November 2, 2015

By Vincent Stevens, CPA, CGMA and Troy Rector, CPA

Imagine asking supporters of your nonprofit to donate to pay for all the administrative fees necessary to run the organization – items such as human resources, accounting and technology. Most funders – individual donors, foundations and government granters – like to fund the actual work, the direct costs a nonprofit spends to help those it serves. But for an organization to be healthy and do direct programming, it also has to pay for the back office infrastructure. All of these so-called “indirect costs” are necessary for the organization to fulfill its mission of helping those it serves. But it’s not easy to fundraise for these costs and nonprofits have historically been underfunded in this area.

The conundrum for nonprofits is how to get funders – in this case governmental funders – to pay those indirect costs. One way is to negotiate an indirect cost rate when seeking government grants. Here, nonprofits create a proposal that outlines their reasonable indirect costs. The rate is calculated as a percentage of the total direct cost or a subset of direct costs, depending on what the organization chooses as a direct cost base. For example, if an organization has a $1 million direct cost base and has indirect costs of $100,000, the indirect rate would be 10 percent. That means that for every dollar in the direct cost base there are 10 cents of indirect cost.

New rules

We have good news to report on this front. Nonprofits that seek federal government funding in the form of grants should have an easier time funding these indirect costs as a result of new rules released in December 2014, which require grantors of federal funds to pay their fair share of indirect costs in most cases. This is probably the biggest change for organizations that receive federal grants in 25 years!

In the past, some organizations have been underfunded in the area of indirect costs because they did not have a negotiated rate. Or, if they did have one in the past, grant makers didn’t always honor those rates, many times arbitrarily.

The key for nonprofits now is to understand these new rules, to know what percentage of their budget is considered indirect costs, and to file the appropriate paperwork to fully recover these costs.

How we help our clients

Here’s where we can help organizations determine their indirect and direct costs so they can create a proposal to submit to the federal government.

This is a worthwhile endeavor because there’s now a provision that says if an organization has a federally negotiated indirect cost rate, federal grant-making agencies are required to honor the full indirect cost rate negotiated by the organizations seeking funding. Some organizations in the past perhaps did not go through the process to determine their indirect costs for fear that granters would not pay. Now federal agencies are required to accept the federally negotiated rate unless one of two things happens: Either a law or statute exists that caps the indirect cost rate for that funding source or the federal agency head has capped the rate. While these circumstances do occur, they’re rare.

Also, in the past, pass-through agencies that gave federal money to nonprofits did not have to honor the federally negotiated indirect cost rate. For example, if a state or local government agency received federal money that then went to a nonprofit (called a pass-through award), it was not expected that the pass-through agency would honor the nonprofit’s federally negotiated indirect cost rate. The new federal guidelines require any organization that passes through federal money also pay the full negotiated indirect cost rate. This is good for many nonprofits that get federal awards from pass through organizations.

Finally, the government has set a new de minimis 10 percent indirect cost rate that organizations can elect to take. However, we’ve found that a typical nonprofit social service organization has an actual indirect cost rate of at least double that, which would be 20 percent or more. Therefore, if an organization was only recovering $100,000 using the de minimis rate, it could receive an additional $200,000 or more if it had a federally negotiated indirect cost rate, depending on what its actual indirect cost rate is.

Because of these new guidelines, we encourage nonprofits that never considered trying for a negotiated indirect cost rate to consider it now. We can help guide and educate you through the proposal preparation and rate negotiation process. It’s not an intuitive process. But we’ll help guide you through the process, educate you and give you an understanding of how the process works. We’ve developed proposal templates that help in the process. We guide organizations from the very beginning of the process to the point of submitting an indirect cost rate proposal. Through the process we will empower you with knowledge so you can own it and not be reliant on us in the future.

We have seen that when organizations do not have a federally negotiated rate, funders are reluctant to fund indirect costs. So having a federally negotiated rate will help you recover the maximum amount – allowing you to use more of your fundraising dollars to help those you support.


© Clark Nuber PS, 2015.  All Rights Reserved

This article contains general information only and should not be construed as accounting, business, financial, investment, legal, tax, or other professional advice or services. Before making any decision or taking any action, you should engage a qualified professional advisor.