Three accounting terms every charity and NFP leader should know

Over the next few months, the team and I are committing effort to explaining commonly used accounting terms that leaders in the charity and NFP sectors will encounter regularly. Our aim is to demystify these terms and unpack their relevance in a meaningful and helpful way. For charity and NFP leaders, board members and program managers, understanding financial terminology is an important part of quality governance.

In this article, we examine restricted funds, unrestricted funds and fund accounting. If you have any doubt or need additional clarification, don’t hesitate to contact one of our team members.

Let’s start with restricted funds. In simple terms, restricted funds are donations or grants that must be used for a specific purpose defined by the donor or funding body.

When a donor contributes money with clear instructions on how it should be spent, the organisation has a legal and ethical obligation to use the funds only for that intended purpose. This restriction may relate to a particular project, program, timeframe or outcome.

For example, a philanthropic foundation may provide a grant specifically to fund a youth education program. Those funds cannot then be redirected to cover office rent, salaries, or other unrelated expenses unless the grant agreement allows it.

Restricted funds play an important role in charity and non for profit finance and require careful tracking and reporting.

For many organisations, this means:

• Separating restricted funds from general operating funds
• Monitoring spending against the purpose of the grant or donation
• Reporting back to funders on how the money was used
• Ensuring compliance with funding agreements

Proper financial management is essential to ensure restricted funds are recorded accurately and used correctly. Without clear tracking, organisations risk unintentionally misallocating funds, which can damage donor trust and create compliance issues.

Unrestricted funds are the opposite of restricted funds. These are donations or income that can be used by the organisation, however it chooses to support its mission. Because unrestricted funds are not tied to a specific program or purpose, they provide charities with valuable financial flexibility.

Many everyday operational costs fall into this category, including:

• Staff salaries
• Office rent and utilities
• Technology and software
• Administrative costs
• Strategic development initiatives

These expenses are essential for running an organisation but are often difficult to fund through grants or restricted donations. While restricted grants are often larger and more visible, unrestricted funding is what keeps many charities operating day to day.

Having access to unrestricted funds allows organisations to:

• Cover operational expenses
• Respond quickly to emerging community needs
• Invest in organisational growth
• Build financial resilience

Without sufficient unrestricted income, even well-funded charities and NFPs can struggle to maintain stability. For this reason, many organisations prioritise fundraising campaigns that generate general donations, which can be allocated where they are most needed.

This idea was discussed in an article last June, “Paying what it takes”, and is worth a read if you missed it.

Fund accounting is an accounting approach used by charities and NFPs to track and manage funding sources separately. Instead of viewing the organisation’s finances as a single pool of money, fund accounting divides financial resources into distinct “funds,” each with its own purpose, restrictions or reporting requirements.

This system is particularly useful for organisations that receive multiple grants, donations or funding streams.

For example, a charity may have separate funds for:

• Government grants
• Community fundraising
• Specific programs or projects
• Operational support

Each fund is tracked independently, so the organisation can clearly see where money came from and how it was spent.

Fund accounting helps charities maintain transparency and accountability. It enables finance teams and leadership to accurately manage multiple funding sources while ensuring compliance with donor expectations.

In practice, this means:

• Recording income and expenses against specific funds
• Monitoring budgets for individual programs
• Producing accurate financial reports for stakeholders
• Demonstrating responsible stewardship of donor contributions

Many modern accounting platforms used by the sector, such as Xero, are designed to support fund accounting, making it easier to manage funding structures. If you are using Xero, you may already be using tracking categories, which help facilitate this process.

The team and I trust you find this information useful. In our next post, we will dedicate an article to cash flow, which is timely given the implementation of Payday super legislation, which comes into effect on July 1st, 2026.

Until then, we wish our clients, the charity and NFP sector, well for the month ahead.