotiated, or redesigned without undermining essential work.
• Consider the consequences of reductions for program quality, equity, accessibility, staff workload, and community commitments.
• If workforce changes become necessary, follow applicable employment law, contracts, personnel policies, funder requirements, and organizational values. Communicate clearly and avoid assuming that reductions in hours, benefits, or positions are cost-free solutions; they can affect retention, workload, morale, and service quality.

Borrowing may be another option in some circumstances, but debt creates future obligations. Consider repayment capacity, interest and fees, cash-flow effects, restrictions, board authorization, and professional financial advice before borrowing.

Creating an actual budget document

The budget should be understandable to the people responsible for reviewing, approving, monitoring, and implementing it. Different audiences may need different levels of detail.

A high-level board budget might show projected expenses by major category and projected revenue by source, while staff and finance committees may use more detailed program, department, grant, and account-level reports.

Projected Expenses	Amount
Personnel	$150,000
Benefits and payroll costs	$38,000
Program supplies and participant support	$34,000
Technology and communications	$15,000
Facilities and utilities	$35,000
Insurance and professional services	$13,000
Total Projected Expenses	$285,000
Projected Revenue and Support	Amount
Public grants and contracts	$151,000
Foundation support	$59,000
Unrestricted contributions and memberships	$56,000
Earned revenue	$19,000
Total Projected Revenue and Support	$285,000

A budget narrative can provide additional explanation for assumptions, staffing, major costs, restricted funding, and other items that may not be obvious from the numbers alone.

Working with your budget

The approved budget should be monitored throughout the fiscal year. Many organizations review financial results monthly, although the appropriate schedule depends on the organization's size, complexity, cash position, and governance practices.

Compare actual revenue and expenses with the budget and calculate meaningful variances. Investigate significant differences and update the forecast when new information becomes available.

Budget monitoring should be considered alongside cash-flow reports, balance-sheet information, grant restrictions, fundraising progress, reserves, outstanding obligations, and other indicators of financial health.

Your budget and related financial reports should help you:

• Identify funding gaps, financial risks, and areas where assumptions have changed
• Decide what actions may be needed in response
• Track resources responsibly, comply with restrictions, and avoid unplanned overspending
• Understand whether staffing and program commitments remain financially sustainable
• Provide clear information to the board, funders, staff, and other appropriate stakeholders

In Summary

An annual budget translates an organization's priorities and plans into a financial framework for the coming fiscal year. A strong budgeting process estimates expenses and revenue realistically, identifies restrictions and uncertainty, considers cash flow, and gives organizational leaders and the board information they can use to make informed decisions.

The budget should not be treated as a document that is prepared once and then ignored. Compare budgeted amounts with actual results regularly, understand significant differences, update forecasts as circumstances change, and connect financial decisions with the organization's mission, community commitments, workforce, and long-term sustainability.

Financially healthy organizations also look beyond whether the annual budget mathematically balances. Consider liquidity, reserves, funding concentration, restricted versus unrestricted resources, long-term commitments, program quality, fair compensation, organizational risk, and whether available resources are sufficient to carry out the work responsibly.

Glossary

Accounting: A system for recording, classifying, summarizing, reporting, and interpreting an organization's financial transactions and position.

Audit: An independent examination of financial information performed under applicable professional standards. Different types of audits and financial reviews exist, and whether one is required depends on applicable laws, funding, contracts, organizational circumstances, and other requirements.

Balanced Budget: A budget in which projected revenue and other support approximately equal projected expenses. An organization may also intentionally budget for a surplus or for a planned use of unrestricted reserves when appropriate.

Budget Deficit: A situation in which projected expenses exceed projected revenue and other support.

Budget Surplus: A situation in which projected revenue and other support exceed projected expenses.

Budget-to-Actual Variance: The difference between the amount budgeted for a category and the amount actually received or spent during the same period.

Cash Flow: The timing and movement of cash into and out of an organization. An organization can have a balanced annual budget and still experience a cash shortage if revenue arrives after expenses must be paid.

Prudent Forecasting: Developing realistic financial projections using available evidence, documented assumptions, uncertainty ranges, and appropriate contingency or scenario planning.

CPA: Certified Public Accountant, a licensed accounting professional who may provide audit, tax, accounting, advisory, or other financial services depending on the engagement and applicable requirements.

Fiscal Year: The 12-month period an organization uses for budgeting, accounting, reporting, and closing its books.

Fund Accounting: Accounting practices used to track resources according to restrictions, grants, contracts, programs, or other requirements so an organization can demonstrate that funds are used appropriately.

Line Item: A defined revenue or expense category within a budget.

Line-Item Budget: A budget organized by specific revenue and expense categories. Funders may also approve budgets that limit how much funding can be used within particular categories.

Operating Reserve: Unrestricted funds set aside to help an organization manage unexpected expenses, revenue delays, emergencies, or other financial needs in accordance with an established reserve policy.

Projected Expenses: The costs an organization reasonably expects to incur during the budget period.

Projected Revenue and Support: The grants, contracts, contributions, earned revenue, membership income, investment income, and other resources an organization reasonably expects to receive during the budget period.

Restricted Funds: Resources whose use is limited by a donor, grant, contract, law, or other applicable requirement.

Spreadsheet: A tabular tool used to organize, calculate, and analyze financial information. Modern budget spreadsheets may track revenue and expenses by funding source, program, department, restriction, period, and other dimensions and may be used alongside accounting or financial-management software.