What To Do With Excess Cash: Board Guidance to Nonprofit Liquidity

Your board has done the hard work of determining how much liquidity your organization needs. Now comes the real question: What should you do with the rest?

This question comes up regularly at board meetings. Once you’ve established operating reserves and short-term needs, many nonprofits find themselves sitting on excess cash. The temptation is to let it sit in a checking account. But that approach has a cost — an opportunity cost. In an environment where every dollar matters to your mission, idle cash is a missed opportunity.

The answer isn’t to avoid risk but to manage it. It’s to match your cash requirements to your time horizon, liquidity needs, and objectives through a thoughtful strategy that balances safety, access, and yield. Here’s how to think about it.

Start with cash segmentation

The most practical approach to managing nonprofit liquidity is cash segmentation. This means dividing your excess cash into buckets based on when you’ll need it and what you’ll use it for.

Operating reserves: Immediate access

Your operating reserves cover day-to-day operations such as payroll, rent, grants you’ve committed to. This is typically three to six months of expenses. These funds aim to be liquid and prioritize safety. Keep them in FDIC-insured accounts or high-quality money market funds. The goal here is preservation and accessibility, not yield.

Core reserves: Short-term flexibility

Core reserves support mission-critical programs and buffer against revenue gaps. You might need this money in six to 12 months. For this bucket, you can consider short-term investments that offer a modest yield premium: Treasury bills, CDs, or short-duration bond funds. You’re still prioritizing safety and liquidity, but you’re allowing for a bit more return potential.

Strategic reserves: Long-term growth

Strategic reserves are earmarked for projects beyond the 12-month horizon, including capital campaigns, new programs, strategic initiatives. A longer time frame may allow for the potential of higher returns, but it also comes with increased risk. Depending on your board’s risk tolerance, this bucket might include a diversified mix of bonds and a controlled allocation to equities. The idea is to let this money work harder over time while maintaining alignment with your organization’s mission and values.

The key to cash segmentation is discipline. Define your buckets clearly in your Investment Policy Statement (IPS), and stick to those definitions. When markets move or cash flow changes, rebalance as needed but don’t blur the lines between buckets.

Establish your Investment Policy Statement (IPS)

Your IPS is the roadmap for managing your organization’s investments. Every nonprofit with excess cash should have one. It defines your objectives, risk tolerance, and the rules for how you’ll invest across different time horizons.

Define liquidity tiers: Your IPS should spell out exactly how much cash belongs in each tier.

For example:

• Tier 1 (immediate liquidity): 2% to 5% of assets in cash or money market funds
• Tier 2 (short-term): 5% to 10% in short-duration bonds or T-bills
• Tier 3 (medium-term): 10% to 20% in investment-grade bonds and low-volatility securities
• Tier 4 (long-term): 15% to 30% in a diversified portfolio including equities

These percentages will vary by organization, but the principle remains: match the investment to the timeline.

Set investment guidelines: Your IPS should also specify what’s allowed in each tier. For fixed income, define acceptable credit ratings, concentration limits, and maximum maturities. If you’re considering equities, establish clear parameters around allocation and risk. The IPS should outline who’s responsible for rebalancing, how often you’ll review the policy, and what happens if allocations drift outside their target ranges.

Review regularly: Markets change. Your organization’s needs change. Your IPS should be reviewed at least annually, with a more comprehensive evaluation every seven to ten years. Liquidity provisions, especially, deserve frequent attention. If your revenue model shifts or major grants come online, your liquidity needs may shift too.

Optimize treasury management

Once you have a strategy, you need the tools to execute it. This is where treasury management comes in.

Use the right tools

Treasury management involves more than choosing investments. It’s about cash flow forecasting, banking relationships, and making sure funds are available when you need them. Automated tools can help. For example, sweep accounts move idle cash into interest-bearing accounts overnight, reducing the opportunity cost of keeping money in checking accounts.

Understand the denominator effect

In periods of rising interest rates, the value of liquid assets (stocks and bonds) can decline, making illiquid investments (like private equity) represent a larger share of your portfolio. This “denominator effect” can distort your asset allocation and create liquidity pressure. Strong treasury management helps you avoid having to sell assets at depressed prices to meet capital calls or operational needs.

Protect your board

Board members and investment committee members have a fiduciary duty to protect the organization’s assets. Implementing structured cash segmentation, maintaining a current IPS, and using effective treasury practices all demonstrate sound governance. These steps also support the board’s decision-making and reduce personal liability exposure. Directors and Officers (D&O) insurance provides an additional layer of protection, though it doesn’t eliminate the need for prudent investment decisions.

Key takeaways

Once you’ve determined your liquidity needs, the work isn’t done. Here’s what to remember:

• Cash segmentation divides funds into operating, core, and strategic reserves, each with its own time horizon and investment approach.
• A clear IPS establishes liquidity tiers, eligible investments, and oversight responsibilities — and should be reviewed regularly.
• Effective treasury management optimizes cash flow, reduces idle balances, and helps navigate challenges like the denominator effect.
• Fiduciary responsibility is enhanced when boards implement disciplined liquidity strategies that balance preservation with modest growth.
• Working with an experienced advisor helps ensure your liquidity strategy aligns with your mission and long-term goals.

Managing excess cash isn’t about chasing returns. It’s about making your resources work efficiently while maintaining the safety and access your organization requires. Boards that approach liquidity with a clear framework, defined tiers, and regular oversight can set their organizations up for long-term success.

From where to keep funds to how to make capital markets work for you, Mercer Advisors supports nonprofits in optimizing their liquidity strategies. To learn more, contact our Endowments & Foundations team.

FAQS

What is cash segmentation for nonprofits?

Cash segmentation divides your organization’s funds into distinct buckets — operating reserves, core reserves, and strategic reserves — each with a specific time horizon and investment approach. This strategy helps match your cash to your needs while maintaining appropriate levels of safety and liquidity.

Why do nonprofit boards need an Investment Policy Statement?

An IPS provides clear guidance for managing investments across different time horizons. It defines liquidity tiers, establishes investment guidelines, and outlines oversight responsibilities. This framework helps ensure consistency in decision-making even as board composition changes.

How does treasury management benefit nonprofit organizations?

Treasury management optimizes cash flow, reduces idle balances, and ensures funds are available when needed. By using tools like automated forecasting and sweep accounts, nonprofits can improve efficiency and avoid the opportunity cost of holding excess cash in non-interest-bearing accounts.