Local Government Finance
This blog post was adapted from a
Governing Magazine article on "How to Measure Financial Health - a Guide to Financial Literacy." After reading the article, I thought it would be an interesting article to share adding Atherton's information. Atherton has a very dependable financial outlook.
Over time, I hope to expand the tools available to residents to "drill down" on our financial picture via our
Fiscal Transparency Portal and
Data Reports (part of every City Manager's Report during City Council meetings).
As an engaged citizen, you certainly do not need to be an expert on your local government's finances. Local government finance can also differ significantly from private sector finance - often seeming to follow an entirely different set of rules. What is helpful though, is to have an informed and educated perspective so that you can speak confidently about the financial health of your local government. If we can answer any questions you may have, please do not hesitate to contact us!
The simple question of financial health raises many areas of query:
- Did all the anticipated revenues come in for the year?
- Were the expenditure expectations on target or were they exceeded?
- Were "restricted funds" used properly?
- What about the future? Are there revenues in play to meet expenditure expectations?
- What about large infrastructure needs?
- What about reserves?
- What about unanticipated expenses?
- What about long-term debt? Pensions? Healthcare?
True, you can get a lot of this information from
financial statements, but that's only part of the picture. The financial health of a local government is more than a balanced budget and a financial statement - it's also about context and the future. Atherton is no exception to this perspective.
Local governments are "financially healthy" if they can deliver the services that their residents expect with the resources their residents provide, now and in the future. Basically - do we have the ability to deliver the services our residents want with the resources they provide? For Atherton, the answer is yes. But, this is different than the private sector measure of financial health typically centered around profitability. Our residents expect us to deliver the services they desire now and for years to come. That's a long time and things change over time.
First, what our residents want today may be different than what they want tomorrow. For example, when I first started in local government in the late 80's it was not the mandate of local government to reduce waste from landfills or recycle. Now it is. A more recent mandate requires local government to address climate change in its programs and services delivered. These programs and services were largely left to state and federal agencies in the past - now they rest at the local level.
Second, financial health can be measured in different ways depending on your definition of what constitutes the "future." If government pushes its funding horizon on any debt service out 20 or more years, the short-term financial picture looks pretty healthy. But, if local government spends all of its money today on our infrastructure, we weaken the short-term financial health but have better long-term health. What is the definition of future?
Lastly, we don't control the weather or the unexpected. Federal, state, and regional policy and rule-making has an economic impact - regulatory mandates, disasters, recessions all impact financial outlook and demands. But while we don't control them - we are expected to anticipate and plan for them.
There are three components to financial health - Financial Position, Financial Performance, and Solvency. The first,
Financial Position, is our ability to pay our bills as they come due. For local government, a good financial position is strong if we have plenty of cash and other liquid resources available. That seems obvious. The test is whether our general revenues provide sufficient resources to meet our debt, our general obligations as well as long-term obligations and liabilities. For Atherton, we do not have to borrow money or delay payments or even liquidate assets to meet our general obligations. We are even prepared for emergency infrastructure repairs with a healthy reserve policy and fund. The Town has a 35% Reserve Policy based on annual operational expenditures. This is broken down into a 15% Emergency Reserve for those unforeseen events and a 20% Operational or Budget Reserve. Together, these represent a $4.93 million set aside beyond our basic $14 million operational budget. Atherton is good shape here.
