Uncharitable: How Restraints on Nonprofits Undermine Their Potential

Tom, a small businessman whose nonprofit was in startup, wanted to hire me to handle his organization’s fundraising. His nonprofit focused on an area in which I had expertise, his offer was generous, and I needed the work—so Tom was surprised when I turned him down flat.

“I can’t work for a percentage of what I raise,” I explained. “Although that’s a common practice in the for-profit world, in the nonprofit world it’s considered unethical.”

“That can’t be true,” Tom insisted. “It doesn’t make sense. That would make it impossible for middle-class people like us to start a nonprofit. We can’t pay you any other way. What’s wrong with paying you a percentage of what you raise? As long as we disclose the amount of your salary on our IRS Form 990, why should it matter?”

I never convinced Tom that there could be grave consequences to running a nonprofit enterprise according to standard, for-profit business practices. Were we to have this conversation today, however, I might have better success, for I’d give Tom a copy of Dan Pallotta’s Uncharitable: How Restraints on Nonprofits Undermine Their Potential. One of the most successful fundraisers in history, Pallotta raised hundreds of millions of dollars for AIDS and breast cancer charities in a handful of years. In 2002, his organization netted half the annual giving of the Rockefeller Foundation—and that same year, when Pallotta’s capitalist approach toward fundraising was revealed, he was vilified, and his business destroyed.

In Uncharitable, Pallotta demonstrates how the nonprofit sector undermines its own efforts through pervasive but false and self-defeating anti-capitalist assumptions: that nonprofit executives should not be compensated competitively, but compelled to make personal financial sacrifices as proof of their personal integrity; that nonprofits should not advertise, as if potential donors could intuit their organization’s existence and the needs of the population they serve; that nonprofits should stick to strategies with established, mediocre results rather than engage in managed risk; and that the ultimate test of a nonprofit’s merit is not the amount of money it raises or good it does, but how low its overhead is. Financial independence is, ironically, a most improper goal for members of the Independent Sector.

It is unfair and counter-productive, Pallotta argues, to demand nonprofit executives accept salaries significantly lower than they would earn in the for-profit sector: these leaders command high salaries in the for-profit world because they deliver great return on the salaries invested in them. The effect of this artificial and needless sacrifice is not to make charities more “efficient,” but, rather, to drive talent away from nonprofits into the for-profit world. “Want to make a million selling violent video games to kids?” Pallotta asks. “Go for it. Want to make a million fundraising the cure for childhood leukemia? You are a parasite” (9). Watchdog organizations evaluate nonprofit leaders not by how effectively they raise money or advance their organization’s mission, but by how cheap their services come. Limiting compensation limits the pool of available talent, Pallotta argues, contributing to the burnout and turnover common in the nonprofit world and lessening organizational effectiveness in alleviating human misery.

Pallotta traces to Puritan thought the assumption that charitable activity must entail sacrifice. Unfortunately, his representation of Puritan views lacks nuance, and is more stereotypical than historical. Condemning the Puritan view of man as inherently sinful, he posits instead a secular-Romantic view of man as inherently virtuous. Whether one considers man essentially good or essentially evil is, ultimately, a matter of faith, and not demonstrable by proof. More significantly, such concerns are extraneous to Pallotta’s main object, which is identifying those business practices that produce the best results for nonprofit enterprises.

Pallotta is at his best describing the absurdity of the nonprofit world’s attitude towards advertising. Few nonprofits develop marketing plans, and most reject advertising as a wasteful expenditure of funds that should go directly to the needy. Pallotta, however, argues that money spent advertising a charity is not wasted if that investment increases visibility and, thereby, donations. Donors can’t give to organizations they don’t know exist, nor will they care about causes of which they’ve only vaguely heard. Decisions regarding advertising, he argues, should be made by nonprofits the same way they are made by for-profits: through a cost-benefit analysis. According to Pallotta, his firm’s own advertising efforts produced an astounding 1137% ROI. Rational as Pallotta’s position is, advertising expenditure is so rare a practice that, until recently, the IRS Form 990 did not include a line item for advertising expenses. As a result of eschewing mass-market print, broadcast, and online advertising, charities over-rely on existing donors, again limiting needlessly the amount of money they raise and thus the good they can accomplish.

Pallotta discusses at length other successful strategies of the free market that nonprofits fail to exploit, such as taking calculated risks, accumulating surplus capital, and developing investment vehicles, such as the futures market in charities Pallotta proposes. Pallotta also argues convincingly that the tools by which charities measure success are irrational; current measures tend to focus not on how well charities accomplish their mission, but on what Pallotta deems artificial and irrelevant “efficiency” measures that privilege low overhead over productivity, which in turn creates a perverse incentive toward a lack of transparency regarding costs. For example, according to the Nonprofit Overhead Cost Project conducted by the National Center for Charitable Statistics (2004), nearly half of 126,956 nonprofits studied reported $0 of fundraising expenses on their Form 990 filings, listing proposal-writing expenses, for example, in other categories (150). A successful suicide hotline decided against adding a new phone line to keep up with need, as doing so would increase their percentage of overhead above desirable industry standards.

Pallotta abandons his love affair with market competition when it comes to solving the problem of assessing nonprofits. He proposes a single, centralized bureaucracy funded by mandatory payments from all nonprofits. The agency’s inspectors general would gather and circulate detailed information about charitable organizations. With no sense of irony, the man who argues against limitations on salaries for executives like himself sets the wage for such investigators at $65,000 a year.

Perhaps a better approach to evaluating nonprofits, one more consistent with Pallotta’s own thinking, would be a decentralized solution. Rather than create a centralized monopoly with artificially constrained earnings possibilities for investigators, we might do better to encourage the growth of a new type of business—the charity assessment agency, whose investigators would compete for donor-clients. Geneva Global (http://genevaglobal.com), for example, is an example of a successful business that provides such a service. Such agencies could vie for business by offering different field specializations or different assessment methods, and the costs for their services would be borne by the donors who hire them. Through marketplace competition, the kinds of assessments donors found most consistently helpful would quickly emerge. As donor confidence increased, so too, would donations, and capitalism would thus, yet again, contribute to the creation of a more generous world.

Laurie Morrow, Ph.D., a former college professor and talk radio show host, is the President of Morrow Public Relations in Montpelier, Vermont, and a contributing editor to Conversations on Philanthropy.