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08-14-07 FPAC Agenda
~ ~HILLS FINANCIAL PLANNING & ANALYSIS COMMITTEE TUESDAY, August 14, 2007 6:00 P.M. Upstairs Conference Room, Arden Hills City Hall I. CALL MEETING TO ORDER AND ROLL CALL II. APROVAL OF AGENDA III. APPROVAL OF July 10, 2007 MINUTES IV. CITY COUNCIL UPDATE - Council member Grant V. FINANCIAL POLICY DISCUSSION VI. FUND BALANCE POLICY DISCUSSION A. Reasons and Objectives for Policy B. What factors do we want to consider C. What information should we gather VII. NEXT MEETING AGENDA - September 11,2007 A. Continue Fund Balance Policy Discussion VIII. ADJOURN A quorum of the City Council may be present at this meeting. City of Arden Hills 1245 West Highway 96 . Arden Hills Minnesota 55112 Phone 651.634.5120' Fax 651.634.5137 www.ci.arden-hills.mn.us Minutes E` EN HILLS • FINANCIAL PLANNING &ANALYSIS COMMITTEE TUESDAY, July 10, 2007 6:00 P.M. Upstairs Conference Room, Arden Hills City Hall I. CALL MEETING TO ORDER AND ROLL CALL The meeting was called to order by committee chair, Scott Bronson at 6:03pm MEMBERS PRESENT: Maurice Gieske, Scott Bronson, Al Hilgers, Jeff Johnson, David Grant, Council Liaison OTHERS PRESENT: Sue Iverson, Finance Director; Joe Rueb, Accounting Analyst MEMBERS NOT PRESENT: Jim Ostlund II. APROVAL OF AGENDA Motioned: Jeff Johnson Seconded: Maurice Gieske III. APPROVAL OF JUNE 20, 2007 MINUTES • Motioned: Jeff Johnson Seconded: Al Hilgers IV. CITY COUNCIL UPDATE—Councilmember Grant Cheasapeake Co. wants to start a new development with over 400,000 square feet of commercial space. They have asked for TIF possibilities toward land improvement. Is there an updated TIF policy? Hilgers wanted to know if there are any connection between New Brighton and Arden Hills. There was an offer on the Holiday Inn. The buyer plans to demolish the old building and rebuild. They met with City Council to discuss their plans which may include: a fast food restaurant, sit-down restaurant, a bank, and one or two assisted living establishments. A proposal has been presented for the southeast corner of County Road E and Lexington. TCAAP — Reviewing transportation in and out of the TCAAP property. The developer (RRLD) is spending over $40,000 per day for land survey, preparation, and land improvements, trying to characterize the TCAAP property. They are currently working under an interim agreement. RRLD currently does not have a partner with this project. TCAAP is not a done deal. When completed it is estimated to be an $875,000,000 development. Testing has shown that water contamination extends six miles out of TCAAP and soil contamination extends 170 feet below the surface. City of Arden Hills 1245 West Highway 96• Arden Hills Minnesota 55112 Phone 651.634.5120• Fax 651.634.5137 www.ci.arden-hills.mn.us -ARTEN HILLS FPAC group is interested in the future plans for the Briarknoll neighborhood. V. INVESTMENT POLICY DISCUSSION A. Review suggested revisions and comments from the City Attorney B. Refine Policy and Discussion Concerns on 2.C. Delegation of Authority. Cannot delegate to someone else; no one has that authority. Remove the word Approved and replace with Acknowledged. Remove FPAC chair and Council Liaison. Johnson asked if there were a sufficient number of officials to authorize investments. Group decided to add Acting Mayor after the Mayor; if the Mayor is unavailable, the Acting Mayor is authorized to acknowledge the investment. Bronson asked if the acknowledgement should be in writing and if that specification should be written in the policy. Johnson wanted to know why in 5.3.E. "AA" is a required rating and not required in 5.3.A-D. It is not required due to State Statutes. Johnson thought that the Section 7 was vague. What is the counter party risk? Any guarantees behind it? Look at further defining external investment pool. Change to: No more than 5% of the overall portfolio may be invested in the securities of a single issuer, except for the securities of the U.S. Government, or a maximum of 25% with any individual counter party in an external investment pool. • RBC Dain Rauscher is the trustee, while PMA manages it. Minimize risk with a ten day window. Make formatting uniform throughout policy. C. Adopt recommended policy for presentation to City Council Motioned: Jeff Johnson Seconded: Maurice Gieske VI. 2006 Financial Statement review City Council selects the City's auditors. Group reviewed the Special Purpose Audit Report (pg 4). Johnson wanted to know of anything specific with the 2006-1 Segregation of Duties finding. Cash receipting and accounts payable (issuing and cutting checks) are two main concerns. Currently working on improving cash receipting procedures; accomplished segregating account payable duties. Currently the City does not have a formal credit card policy. • City of Arden Hills �1 ZEN HILLS • Group reviewed the Comprehensive Annual Financial Report (CAFR). Clarification of the operating grants and capital grants was requested (pg 65-66). TIF bonds are not counted against the City or Arden Hills residents. G.O. Bonds count towards debt and is backed by the City and Arden Hills residents. 