4 Internal Red Flags That Threaten Your Nonprofit's Health

It’s easy to get distracted by the headlines. With shifting interest rates, federal funding cuts, and general cost-of-living concerns, nonprofit leaders often spend their days worrying about external economic pressures. These are valid concerns, but they aren't the only threats to your mission.

Sometimes, the most serious risks to financial stability come from inside the house.

While you can’t control the broader economy, you can control your internal governance and financial health. Ignoring the warning signs within your own organization can lead to instability just as quickly as a market downturn. Executives and board members need to stay alert to these four internal red flags that often signal deeper issues.

1. Unexplained Budget Variances

Once your board approves a budget, it shouldn't just sit in a drawer. It is a living document that requires active monitoring.

Variances—differences between what you planned to spend and what you actually spent—are bound to happen. However, your staff must be able to provide clear, reasonable explanations for them. Are funding changes to blame? Did macroeconomic factors shift costs? If the answers are vague or nonexistent, you have a problem.

Be especially wary if you see overspending in one program that is being funded by another. Other dangerous habits include dipping into operational reserves without a plan, engaging in unplanned borrowing, or drawing from the endowment to cover basic costs. These are often the first steps in a financially unsustainable cycle.

2. A Drop in Donor Confidence

Your donors are often the canary in the coal mine. If you notice that you are receiving fewer donations or smaller amounts than usual, investigate immediately.

Don’t just look at the numbers; listen to the chatter. If long-standing supporters express that they are losing confidence in the organization, ask them why. What are they seeing or hearing that concerns them?

Another subtle sign of trouble is the timing of fundraising efforts. If your development staff starts approaching major donors outside of the usual fundraising cycle, it often signals desperation. It suggests the nonprofit is scrambling for cash to meet immediate needs rather than following a strategic development plan.

3. Shoddy Financial Reporting

Financial statements are the pulse of your organization. If they are untimely, inconsistent, or not prepared using U.S. Generally Accepted Accounting Principles (GAAP), you are flying blind.

Poor financial reporting leads to poor decision-making. You cannot fix a budget hole you don't know exists. Furthermore, messy books undermine your reputation and make it significantly harder to secure loans or grant funding.

To protect your organization, insist on professionally prepared statements and annual audits. Your audit committee should be communicating directly with auditors, and every board member should have the opportunity to review the final report and ask questions.

4. Unchecked Executive Authority

Passion is essential for a nonprofit executive director, but absolute power is dangerous. Even the most experienced and knowledgeable leaders need oversight.

Your board has a fiduciary duty to step in if an executive ignores expense limits or violates rules of fiscal management. Be on the lookout for executives who attempt to make major strategic decisions or select new auditors without board input. A healthy nonprofit relies on a balance of power between leadership and the board to ensure accountability.

Spot the Signs Early

Nonprofits rarely collapse overnight. Financial trouble usually develops gradually, accompanied by early indicators that are easy to overlook or explain away in the moment.

By paying close attention to budget discipline, donor trends, financial reporting, and leadership accountability, you can identify risks early and take corrective action before a red flag becomes a crisis.

If any of these warning signs sound familiar, don’t wait to act. At SD Mayer & Associates, we can help you engage your board, strengthen your internal controls, and review your financial health. Let’s ensure your organization is built to last