Who This Page Is For
You are a finance lead, program manager or director, and a grant or gift has just arrived. Before anyone spends it, you have to decide whether it is restricted, unrestricted or set aside by the board. The answer matters because restricted money is tied to the purpose the donor defined. Under charity guidance, you are duty bound to spend it on that purpose, and you should not even borrow it for another project.
The Short Answer
Money is restricted when a donor or grantor has put a binding limit on how, when or where it can be used. It is unrestricted when no such limit exists, and the governing board can spend it on any of the organization's purposes. When the board sets money aside for a future project, that is a designation. It stays unrestricted, and the board can formally undo it.
In practice, restricted money goes only to its purpose. Unrestricted money is what pays for shortfalls, overhead and everything else the restricted grants will not touch.
Restricted funds come from things like beneficiary gifts, emergency appeals, legacies and grants given for a particular project. Charity accounting guidance says restricted income must be spent within a reasonable or specified period from receipt.
Under the US standard, three net asset classes were replaced with two: temporarily and permanently restricted are combined into net assets with donor restrictions, and unrestricted is renamed net assets without donor restrictions. It took effect for organizations with calendar-year 2018 and fiscal-year 2019 year ends. The same standard requires you to disclose how you manage liquid resources and to show the financial assets available to meet general cash needs within one year of the balance sheet date.
How They Differ
| Restricted | Unrestricted | Board-designated | |
|---|---|---|---|
| Who sets the limit | The donor or grantor | No one | The governing board |
| What it can be spent on | Only the stated purpose | Any purpose of the organization | The earmarked purpose, by choice |
| Can the board change it | No. Only the donor can release it | Not applicable | Yes, by formally removing the designation |
| How it is classified (US standard) | Net assets with donor restrictions | Net assets without donor restrictions | A part of unrestricted funds |
| How long it lasts | Until the purpose is met or the period passes, then it is released | No release needed | Until the board changes or removes it |
| What it means for overhead | Often allows little or none, depending on the terms | Pays for general operations and gaps | Covers whatever the board earmarked it for |
One difference matters more than the rest: where the limit came from. Money the organization sets aside for itself is not legally restricted. A designation helps the board plan, but it creates no legal barrier, and the board can reverse it.
How to Decide
Work through these tests in order.
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Find out who imposed the limit. Look in the grant agreement, donor letter, funding application or the wording of an appeal. A limit set by the donor is a restriction. A limit set by your own board is a designation.
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Ask whether it binds or merely prefers. A binding stipulation is a legal restriction. A donor's non-binding preference falls short of that, and the money stays in unrestricted funds. The board can still designate it to honor what the donor hoped for.
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Separate a restriction from a condition. A restriction limits how you use money you already hold. A condition is a measurable barrier or performance obligation you must meet before the money counts as income.
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Read the terms, not the label. Core funding means money for running costs. It can be unrestricted if given as general support, or restricted if the agreement limits it to specified costs. The grant terms decide, and the word "core" does not.
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Treat your own board's choice as a designation. If the only limit comes from the board, it is not a restriction, whatever the minutes call it.
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If a restriction does not fit, deal with it openly. You are not obliged to accept a donor's designated gift that does not suit the organization, and you can ask the donor whether the money may go to other purposes. If you already hold the money, you need the original donor's permission to repurpose it, and you should get that in writing. If the donor refuses, you may have to return the funds.
Worked Example
Picture a nonprofit that needs 50,000 dollars to launch a new program. It has a 25,000 dollar grant and a 20,000 dollar major gift, both designated for that program. The donors set the purpose, so this is restricted income. In the accounts it sits as net assets with donor restrictions, and the nonprofit keeps a separate record of everything received and spent on it.
That leaves 5,000 dollars. Because unrestricted funding can top up a partly restricted project, the nonprofit covers the remainder from unrestricted funds.
- Restricted income: 45,000 dollars (25,000 grant plus 20,000 gift)
- Unrestricted top-up: 5,000 dollars
- Total program cost: 50,000 dollars
Common Mistakes
Borrowing restricted money for other work. When cash is tight, restricted balances look tempting. Spending restricted income on anything else, even another charitable activity, is a breach of trust under charity law. Ask the donor first.
Ignoring the overhead gap. Many restricted grants allow no overhead recovery, or only a nominal percentage. That creates a structural deficit: the organization delivers the project but subsidizes it from unrestricted reserves. Price this in before you accept the grant.
Overstating the cash you have. Failing to account for restrictions can give the impression that you hold more cash than you really do, and it skews budget and revenue goals. Also check that you have enough unrestricted funds to keep operating, because restricted money cannot fill that need.
Not planning for closure or pressure. If you are closing or under financial pressure and need restricted money, talk to the donor early. You may be able to renegotiate its use, or move the funded activity to another like-minded organization.
Counting a conditional grant as income too early. Until the barrier is met, the revenue is not yours to recognize. Keep a running schedule of restricted funds and of which grants still carry conditions.
Letting a restricted fund run in deficit with no plan. A restricted fund can be charged in deficit only when there is a realistic expectation that future income, or a transfer from unrestricted funds, will cover it.
Before You Decide
- Read the agreement, donor letter or appeal wording for limits on how, when or where the money may be used.
- Record who set each limit: the donor or your own board.
- Check whether the gift is conditional, with a barrier to meet before it counts as income.
- Open a separate fund record for each restricted purpose.
- Budget restricted income first, then see how much unrestricted money is needed to fill the gaps.
- Get any release or repurposing of a restriction agreed in writing.
- Check that each restricted fund has enough income, or a realistic expectation of it, before charging expenses to it.