11 VII. NEXT MEETING AGENDA—August 14, 2007 A. Fund Balance Policy VIII. JOINT MEETING WITH PTRC, EDC AND PLANNING COMMISSION —July 17, 2007 Cummings Park Pavilion 6:00 p.m. Dinner—meeting to follow IX. ADJOURN Motioned: Jeff Johnson Seconded: Maurice Gieske • Scott Bronson, Chair Susan K. Iverson, Finance Director City of Arden Hills • AIQEN HILLS MEMORANDUM DATE: August 10, 2007 TO: Financial Planning and Analysis Committee FROM: Sue Iverson, Finance Director SUBJECT: Financial Policy Design Discussion DISCUSSION: In an effort to facilitate discussions on policy design, I have attached a presentation I attended at the National GFOA conference which focused on Financial Policy Design and Implementation. • RECOMMENDED ACTION: None. • ratiftlij .0 ','''''''.4;i4 Ct • Cam) O C4 CA C4 C� ranAl C.) - O � O • fr*\ N oc6 (1) O cZ U bb ,----4 ,—0 g .i_e E P , CD O C.5 , a ry 0 ,,f '''',,% 1 e I • WJ tip - !DJ) . L/1 0 F���II Cl.)• v•••4 cA E .-•-4 U la ct • r•-1 ca) ox? P.. 0 E • ,$.,1 r1to U . � 5., . 54 . - ct. • �., 4. ci) _i_i_, o cf) .) O Cl) • a CA • OC I) O 1 I I �--� H ► ' c) H . 1-4 0 ;#, , • 0 • r4 • NNINIsmomiimmENNEMII cO 1 • : -, :, ',. CA CA CA U O CDC.) 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E0 p_, ,..,..,7.1 ..., ;.., A--' ct c... — to 1.) c.) • r--1 0 ct +_.) U U • ,—' . � C) ca ct CL( cd9 . • • • v 0 • cct • • p.• LtE)i: • cip N �--� — • ,•—.1 CZ$ (I) • • 4 Cl) U ;, • / , O E O Ct • 110 -ARZEN HILLS MEMORANDUM DATE: August 10, 2007 TO: Financial Planning and Analysis Committee FROM: Sue Iverson, Finance Director SUBJECT: Fund Balance Policy Discussions BACKGROUND: One of the priorities that the Council has assigned to this committee is to work on a Fund Balance Policy. DISCUSSION: As a starting point for work on this priority, we first must look at the reasons and objectives for such a policy. I have attached a chapter from a GFOA book entitled"Financial Policies: Design and Implementation". This chapter focuses on Fund Balance Policies. We will use this as a basis for our discussions. As we go through this information we will 1) determine what factors we want to consider in developing out policies, and 2) what information we need to in order to make these decisions or to determine these factors. Ultimately we should try to establish 1) How financial resources are set aside for unreserved fund balances, 2)Determine the appropriate size of unreserved fund balances, and 3) Methods for utilizing unreserved fund balance resources. You will want to refer to the book that I previously provided you on Fund Balance, and I have also attached some additional information that might be useful for your discussions. RECOMMENDED ACTION: Provide staff direction on what information the committee feels is needed to further discuss and work on this policy. • it I • I1 CHAPTER 5 I' i ##ii+, )3 II t. Fund Balance Policies ,. , The economy's cyclical nature creates a need for comprehensive fund balance policies to ensure stable service delivery,smooth changes in tax rates or structure, and avoid revenue-expenditure imbalances. Finan- cial resources typically are amassed in a prosperous economy for use during a poor economy. Fund balance also can be allocated toward other government purposes that may require an accumulation of finan- cial resources over an extended time period.Another common and cru- cial purpose for fund balance is to smooth over periods in the fiscal year when tax revenues are unavailable.1 1`} A properly designed fund balance policy codifies the reasons for and proper size of various components of fund balance. Specifically, major sections of a fund balance policy should address: • The appropriate size of unreserved fund balance(or budget sta- bilization fund); • How financial resources are set aside for unreserved fund bal- ance;and • Methods of utilizing unreserved fund balance resources. This chapter explores fund balance terminology and major reasons for adopting a fund balance policy.It then describes in detail the major sections of a fund balance