The Trouble With Reserves

According to NCVO estimates (11 May 2016), reserves held by UK charities amount to some £49bn and equate to roughly 15 months of spending.

By any account, this is a huge amount of funds being held on term for, as the Charity Commission suggests, the next ‘rainy day’.

Scroll down to read more from reserves expert and PARN Head of Services, Robert Pitts.

Professional bodies that are constituted as charities at least are charged with developing a reserves policy that fully justifies the reasons for holding such funds and not applying them to their stated charitable objects.

The policy should record how funds will be used for the maintenance of key services for beneficiaries, reflect the risk of unplanned closure associated with the business model, and also reflect the risk to beneficiaries (predominantly their members).

Reserves must be comprised of unrestricted funds that are freely available. This then means that restricted and endowed funds cannot be included. That they need to be freely available would also usually mean that tangible fixed assets (land and buildings) should also be excluded.

We might not be correct in concluding that in the UK there are £49bn of free funds sufficient to keep the entire charitable sector afloat for the next 15 months – but it does raise two key questions.

Firstly, what will happen when interest rates climb? Will the value of reserves change dramatically? Will that £49bn generate further free funds?   Will this herald a new high watermark for reserves in the UK or will the buoyancy drive a confidence that allows a reduction in reserve levels? Maybe there will be no change and interest will simply  be skimmed off and used to support increased operations.

Secondly, what would happen if an enterprising insurer made a bid for a slice of these reserves? £49bn would surely be a tempting reward even for the most hard bitten of national corporations. What might this look like? A product that, in effect, would be something very close to insurance origins and perhaps be formed of a sort of collective reserve underwritten by the insurer. Could such an idea be made to work and would the market respond?  It would definitely give charities a chance to make their free funds available for their charitable objects, but they would of course need further funds to contribute to the scheme (the premium).  Of course, it is quite possible that charities would wish to remain masters of their own destiny, but there is much in that old adage that a problem shared is a problem halved – by my reckoning that has the potential to free up almost £25bn!

When we specifically look at professional bodies and their remit we can see that the reserves policy will play a double role:

It should serve to reassure members that their host association is here to stay and is not about to disappear into the ether any time soon.  In other words, professional bodies should reassure in terms of organisational resilience and sustainability in times of attrition.

Closely linked with this, it should also explain why funds are held (exactly for those reasons above) rather than being spent on member benefits).

Getting these two to balance is really a troublesome act- if reserves are too high, membership will rightly complain; if reserves are too low, membership will get ‘twitchy’.

But getting any sort of buy-in from your membership about the correct level of reserves is equally problematic and would signal a significant departure from the Board’s fiduciary duties.  However, setting reserve levels and thoughtful communication (explaining why) needs to take place – and this means more than just a two line entry in the annual accounts.

We will not attempt to set out here what correct levels of reserves are – indeed, it seems likely there are as many ways to formulate reserve levels as there are organisations engaged with the process and much will depend upon the liabilities and the activities undertaken by the professional body.

What PARN can do is help professional bodies establish what their levels might be through benchmarking against similar organisations. However, even this simple device will inevitably conceal a multitude of problems that will still need to be considered by the body.

To learn more about our research into professional body finances, order the 2017 Financial Benchmarking Report here or log in to the Members Area to download your free PDF