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What Charities are Worth Your Donations? – Ignoring the Overhead Myth

What Charities Are Worth Your Donations? – Ignoring The Overhead Myth

Dean Karlan, professor of economics at Yale University, recently wrote an article about determining if a charity is wasting donated money on overhead expenses. In this article, he discusses the “overhead ratio,” which we have discussed in a previous article. Karlan discusses the annual tax returns nonprofit organizations must file each year, and how most people use these public documents as guidance on which nonprofits will use their donated dollars in the best possible way. “[The tax returns] are useful for weeding out potentially fraudulent charities, but nothing more” states Karlan.

Karlan analyzed tax returns of nonprofits that make more than $1 million, which add up to nearly 55,000 organizations. Of those organizations, only 2.5% of them have an overhead ratio of more than 50%. The other 97.5% spend more on actual work than on administrative costs. His research also concludes that only 1% of total contributions by the public were lost by giving to “bad” charities. He states that simply because an organization does not spend a high percentage on overhead does not mean that a charity is effectively using its resources.  What really matters, according to Karlan, is determining “how effective a particular program is in actually helping people.”

Deeper into the article, Karlan drives home the point of why overhead expenses are necessary and useful to a nonprofit’s effectiveness: “If overhead spending is cut too much, it may make a charity less effective if the capacity to recruit talent or make evidence-based decisions has been compromised.” When choosing charities and organizations to contribute to, Karlan’s advice is to set the bar for administrative costs at around 30% of a nonprofit’s overall budget and also look for evidence of the impact an organization’s programs have.

To read Dean Karlan’s original article from the LA Times, click here.

In a statement made last summer about the overhead ratio, GuideStar CEO Jacob Harold, along with CEOs of Charity Navigator and BBB Wise Giving Alliance released a co-signed letter stating that the “overhead ratio is the wrong measure to consider when determining if the nonprofit is effective or efficient.” Just last month, we featured Harold in an article about the “overhead myth.” Be sure to check it out here for more information on the subject.

Greg McRay, EA

Greg McRay is the founder and CEO of The Foundation Group. He is registered with the IRS as an Enrolled Agent and specializes in 501(c)(3) and other tax exemption issues.

This Post Has 4 Comments
  1. I agree 100%. I actually got rid of all my material possession’s when I decided to start my own charity. I got rid of everything so my personal expenses would be as low as possible. I just wouldn’t feel comfortable asking people for money if I had a big house, fancy car, and a nice office. None of those things help me with my objective – so I cut it all loose.

  2. I have personally formed two non profit orgs. and was a member of Rotary for 18 yrs. I have donated thousands of hours and over 100,000 dollars. I have seen more board meetings than is comfortable, and have seen waste and events that do not waste. In my personal opinion paid administrative people need to be paid fair to par what the regional income is, not more than that. Million dollar compensation packages are not my thing. I do not respect that, I do not donate to orgs. that have that. The Rotary International Pres. is not paid! it actually costs them!

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