policy,using examples to illustrate important points. Note that fund balance in this chapter refers to generally ac- cepted accounting principles(GAAP)fund balance rather than budget- ary fund balance.2 } 71 , ._,- „, - 72■Financial Policies:Design and Implementation FUND BALANCE TERMINOLOGY Fund balance is not simply the amount of cash a local government has on hand at the end of the fiscal year. Rather, it is an accounting term used to describe the difference between a governmental fund's assets 1 and liabilities.3 Cash balance is not a good indicator of financial health because it does not consider liabilities. I Reserved Versus Unreserved Fund Balance Fund balance is divided into reserved and unreserved portions.4 Re- served fund balance is used to segregate financial resources of a fund that are not available to liquidate liabilities of the current period.Some • financial assets are notyet available for spending(e.g.,long-term loans I P g g-receivable);others, although classified as financial assets, actually rep- resent amounts that have already been spent (e.g., certain inventories '' and prepaids); still others are subject to legal restrictions and commit- ments (e.g., encumbrances for unfilled purchase orders). In addition, state governments can provide for local governments the option of cre- ' ating legally binding reserved fund balance in various categories.5 Re- served fund balance is not established by management prerogative,but rather is determined by accounting rules and standards. i` Unreserved fund balance is the portion of fund balance that is available for appropriation. Unreserved fund balance, in turn, can be divided into designated and undesignated portions. iJ Designated Versus Undesignated Unreserved Fund Balance.Un- li like reserved fund balance, designated unreserved fund balance is Pavailable for appropriation. Designations mean that public managers have earmarked funds for a particular purpose(they would prefer to use the designated portion for a particular purpose). According to the American Institute of Certified Public Accountants'audit guide,desig- nations should be supported by definitive plans and approved by the governmental unit's senior management.6 Funds can be designated to reflect management priorities, such as completion of capital improve- , ment projects,providing for unknown contingent liabilities, or setting aside amounts for appropriation in next year's budget.It is on this sub- ject that some professionals in the field remain confused, for the use of II the term reserved fund balance has been and is still used interchange- ably with the term designated fund balance. _Pz.Y^+t'f+.m.€. ' 1""o,Y?._ w4,,;,�,,,z C s rs{:.t< fi ,r Y�. 33`"�`g•`kha- '� �e I)�� 11 Fund Balance Policies•73 • I Exhibit 5-1 • Graphical Representation of Fund Balance s Reserved for long-term loans receivable Reserved Reserved for debt service Fund Balance Reserved for inventory Fund Reserved for encumbrances Balance Undesignated Unreserved Fund Balance Designated for contingencies Designated for appropriations in future years Undesignated, unreserved fund balance is available for spending and has not been earmarked by management. As such, undesignated, unreserved fund balance represents a crucial indicator of a govern- ment's financial flexibility to deal with funding emergencies. See Ex- hibit 5.1 for a graphical depiction of fund balance categories and a list of typical fund balance accounts. IMAJOR REASONS FOR ADOPTING A FUND BALANCE POLICY • An often-cited reason for adopting and maintaining a fund balance pol- icy is to plan for contingencies (i.e.,future emergencies). In fact, some- times government officials cite contingencies as the only reason to have a fund balance.Other equally valid reasons exist for keeping such poli- cies. Five major purposes for a fund balance policy are cited below. Plan for Contingencies No guarantees exist that governments will always be able to match planned revenues with actual expenditures for any given fiscal year. Reliance on elastic revenue sources—such as sales and business income taxes,in particular—results in a volatile revenue structure.Isolated eco- nomic impacts in the region,such as a plant closure,can also negatively affect revenues. Finally, unexpected weather-related events (major winter storms or hurricanes,for example)can increase operating costs • 74■Financial Policies:Design and Implementation e.g., public works crews for snow removal) or capital costs (e.g., new infrastructure needed due to storm damage). Other forms of uncer- tainty that may require the use