Nonprofit Insolvency 101: What to do if Your Nonprofit Owes More Than They Own

By Zachary S. Kester, Executive Director and Andrew Emhardt, Program Officer

This is part of our six part series. This series covers when to close a nonprofit, methods of dissolving, methods of reorganizing, insolvency, deepening insolvency, and receivership.

Sometimes a nonprofit organization must face a stark reality: insolvency. An insolvent organization is one that is not able to pay its debts as they come due, and it does not have enough assets or property to cover all debts owed. Unfortunately, the COVID-19 Pandemic has left many organizations without steady revenue streams, and the uncertainty of the economy has made it even more difficult to forge a path that avoids insolvency.

Unfortunately, the COVID-19 Pandemic has left many organizations without steady revenue streams, and the uncertainty of the economy has made it even more difficult to forge a path that avoids insolvency.

The nonprofit organization must first determine it if is truly insolvent. If it is clear that fundraising and development efforts will not put the nonprofit organization on a path to sustainable recovery, add up everything that the organization owns (the assets) and compare it to everything the organization owes (the liabilities). If there are more liabilities than assets, or your organization is insolvent.

The primary assets are almost always any buildings or land owned by the organization. If an organization does not have any buildings or land, the organization’s assets would be cash balance, computers, vehicles, or other equipment. It is incredibly important to note that any charitable funds, particularly endowment funds, should not be considered an “asset” for the purposes of this exercise. Even after an organization dissolves, all efforts must be made to honor the donor’s intent, and your State’s Attorney General will be involved in decisions relating to the transfer of charitable funds.

Add up everything that the organization owns (the assets) and compare it to everything the organization owes (the liabilities). If there are more liabilities than assets, or your organization is insolvent.

The primary liabilities are payroll taxes, outstanding contracts with vendors or services, or any loans executed for the organization.  There are two types of loans: secured and unsecured. Secured loans, like mortgages put that creditor at a “higher” priority than the other, meaning they will be paid first. Unsecured loans come next, along with all debts owed on any outstanding balances with vendors or in accounts payable. Sometimes it is difficult to assign a value to a piece of property, and items may have to be appraised prior to their sale, or auctioned before their true value is realized.

When a nonprofit organization is insolvent, the Board of Directors have a duty to the organization’s creditors (individuals/entities to whom they owe money). This means the board must take steps to ensure that they “preserve the assets” or otherwise maximize the amounts they could receive from the sale of the property when the organization winds up its affairs and dissolves. For further discussion on the topic of deepening insolvency and board liability, read the next blog post in this series.

Often, creditors are particularly upset or frustrated about the situation, and a qualified attorney can help lighten the load and guide you through the process of satisfying your organization’s debts in an orderly and efficient manner.

When an organization is insolvent, we strongly suggest that your organization speak with a qualified attorney to discuss your options moving forward. Often, creditors are particularly upset or frustrated about the situation, and a qualified attorney can help lighten the load and guide you through the process of satisfying your organization’s debts in an orderly and efficient manner.

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