The second,
Financial Performance, is how well our "typical" revenues cover our "typical" expenses. In the private sector, this would represent our "profitability." But, for local government, it's a little more complex. Local government revenue should generate enough to cover most or all of a government's costs. In many cases, this is relatively easy to do, such as with a public utility or entry fees into a state park. But, for many local government services, residents do not expect to get a bill when using the service - such as when they call the police or stroll through the Park or call the Building or Planning Department with a general question. These are important basic services that the public believes are part of their basic taxes. For Atherton, our basic typical revenues (we call it our General Fund) consists of property taxes, sales taxes, franchise fees, business license taxes, permit fees, and facility rental fees. These total between $15 million and $17 million a year - it fluctuates based on some of the State's allocations - largely ERAF which can go from $1.2 million to $0 in any given year. As a result, we rely on about $15 million in stable, typical revenues. On the expenditure side, basic operational expenditures are about $14 million. This includes basic police services, administration, building, planning, public works, finance, and city attorney. Basic operational expenses
do not include large capital projects such as drainage projects, road maintenance, park facilities, city facilities, and more - and that's the downside. We are in good shape here in Atherton with a healthy gap between operational revenues and operational expenditures; but, capital infrastructure is another matter altogether.
The last component of financial health is
Solvency. There are three types of solvency measures in local government - cash solvency, service-level solvency and long-term solvency. For
cash solvency, the basic measure is whether we have enough cash on hand to cover short-term expenses that might come in the next 60-90 days. With our healthy reserve policy, we have that covered - a lot better than most small agencies.
Service-level solvency is whether we have the capacity to continue to deliver basic services in the face of major changes in our economic and political circumstance. For example, if we lost a major employer or industry. Since we are 99% residential, this is highly unlikely without some dramatic shift in how property taxes are collected and paid. However, it's important to note that local government still needs to be nimble enough to adapt should something like that occur - prepared to engage in a public-private partnership, cross-jurisdictional service delivery model or other alternative service delivery arrangements. Lastly is
long-term solvency. This is our ability to generate the revenues needed to cover long-term spending needs. Assuming there are no changes to our tax base or other revenues, can we cover the debt service on any outstanding debt, our obligation to pensions and healthcare, and our infrastructure needs? The short answer is yes, but with a caveat - for long-term infrastructure, we have save for it. We do not have any debt service for capital infrastructure and because our revenues over expenditures are only about $1 million /- each year (without counting ERAF), it takes us a while to save up for those bigger projects and that has an impact.
Strong financial performance means we more than likely will end the year with a surplus - every year. That surplus becomes cash, that in turn improves our financial position, which in turn allows us to borrow money at a lower interest rate to finance routine infrastructure maintenance (if we borrowed money), which in turn improves our long-term solvency. However, while not failing the solvency measures, some local governments are strong in one component and weak in others - that's us. For us, it's long-term solvency. Small cities often have robust financial positions where we hold cash and other liquid assets equal to more than year of our annual spending. At the same time, we have large unfunded infrastructure needs that are a major drag on our long-term financial position. This is the "save-spend" cycle. This happens to small cities because voters are typically sensitive to taxes. If local property values increase, we collect more property taxes. Absolutely true, but not at a significant enough rate to keep pace with the cost and magnitude of infrastructure improvements. At the same time, taxpayers oppose new taxes or increases to existing taxes to fund new programs or infrastructure. As a result, small cities are forced into the "save-spend" cycle; but with the construction climate continuing to escalate, they cannot "save up" enough to pay for infrastructure projects with cash, so those spending needs go unmet while, ironically, more cash goes into the bank. The carrot is always just out of reach. Right now, our FY 2018/19 projected unallocated reserves exceeds the required $4.93 million set aside by another $13 million. This is indicative of the "save-spend" scenario that small cities are put in to saving for large capital infrastructure.
The challenges are different for every government - which is why context matters and it is crucial to think of your local government's fiscal health in relation to all factors and compare similar economic, political and demographic characteristics. Flexibility is a big part of financial health. If financial circumstances change, it helps to have the latitude to raise taxes, trim spending on programs and services, or take other corrective actions. Atherton has done some of that in the past. But, many local governments simply do not have that latitude. Their fiscal policy spaces are constrained by state and federal law, local service demand, and the local political climate.
Thanks for reading! I am looking forward to revamping the Town's Financial Health Indicators and Resources for our residents and hope to release that in the coming months.
George Rodericks
City Manager
Town of Atherton
grodericks@ci.atherton.ca.us