of a contingency reserve or designation include: • Rising energy costs; • State and federal mandates,both legislated and judicial; • Increasing health care costs; • Unexpected employee overtime costs; and • Financial impacts from labor agreements. Financial resources set aside for contingencies in a local govern- ment are properly classified as reserved fund balance only when man- dated by state statute. Otherwise, senior management designates re- sources for contingencies. • Maintain Good Standing with Rating Agencies Bond rating agencies (such as Standard and Poors,Moody's,and Fitch Ratings) evaluate several financial indicators to assess governmental fiscal health and the overall economic health of the community at large. An adequate level of fund balance is considered a sign of creditworthi- ness because it enhances a government's ability to repay debt on time and in full. Fund balance should be maintained at an appropriate level considering the locality's own unique characteristics. (Proper size of fund balance will be discussed later in this chapter.) Rating agencies view sudden drops in fund balance unfavorably. Avoid Interest Expenses for Operating Budget Needs and Capital Projects There are two main methods for avoiding interest expense through the use of fund balance: 1) fund capital projects using fund balance rather than debt and 2)cover expenditures when revenue is unavailable using fund balance instead of debt.Capital projects that are funded using cur- rent resources are typically referred to as pay-as-you-go projects.Using pay-as-you-go financing allows a government more spending flexibil- ity as less revenue is used to meet future debt service obligations. The Government Finance Officers Association (GFOA) strongly discour- ages governments from using debt to fund operating expenditures.7 • -77 1S4a4i'k'4 if Fund Balance Policies•75 Invest Fund Balance Some argue that a healthy fund balance can save taxpayers money be- cause fund balance is a source for investment. Based on interest rates i} that were current when this book was published,a typical local govern- ment can expect to earn 1.57 percent per year on Treasury bills (a low-risk investment commonly found in municipal portfolios). A well-planned investment program that considers diversity, yield, and maturities can generate additional revenue (see Chapter 8 on invest- ment policies). Ensure Cash Availability When Revenue is Unavailable Implementation of a fund balance policy—and more specifically,a des- ignation for cash flows—allows governments to have funds available _' during periods of the year when revenues are not available. For in- • stance, a summer resort community may rely for a major share of its revenues on hotel taxes, collected by the state and then redistributed. The locality may not receive the largest share of such taxes until the third quarter of the calendar year(end of September),whereas seasonal employees must be paid during the summer months before these reve- nues are available.Maintaining a fund balance can balance intraperiod differences in demand for revenues and revenue availability. The remainder of this chapter describes three major sections of a • fund balance policy: 1)determining the appropriate size of unreserved fund balance (or budget stabilization fund),2)how financial resources are set aside for unreserved fund balance, and 3) methods of utilizing unreserved fund balance resources. DETERMINING THE APPROPRIATE SIZE OF UNRESERVED FUND BALANCE (OR BUDGET STABILIZATION FUND) What is the appropriate allocation among unreserved and reserved fund balance? The answer is: it depends. Varying obligations and pol- icy priorities among different local governments will dictate the size of reserved and unreserved fund balance and the type of reserved fund balance and designated fund balance(although GFOA strongly encour- ages establishment of a minimum unreserved fund balance). Reserved fund balance is determined based on the number of binding obligations ram., 76 IN Financial Policies:Design and Implementation Benchmarking for Size of Unreserved Fund Balance One useful method for determining size of unreserved fund balance in the general fund is to gather quantitative information from other local governments and make comparisions.In such cases,it is best to seek out government units in the same region because these typically have similar economic conditions and will most likely have similar revenue structures (whether due to state laws that limit taxation or traditional practice). Benchmarking information is easily found in the balance