The Overhead Myth: Why Low Admin Costs Don't Mean Better Charities

The History of the Overhead Myth

The belief that nonprofit overhead is inherently wasteful did not emerge from evidence — it grew from a combination of intuitive donor psychology, media coverage of charity scandals, and the rise of charity rating organizations in the 1990s and 2000s that used simple financial ratios as their primary evaluation tool.

The logic seemed reasonable on its face: if a charity claims to help children in poverty, every dollar spent on the executive's salary or the accounting department is a dollar not helping children. Therefore, minimize overhead. Give 100 cents of every dollar to the cause.

Charity Navigator, the BBB Wise Giving Alliance, and other watchdogs amplified this thinking by grading charities heavily on their program expense ratios. A charity spending 90% on programs got an A; one spending 70% got a C. Donors, journalists, and regulators adopted these grades as shortcuts for evaluating charity quality. Organizations responded by doing everything possible to minimize reported overhead — sometimes at serious cost to their actual effectiveness.

In 2013, the CEOs of Charity Navigator, GuideStar (now Candid), and the BBB Wise Giving Alliance co-authored an open letter called "The Overhead Myth" to publicly repudiate the approach their own organizations had popularized. The letter acknowledged that the overhead ratio is a poor proxy for effectiveness and urged donors to abandon it as a primary evaluation criterion.

Why Low Overhead Can Be a Red Flag

Counterintuitively, very low overhead ratios sometimes signal organizational dysfunction rather than efficiency. Here is why:

Staff underpayment and high turnover. Nonprofits that minimize administrative costs often do so by underpaying staff relative to market rates. The result is high turnover, loss of institutional knowledge, and degraded service quality — costs that never appear in the overhead ratio but destroy organizational effectiveness over time. A social services organization that pays case managers $28,000 per year may report an impressive program expense ratio while producing poor outcomes because burned-out, underpaid staff cannot deliver quality services.

Deferred investment in systems and infrastructure. Effective organizations invest in technology, data systems, training, and evaluation capacity. These investments are overhead. Organizations that minimize them may appear efficient on paper while operating with outdated tools, poor data quality, and limited ability to learn from their own programs.

Expense misclassification. Organizations under pressure to report low overhead have financial incentives to classify administrative expenses as program expenses. A fundraising appeal that also educates donors about the cause might be classified as a program expense rather than fundraising. Salaries of executives who spend some time on programs may be allocated to program expenses at rates that don't reflect actual time usage. This practice, known as "overhead laundering," is difficult to detect from the outside and makes overhead ratios even less reliable.

Inability to scale. Organizations that cannot invest in management capacity, systems, and talent development cannot grow effectively. An organization with a 95% program expense ratio may deliver excellent small-scale programs but collapse when it receives a large grant to expand, because it lacks the organizational infrastructure to manage the growth.

What the Research Says

Academic research on the relationship between nonprofit overhead and organizational effectiveness has produced consistent findings over the past two decades:

Studies by researchers including Paul Calabrese, Thad Calabrese, and others have found that the relationship between overhead ratios and outcomes is weak at best. Organizations with higher administrative expenditures often produce better outcomes in sectors including job training, housing services, and social welfare programs — because those investments buy the management capacity, data systems, and staff quality needed to deliver effective programs.

A landmark 2004 study by researchers at Indiana University found that the "low overhead = good charity" heuristic was not supported by any empirical evidence and that watchdog ratings based on financial ratios had little relationship to actual program quality or effectiveness.

Dan Pallotta, whose 2013 TED Talk on the overhead myth reached tens of millions of viewers, argued that the charity sector's fixation on overhead is a form of "starvation cycle" that prevents nonprofits from attracting talent, investing in growth, and achieving scale. His core argument: we don't judge for-profit companies by their administrative costs, but by their ability to generate value. Why should nonprofits be different?

What Matters More Than Overhead

If overhead ratios are poor proxies for effectiveness, what should donors look at instead? The emerging consensus among researchers, major funders, and updated watchdog methodologies points to three primary factors:

Outcomes and evidence of impact. The most important question is whether the organization is actually achieving its mission. Does it have evidence — ideally from randomized controlled trials, rigorous evaluations, or consistent measurement over time — that its programs produce meaningful results? Organizations like GiveWell, Giving What We Can, and the Abdul Latif Jameel Poverty Action Lab (J-PAL) publish rankings based on evidence of impact rather than financial ratios.

Transparency and accountability. Does the organization report honestly about what it does, including when programs don't work? Does it have a functioning board that is independent of management? Does it respond to donor inquiries? Does it publish clear program descriptions and outcome data? Transparency is a strong predictor of organizational integrity.

Organizational capacity. Does the organization have the staff, systems, and leadership to execute its programs reliably? Has it grown its impact over time? Can it explain how it would use additional resources? Capacity is what allows effective programs to reach more people.

Reading Financial Ratios More Carefully

None of this means financial ratios are useless — they remain one useful signal among many. A charity spending 80% of revenue on fundraising is a legitimate concern. Rapidly growing administrative costs while programs stagnate deserves scrutiny. But ratios should be read in context:

• Compare within sectors, not across sectors. A 75% program expense ratio means something different at a hospital than at a direct-aid organization.
• Look at trends over time, not just the current year. A temporarily elevated overhead ratio during a period of organizational investment may be healthy.
• Read the notes and audited financial statements, not just the summary ratios. The notes explain unusual items, related-party transactions, and accounting policies.
• Consider the Form 990's Part III program descriptions. What did the money actually accomplish?

PlainCharity displays revenue, expense, and asset data from IRS 990 filings for all organizations in our database. You can review these figures as one input alongside program descriptions, transparency indicators, and external effectiveness ratings when evaluating any organization. See our guide on evaluating charities with Form 990 data for a complete framework.

Frequently Asked Questions

What is the overhead myth?

The overhead myth is the widely held belief that charities with lower administrative and fundraising costs are more effective than those with higher overhead. This belief leads donors to reward organizations that minimize reported overhead — even at the cost of underpaying staff, skimping on technology, or misclassifying expenses — while penalizing well-managed organizations that invest in infrastructure.

What should I look at instead of overhead ratios?

Effective charity evaluation focuses on outcomes (what did the organization actually achieve?), transparency (does it report honestly about results?), and organizational capacity (does it have the talent and systems to deliver at scale?). Organizations like GiveWell, Giving What We Can, and J-PAL publish evidence-based rankings that prioritize measured impact over financial ratios.

Do charity watchdogs still use overhead ratios?

Most major watchdogs have moved away from pure overhead-ratio scoring. Charity Navigator updated its methodology to weight financial ratios alongside accountability, transparency, and results reporting. GuideStar (now Candid) stopped displaying letter grades based on financials. Many experts now recommend GiveWell's evidence-based approach for donors focused on impact.

What is a reasonable overhead ratio?

There is no single correct overhead ratio. Organizations vary enormously by sector, scale, and operating model. A general range of 15–35% overhead is common among well-run nonprofits. Ratios below 10% sometimes indicate understaffing, deferred maintenance, or expense misclassification rather than exceptional efficiency.