Part 7: ⚖️ Direct Costs vs. Indirect Costs

One of the questions I ask nonprofit leaders when reviewing a grant budget is:

“How did you decide which expenses belonged in the program budget?”

The answers vary.

Sometimes the response is: “Those are the expenses the funder wanted to see.”

Other times it’s: “We only included the costs directly related to the program.”

And occasionally... “Honestly, we’re not really sure.”

If that sounds familiar, you’re not alone.

The distinction between direct and indirect costs has confused nonprofit leaders for years.

But once you understand it, budgeting becomes much less intimidating.

🎯 Direct Costs: The Expenses You Can Clearly Connect

Think of direct costs as the expenses you can easily connect to a specific program or project.

If your organization operates an after-school tutoring program, direct costs might include:

📚 Educational materials

👩🏽‍🏫 Program staff salaries

🍎 Snacks for participants

🚌 Transportation

🎨 Program supplies

📍 Facility rental used specifically for the program

If the program didn’t exist, these expenses likely wouldn’t exist either.

That’s what makes them direct.

They’re directly connected to delivering that particular service.

🏢 Indirect Costs: The Expenses That Keep Everything Running

Now let’s think about everything else your organization needs in order to operate.

Someone answers the phone.

Someone manages payroll.

Someone pays the bills.

Someone oversees compliance.

Someone maintains your donor database.

Someone keeps the technology running.

Someone ensures insurance is renewed.

Someone supervises staff.

These activities may not belong to one specific program.

But they support every program.

These are commonly called indirect costs because they benefit the organization as a whole rather than one individual project.

Without them, programs don’t happen.

💡 Here’s Where Many Nonprofits Get Stuck

Unfortunately, many nonprofit leaders have been taught to think of indirect costs as expenses they should hide, minimize, or apologize for.

You’ve probably heard statements like:

“We try to keep our overhead as low as possible.”

“We don’t include administrative costs.”

“We’re careful not to ask funders to pay for operations.”

But here’s the question I want you to consider:

If no one processed payroll, managed finances, maintained technology, supervised staff, or ensured compliance...how long would your programs continue?

Probably not very long.

Indirect costs don’t compete with mission – they support it.

🧩 It’s Not Either/Or

One of the biggest mindset shifts nonprofit leaders can make is realizing that direct and indirect costs aren’t competing categories.

They’re complementary.

Think about a youth mentoring program. The mentor’s salary may be a direct program expense, but that mentor also relies on:

💻 Technology

📋 Human resources

🏢 Office space

📞 Administrative support

🛡️ Insurance

📊 Financial management

⚙️ Organizational leadership

Every successful program sits on top of an infrastructure that allows it to operate safely, effectively, and consistently. When we separate programs from the infrastructure supporting them, we unintentionally create the impression that one matters more than the other.

When in reality...

They depend on each other.

🌱 Why This Matters to Funders

Funders understand that healthy organizations require more than passionate staff and good ideas. Increasingly, they recognize that strong leadership, sound financial systems, technology, evaluation, and administration all contribute to long-term impact.

The organizations that communicate this well aren’t asking funders to “pay for overhead.” They are helping funders understand what it truly takes to deliver meaningful, measurable results.

And that’s a very different conversation.

📋 Start Looking at Your Budget Differently

The next time you review your budget, don’t ask: “How little can we spend on administration?”

Instead ask:

✔️ Are we accurately representing what it takes to deliver our mission?

✔️ Have we included the organizational resources that support our programs?

✔️ Does our budget tell the complete story of how impact is created?

Those questions lead to healthier budgets and healthier organizations.

❤️ Heart Check

Think about your organization’s budget.

Are there expenses you’ve been reluctant to include because they didn’t feel “programmatic” enough?

If so, then what message might that be sending to your leadership team…your board… yourself about the value of the systems that keep your mission moving forward?

✅ One Thing You Can Do This Week

Choose one of your organization’s programs.

Create two simple lists:

List One: The direct costs that are clearly tied to delivering that program.

List Two: The organizational resources that make the program possible but support multiple programs across the organization.

As you compare the two, ask yourself: Could our programs succeed without either list?

The answer is almost certainly no.

Because both are essential to fulfilling your mission.

Start to think about how this impacts your program budget(s) based on what you learn.

🌱 Join the Journey

Next Week – Part 8: 💼 Overhead Isn’t the Enemy

For decades, nonprofit leaders have been taught that keeping overhead low is the hallmark of a well-run organization.

But what if that belief has been limiting our organizations more than helping them?

Next week, we’ll explore one of the most persistent myths in the nonprofit sector and why it’s time to rethink what overhead really means.

Join me next week as we continue building financially healthy nonprofits—one conversation at a time.