Why Not Overhead?
The overhead ratio is the amount of money a nonprofit spends on administrative and fundraising costs as a proportion of total spending. If a nonprofit has an overhead ratio of 15 percent, for example, it means that for every dollar donated, 85 cents go to running programs while 15 cents cover the nonprofit’s fixed costs.
Historically, donors and nonprofit raters have resorted to overhead to determine whether a charity is worthy of donation. We get the impulse — we all want our donations to matter, and we feel like they matter more if they're spent on programs rather than overhead.
Unfortunately, this intuition is wrong.
Overhead is often necessary for nonprofits to be able to provide services effectively, and avoiding charities with moderate overhead punishes charities without actually knowing how much good they do.
If overhead is excessive (our threshold, and that of the BBB Wise Giving Alliance, is 35 percent) and the nonprofit offers no justification, it could be a red flag for unsavory practices. But this is exceedingly rare and there is otherwise no reason overhead should play any part in our decisions about giving.
The sector has long recognized that overhead is flawed. In 2013, GuideStar, BBB Wise Giving Alliance and Charity Navigator published open letters to nonprofits and donors on the overhead myth, noting that it’s a bad indicator of overall nonprofit performance.
To understand how overhead can be misleading, consider the following situation.
There are two food banks that serve meals to beneficiaries who would otherwise go hungry. Let’s call them Food Star and Quick Foods. Food Star’s overhead ratio is 20 percent, while Quick Foods’ is 3 percent. Alex, a socially conscious donor with $100 to give, thinks: “I want my money going straight to running programs for those who need it, not covering some charity’s expenses. I’m giving to Quick Foods.”
What Alex can’t see by focusing exclusively on overhead is that, as a result of its overhead spending, Food Star is able to hire a whip-smart staff and manage a large supply chain, while Quick Foods is just a few people doing their best to buy meals with donations. This means Food Star can take the $80 of Alex’s donation that didn’t cover overhead and turn it into 200 meals. Quick Foods, on the other hand, takes the $97 from Alex’s donation that didn’t cover overhead and is only able to convert it into 100 meals.
Ignoring overhead, Alex can just focus on impact — what does the charity actually do with the money it gets. Now, the options are:
Donate $100 to Food Star and provide 200 meals to those in need
Donate $100 to Quick Foods and provide 100 meals to those in need
And so, Alex happily gives $100 to Food Star.
Focusing on overhead rather than impact would have pushed money away from the more impactful nonprofit, ultimately leading to fewer people fed per dollar of cost. That’s why, with the exception of excessive overhead, we don’t think it’s helpful to judge a nonprofit’s spending in this way. Instead, we focus on what matters: smart use of resources to make a difference in the lives of others.