Charity Navigators reallocates joint costs on a selective basis

I visited with the staff of Charity Navigator and learned they are reallocating joint costs from program to fundraising on a selective basis, not across the board.

There website suggests they reallocate all joint costs that go into the program category. See their page How Do We Rate Charities’ Financial Health? which says:

Joint Cost Allocation Adjustment

Generally Accepted Accounting Principles (GAAP) allow for organizations that follow SOP 98-2 or ASC 958-720-45 to report their specific joint costs from combined educational campaigns and fundraising solicitations and the IRS requires organizations to disclose this on the Form 990. In most cases, charities utilizing this technique allocate a small percentage of their solicitation costs to program expenses from fundraising expenses. However, we believe that donors are not generally aware of this accounting technique and that they would not embrace it if they knew a charity was employing it, nor does Charity Navigator. Therefore, as an advisor and advocate for donors, with rare exception, when we see charities using this technique we factor out the joint costs allocated to program expenses and add them to fundraising.

Blog post from WV staff asks are joint costs valid?

Writing at the NFP Audit and Accounting blog, ejwcpa takes exception to Charity Navigator’s position – are join costs valid?

NFP Audit and Accounting is the unofficial website of a number of accountants who work at World Vision. There are nine identified contributors. Consistent with appropriate etiquette on the ‘net, their organizational affiliation is identified. Comments there are obviously the personal opinion of the authors, not their employer.

Although the identity of ejwcpa is not provided, the semi-obscured photograph suggests the author is a man. Thus I will refer to Mr. Ejwcpa. 

Mr. Ejwcpa disagrees with the characterization that allocating joint costs is an option. He disagrees that it is just one “technique” that is available to NPO’s.

I agree with him. Allocating joint costs, if the specific conditions are met, is not option. It is required.

An analogy would be capitalization of leases or categorizing a portion of notes payable as current. If a lease meets the criteria listed in the professional literature, it is capitalized. The only exception would be if it is immaterial, and on a practical basis it would have to be in the range of trivial. The portion of notes payable due in the next year are classified as current. That’s not an option.

Likewise with joint cost allocation – if the criteria are met, the costs must be allocated. Significant judgment is required to determine whether the three criteria are met, and there is plenty of room for rollicking fun arguments between the auditor and the NPO about the criteria.  However, the accounting is clear once the decision is made whether the criteria are met or not.

Mr. Ejwcpa is right on another issue as well. Whether users of the financial statements like or dislike an accounting rule is irrelevant. If the accounting rules apply and if they require a certain treatment and if the amount is material, then compliance is required.

Personally, I would love to have a plebiscite on recording unconditional promises to give. How about a vote on hedge accounting, or for that matter all the rules for derivatives? How ‘bout a vote on the never-ending disclosures for endowments and retirement plans? 

Finally Mister Chairman, I call the question to eliminate the requirement to consolidate variable interest entities. Is there anyone in favor?

As fun as that would be, popular voting is not the way accounting rules work.

I agree with the implication raised by Mr. Ejwcpa that dismissing joint cost allocation as a concept isn’t appropriate.

Perhaps Charity Navigator ought not refer to what they think donor’s opinions of accounting rules ought to be. If reallocating joint costs is Charity Navigator’s considered opinion, then say so. That would be sufficient justification. (See conclusion of my post.)

Info in Chronicle of Philanthropy article

The Chronicle of Philanthropy article by Suzanne Perry, Watchdog Cracks Down on Misleading Statements on Fundraising Costs (behind paywall), discusses the changes by Charity Navigator.

For one charity under discussion, 76.4% of their expenses go to a fundraising consultant. Of the amount paid the outside fundraiser, the amount allocated to program expenses and fundraising is 50.8% and 25.5% of total expenses, respectively. That means about two-thirds of the amounts paid to the one specific fundraiser are considered to be program services.

Since total reported program expenses are 70.0% of total expenses, if that 50.8% paid to the fundraiser was reallocated, then program services would drop from 70.0% to 19.2% of total expenses.

Let’s put that in perspective.

Keep in mind the call to action criterion – that the joint cost event must have a call to action beyond making a donation. The allocation in use means that two-thirds of the fundraiser’s time on the phone is on education, which must contain a call to action. 

Let me do a very rough auditor’s smell test – Has anyone ever received a telemarketing call from a charity that had over 50% of the seconds in the call spent asking you to take action on a cause?

Anyone? Didn’t think so.

Back to the article.

The Chronicle article says this charity had been rated at three stars. When I checked today, they have zero stars.

The Chronicle article also says this specific organization has amended their tax returns for three years under pressure from the California attorney general.

Charity Navigator is looking at all their reviews to reassess the joint cost allocations. The results thus far?

Mr. Berger says the group expected the new system to affect just a small percentage of charities. Only about 6 percent of the 6,000 nonprofits it reviews allocate joint costs—and most do it sparingly, he says. The 50 charities that lost stars came from a pool of about 3,000 groups that the organization has re-evaluated so far.

The article says they have revised their approach and after conversations with some charities they have reversed some of their changes:

Now if a nonprofit is in danger of being demoted, Mr. Berger says, Charity Navigator examines its Web site to see if it reflects a “significant focus” on education, thus signaling to donors that joint costs may be appropriate.

Mr. Berger says his group has restored stars for 11 nonprofit organizations that were originally downgraded.

So what is the current Charity Navigator approach?

After reading Mr. Ejwcpa’s criticism of Charity Navigator’s position combined with the narrative on their website, I had a hard time reconciling that position to the Chronicle article. On the website there is a comment that all joint costs will be reallocated to fundraising. The Chronicle article suggests a much more subtle approach with openness to revising the changes on a case-by-case basis.

So which is it?

On February 19^th, I spoke with Ms. Sandra Miniutti, Vice President, Marketing and CFO. I identified myself as a blogger. We had a very pleasant conversation.

Here is my understanding of Charity Navigator’s approach.

As they update their reports (around 300 or 400 new 990s arrive each month), they consider what would happen to stars and ratings if all the allocated joint cost amounts were moved to fundraising. If there would be a change, the analyst looks at the rest of the 990 and the NPO’s web site to see if there is a substantial advocacy or education program otherwise visible. If that is the case, the ratings and stars would remain unchanged.

That means if there is not any visible advocacy or education program apparent on either the 990 or website, then the joint costs allocated to program would be moved to fundraising and changes made to the rating and number of stars.

I mentioned in our discussion the count of organizations in the Chronicle article that had been downgraded (50) but did not think to ask Ms. Miniutti the current count. She did indicate they are open to reversing their downgrades. She said the count of reversals is 11 stars and 4 ratings.

Final thoughts

Charity Navigators has a far more nuanced approach than currently described on their web page. They are not automatically reallocating all joint costs that go into program.

Keep in mind it is their opinion to back out allocated joint costs in certain circumstances. They are also open to changing their conclusion.

But also keep in mind their entire rating methodology is their opinion.

It is their opinion to include in the scoring methodology whether a charity complies with the voluntary governance issues on the 990, whether the audited financials are published on the website, and whether the list of board members is on the website. We can debate whether those are good things to include or whether they are irrelevant. Regardless of whether you or I think each of those is a good idea, they’ve made up their mind. It is their opinion those things count.

In fact, the only reason someone goes to Charity Navigator is to see their opinion and analysis of a charity.

Their considered assessment includes sometime reallocating joint costs.

(This is my first foray into original reporting. If you have any thoughts or comments, you may leave them below. Comments are moderated.)