How Much Should a Charity Actually Hold in Reserves?

Ask a trustee board how much they should hold in reserve and the conversation usually drifts toward a number: three months, six months, a year. It rarely starts with the harder question of what the money is actually for. That gap between having a figure and understanding its purpose is where many charities run into trouble.

As Charles Mesquita, Director of Charities at Quilter Cheviot, who advises charity trustees on reserves policy and investment strategy, explains, reserves ultimately exist to give organisations financial resilience. "We expect charities to live off nothing but deliver phenomenal things," he notes, and without adequate funds set aside, that expectation becomes unsustainable.

Why Reserves Exist Beyond a Rainy-Day Fund

Reserves serve three distinct functions, according to Mesquita: managing immediate cash flow, funding planned expenditure such as an IT project or new fundraising resource, and covering genuine emergencies. The last of these has an obvious recent example. When the government raised employer national insurance contributions, many organisations faced costs they had not budgeted for ^[1]. Charities warned the change would add roughly £1.4 billion a year to sector-wide payroll costs, hitting those employing significant numbers of staff hardest ^[2].

The Charity Commission's own guidance backs this framing: there is no single level or range of reserves that suits every charity, and any target should reflect the organisation's particular circumstances ^[3]. That principle sounds obvious, yet it is routinely ignored in favour of round-number rules of thumb.

Free Reserves: The Money With No Strings Attached

Free reserves are the simplest category to understand and, according to Mesquita, effectively enable a charity to spend money on anything that delivers its purpose, whether that is core costs or direct support for beneficiaries. There are no restrictions attached. As the saying inside the sector goes, the money is genuinely free.

This is the category most reserves policies are really describing when they quote a target figure. It excludes money tied up in fixed assets or committed to a specific purpose, leaving only what a charity could realistically draw on at short notice.

Restricted Funds and the Donor's Instructions

Restricted funds work differently. A donor gives money for a defined purpose, perhaps to fund a specific piece of medical research or a cohort of PhD students, and that money must be spent accordingly. Mesquita is direct about the constraint: a trustee cannot decide it would be nicer to spend it elsewhere. Any change requires going back to the original donor to agree an alteration.

This distinction matters because restricted funds sitting on a charity's balance sheet can create a misleading impression of financial strength. A large restricted fund does nothing to help with unplanned redundancy costs or a sudden drop in unrestricted income.

Designated Funds and the Discipline of Ring-Fencing

Designated funds sit in a middle position. They are, in substance, still free reserves, but trustees or the finance team have chosen to ring-fence a portion for a particular purpose, building maintenance or a future IT project, for example. The advantage over restricted funds is flexibility: because the designation is a trustee decision rather than a donor condition, it can be changed if circumstances shift.

That flexibility is precisely why designated funds require discipline. Ring-fencing money without a clear rationale, or leaving old designations unreviewed for years, can quietly distort what a board believes it has available.

Permanent and Expendable Endowments: Balancing Today and Tomorrow

Endowments introduce a longer time horizon. With an expendable endowment, a donor hands over a long-term gift but leaves it to trustees' discretion whether to spend the income, the capital, or both, and over what period. Some charities decide to spend down a multi-million-pound endowment over a decade; others hold it indefinitely.

A permanent endowment is stricter and more commonly found in older, pre-war charities. "You can't spend the capital, you can only spend the income," Mesquita says plainly. This is the only category of charity money that forces trustees to balance today's beneficiaries against future ones directly, since spending too freely from income now can erode what is available for those who come later. A total return approach can soften that rigidity in some circumstances, though the detail goes beyond what most boards need day to day.

Setting a Range, Not a Number

Historically, charities defaulted to round figures: three, six, nine or twelve months of running costs. Mesquita argues this is too blunt. "The best thing to do is to have a range you want as the minimum and the maximum within an organisation," he says. The more useful starting point is a charity's actual liabilities, staff costs, existing contracts and other commitments, from which a realistic minimum and maximum can be built.

Two examples illustrate why one figure cannot work across the sector. A grant-making charity funded almost entirely by investment income can operate comfortably with around six months of running costs in reserve, since its giving is entirely at its own discretion. A medical research charity dependent on fundraising faces far less predictable income and therefore needs a deeper buffer to absorb unexpected shortfalls.

Charity Commission research from the early 2000s found over £5 billion held in reserves by charities that had no reserves policy at all, a reminder that the absence of a stated rationale is itself a governance gap ^[4]. Mesquita's broader point is that strong reserves, properly explained, should be read as a sign of resilience rather than as money sitting idle. A funder wants the organisations it supports to still exist in five years, and financial strength is part of what makes that possible.

When Trustees Get the Fundraising Conversation Wrong

The most common mistake, in Mesquita's experience, is setting an unrealistic target: a figure with no genuine prospect of being reached, or one with no clear methodology behind it. The fix is the same range-based approach already outlined, tied to actual liabilities rather than sector convention.

A related pattern is fundraising teams pushing back on reserves, arguing that a healthy balance makes donors reluctant to give. Mesquita's advice to trustees is to turn the question around: ask the fundraising department what level of reserves it believes is appropriate. "I suspect the situation actually isn't the level of reserves," he says. "It's the way you go about explaining why you have the reserves and justifying them for the organisation." Investment strategy has a role here too: reserves earmarked for genuinely long-term purposes can be invested for growth rather than left static, provided the charity's investment policy and liquidity needs are properly aligned ^[5].

Reserves policy is often treated as an accounting exercise, a number to be justified once a year in the trustees' annual report. Mesquita's account suggests the opposite: it is closer to a governance judgement, revisited whenever the charity's income, liabilities or strategic plans shift, and built on a clear-eyed view of what each category of fund can and cannot do.