Reserves

Basic Notes

The issue of Reserves held by organisations is an area which must be considered as part of their own financial management. Organisations, should have some money held in Reserve, but can be criticised for accumulating too much - should they not be spending it on achieving their objectives? High Reserves may also affect the fundraising of the organisation as potential donors or funders may say - "why don't you use up some of your Reserves instead?" Obviously, the consequences of not having adequate Reserves are usually more acute!

Types of Reserves and why you need them

General or Uncommitted Reserves
Trustees or Directors of organisations have a duty to act `prudently' when managing their finances. In the event of any financial crisis - cuts in funding, unexpected demands, etc., the organisation will have to honour its commitments. In simple terms the organisation needs to have money set aside for a rainy day. It may be that this is to avoid problems of Cash Flow or to have sufficient funds to close down the organisation, eg., redundancy payments, etc.

Restricted Reserves
Organisations often receive money for specific purposes. In this case, a `restriction' is imposed by the donor and the organisation is obliged to spend the money on the purposes for which it was given. There are various ways this can be treated in the accounts, but it is important to inform the reader of the accounts of this restriction. For example, if you are given £10,000. to buy a vehicle but you have not spent it by the year-end this should appear as `Reserves' but the restriction should be made clear.

Designated Reserves
Occasionally, the organisation may decide to set aside some of its own resources for a specific purpose. Typical examples would be a building fund or a fund to redecorate and refurbish every few years. It is important to ensure that these funds are not `taken from' Restricted Funds but are generated from the group's own Income or General Reserves. If, in addition, particular fundraising is be carried out to build up these funds then these funds become Restricted as the donor has given money on the understanding that it is for a specific purpose. It is important that such funds are not simply created to manipulate the figures and reduce the `General Reserve'. The need for a Designated Fund should be clear to see and decisions recorded in Minutes of the Management's Meetings.

What level should be maintained - A Reserves Policy?
There is no figure set down which organisations must follow. The only guide is the general demand for prudence mentioned above. However, a widely accepted figure is that the General or Uncommitted Reserves should be maintained at a level approximately 25% of average annual expenditure of the group. Some would say that this is the minimum, and that to have less is too risky. Each organisation should consider its own situation - how secure is future income? What is the value of our obligations under any contracts?
Each organisation's Management should consciously set its desired level and record the agreed Policy. This should be reviewed each year - 'do we need more or less?' An essential part of a Company Secretary's role will be to keep an eye on the reserves position and guide the rest of the Management on any actions required.

The link to the Budget
Once the Management has agreed a target for its level of General Reserves, the annual budget can be used to move towards the target over a number of years. For example, a new Management may decide that within 5 years it wishes to have accumulated a General Reserve of £10,000. In its first year, it should plan for an underspend (or 'surplus') of about £2,000. This should be repeated until the £10,000 is reached, after which, a balanced budget should be set.
Of course, it is sometimes difficult, if not impossible, to persuade Funders of this need. Organisations may need to look to other sources of income generation so as to have the freedom to build up Reserves.
It may be decided that a deficit budget can be set as the 'loss' during the year can be covered by the Reserves. The organisation may decide to let the level of Reserves fall below the target because it has a higher priority. Obviously, this is only a short-term possibility.

Conclusions
This is a difficult area for organisations and there are many different opinions on what is acceptable and how they should be treated in Accounts. Unfortunately, although it is primarily a matter of common sense, it is an area which is usually neglected. The key questions for the Management are whether they are satisfied with the level of Reserves and whether they can explain them satisfactorily to anyone who raises questions, both from inside and outside the organisation.

To summarise:
* Think about Reserves
* Clearly identify different types in your accounts - Restricted, General and Designated
* Set a target and review this every year
* When setting the annual budget, bear in mind the Reserves position and Policy
* Throughout the year, regularly review the reserves position (eg every 3 months)
* Be open about the whole issue, particularly with Members and Funders