Nonprofit organizations pursue financial stability to sustain and grow their mission over the long term. To accomplish this goal, many nonprofits consider creating an endowment—a pool of funds invested to generate income in perpetuity. Beyond generating long-term income, it is important to recognize that an endowment is legally restricted for a specific purpose agreed upon by the donor and the organization.

Here are some key considerations before establishing an endowment:

  • Assess the overall financial health of the organization and confirm It has reliable and diverse sources of funding.
  • Consider the organization's long-term strategy, including if the organization is intended to exist in perpetuity. Ensure that a robust succession plan is in place and identify any significant funding needs in the future.
  • Ensure the organization has sufficient liquidity or dedicated cash reserves to cover at least 6 to 12 months of operating expenses because endowment funds are restricted for specific purposes. The corpus of the endowment is generally meant to exist in perpetuity, and an endowment should not be treated as a "rainy day" fund. A best practice is to use cash reserves—not the endowment—for emergency funding needs.

So, if your organization has a variety of funding sources, a solid plan for the future, and healthy cash reserves, creating an endowment might be a good next step. Below are some advantages and disadvantages to consider before moving forward.

Pros

Financial Stability

Assets in an endowment are invested with the goal to achieve a level of capital appreciation that aligns with the endowment's annual spending (plus the rate of inflation), as this will allow the endowment to preserve real wealth over time. Professional investment managers like Fidelity can work with you to design an endowment portfolio structure that aligns with your organization's investment policy and mission-specific spending goals.

Once the endowment is established, we suggest building a corpus that is two to three times the organization's annual operating budget to create a meaningful and sustainable revenue stream.

Legacy

An endowment is meant to generate sufficient returns to meet the organization's annual spending goals, net of inflation. It is often a great way for nonprofits to attract legacy gifts like bequests, benefits from life insurance policies, and other sources. Many donors like the idea of leaving a lasting legacy, and a gift to an endowment allows them to support an organization well beyond their lifetime.

Credibility

The existence of an endowment can signal that an organization is fiscally responsible and intentional about its future, which can boost donors' confidence and potentially attract more donations.

Cons

High funding requirement

While there technically is no minimum to create an endowment, endowment investment management is subject to fiduciary standards. Smaller endowments are often self-managed by nonprofit staff or investment committees. In these situations, organizations must ensure they are managing the endowments' assets in a way that fulfills the organization's fiduciary standards of care, which may be taxing to internal or volunteer resources.

Alternatively, endowments may look to outsource daily fiduciary responsibility to an asset management firm or community foundation. Notably, asset managers that oversee endowment funds have minimums for investable assets. Endowments held at community foundations or similar institutions may have a minimum of $25,000; many investment managers require a minimum of $1 million or more.

Restrictions

An endowment is typically governed by three key policies: an investment policy, a withdrawal or spending policy, and a usage policy. The investment policy articulates the types of investments, risk tolerance, and long-term objectives. The withdrawal policy stipulates the amount and timing of funds that can be taken from the endowment each year. And the usage policy dictates how the funds can be used. These policies safeguard the endowment for the future but limit the flexibility of the fund and how it can be utilized.

Perception

Some potential donors might be uncomfortable with the idea that large sums are tied up in endowments instead of being used right away. If your organization serves communities with significant, urgent needs, the tension between putting funds to use now and ensuring funding is available in the future might be even more pronounced.

Conclusion

An endowment can be a powerful tool for a nonprofit to ensure a level of financial and programmatic stability over the long term. However, nonprofits should be aware of the advantages, challenges, and requirements of creating and maintaining an endowment before committing to establishing one.

Learn more about Fidelity Institutional Solutions for Endowments and Foundations.

Please visit Fidelity’s Communities on Alternative Investments.

Jennifer Bahus is vice president of philanthropic consulting at Fidelity Investments®, where she provides philanthropic counsel and strategic planning support for a wide range of donors looking to create more meaningful impact. She manages a diverse portfolio of clients, from Fortune 500 companies and major private foundations to individual donors and nonprofit organizations. She has deep experience in structuring and managing granting initiatives and enjoys serving as a thought partner with clients, using sector best practices and data-driven insights to develop innovative and effective philanthropic solutions. Prior to joining Fidelity Philanthropic Consulting, Jen led marketing and program initiatives supporting ultra-high-net- worth donors at Fidelity Charitable.

Unless otherwise expressly disclosed to you in writing, the information provided in this material is for educational purposes only. Any viewpoints expressed by Fidelity are not intended to be used as a primary basis for your investment decisions and are based on facts and circumstances at the point in time they are made and are not particular to you. Accordingly, nothing in this material constitutes impartial investment advice or advice in a fiduciary capacity, as defined or under the Employee Retirement Income Security Act of 1974 or the Internal Revenue Code of 1986, both as amended. Fidelity and its representatives may have a conflict of interest in the products or services mentioned in this material because they have a financial interest in the products or services and may receive compensation, directly or indirectly, in connection with the management, distribution, and/or servicing of these products or services, including Fidelity funds, certain third-party funds and products, and certain investment services. Before making any investment decisions, you should take into account all of the particular facts and circumstances of your or your client’s individual situation and reach out to an investment professional, if applicable.

Views expressed are as of the date indicated, based on the information available at that time, and may change based on market and other conditions. Unless otherwise noted, the opinions provided are those of the author and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information.

Past performance is no guarantee of future results.

Investing involves risk, including risk of loss.

Diversification and asset allocation do not ensure a profit or guarantee against loss.

Registered investment products (including mutual funds and ETFs) and collective investment trusts managed by Fidelity Management Trust Company (FMTC) are offered by Fidelity Distributors Company LLC (FDC LLC), a registered broker-dealer.

Fidelity Institutional Asset Management (FIAM) investment management services and products are managed by the Fidelity Investments companies of FIAM LLC, a U.S. registered investment adviser, or Fidelity Institutional Asset Management Trust Company, a New Hampshire trust company. FIAM products and services may be presented by FDC LLC, a non-exclusive financial intermediary affiliated with FIAM and compensated for such services.

Fidelity Investments is an independent company, unaffiliated with Institutional Investor LLC. There is no form of legal partnership, agency affiliation, or similar relationship between your financial advisor and Fidelity Investments, nor is such a relationship created or implied by the information herein. Fidelity Investments is a registered service mark of FMR LLC. Fidelity Investments® provides investment products through Fidelity Distributors Company LLC; clearing, custody, or other brokerage services through National Financial Services LLC or Fidelity Brokerage Services LLC, Members NYSE, SIPC; and institutional advisory services through Fidelity Institutional Wealth Adviser LLC.

1235768.2.0