sheets of local government compre- hensive annual financial reports.Unreserved fund balance in the general fund as a percent- age of general fund revenues or general fund operating expenditures should be checked for consistency across all benchmarked governments.Outliers that are significantly below or above the average may indicate extenuating circumstances,such as a high build up of funds for capital projects.A government may want to consider dropping outliers that skew the comparison. Benchmarks provided by Moody's Investor Services can also provide direction for setting a targeted level of unreserved fund balance in the general fund.See http://www.moodys.com for more information. • of a government. Designation indicates the desire to earmark funds on hand for a particular use or uses.For instance,a local government may • be concerned with increasing the number of low-income housing units within its boundaries, and, thus, may designate resources for low-income housing. The adequacy of unreserved fund balance in the general fund should be assessed based upon a local government's own specific cir- cumstances. According to GFOA's 2002 Recommended Practice, "Ap- j propriate Level of Unreserved Fund Balance in the General Fund," a government should consider a variety of factors,including: • The predictability of its revenues and the volatility of its expen- ditures (i.e., higher levels of unreserved fund balance may be needed if significant revenue sources are subject to unpredict- able fluctuations or if operating expenditures are highly volatile); • The availability of resources in other funds as well as the poten- tial drain upon general fund resources from other funds(i.e.,the availability of resources in other funds may reduce the amount of unreserved fund balance needed in the general fund,just as deficits in other funds may require that a higher level of unre- served fund balance be maintained in the general fund); • Liquidity(i.e., a disparity between when financial resources ac- tually become available to make payments and the average ma- turity of related liabilities may require that a higher level of re- sources be maintained);and 1 • } IS a Fund Balance Policies•77 9 tt • Designations (i.e., governments may wish to maintain higher levels of unreserved,undesignated fund balance to compensate for any portion of unreserved fund balance already designated j! for a specific purpose). jI How Much Unreserved Fund Balance for the Fund Balance Policy? !!i A number of standards for size of unreserved fund balance in the gen- tl.' eral fund that have been cited over the years. GFOA recommends that =i general purpose governments,regardless of size,maintain unreserved fund balance in their general fund of no less than 5 to 15 percent of regu- lar general fund operating revenues, or of no less than one to two months of regular general fund operating expenditures.8 Bond raters and others often use the rule of thumb standard that calls for an unreserved fund balance in the general fund of 5 percent. Others argue that unreserved fund balance should be equal to no less than one month's operating expenditures(e.g.,8.3 percent).Still others ' ,I argue for a broader range of one to three months of operating expenditures. A government's particular situation may require levels of unre- served fund balance in the general fund significantly in excess of these recommended minimum levels. The most commonly cited factor in greater unreserved fund balance size (general fund) is budget size. A government's unreserved fund balance should be inversely propor- tional to its total budget size.Smaller governments are more susceptible to economic changes and, therefore, require a larger unreserved fund balance. Benchmarking against other similar local governments may also help determine unreserved fund balance size (see the related sidebar on page 76). HOW FINANCIAL RESOURCES ARE SET ASIDE FOR UNRESERVED FUND BALANCE Methods must be established for setting aside unreserved fund balance resources. Otherwise, politicians may advocate depletion of fund bal- ance to satisfy constituents or achieve political goals. Service-oriented elected officials may want more resources for government programs, while tax-averse elected officials may want to show their citizens that a • 78•Financial Policies:Design and Implementation 1 '< the government is not hording funds. By setting a policy on how funds I1, are placed in fund balance, public managers give elected officials a clear-cut justification for having fund balance. ir Ideally,policies for both unreserved fund balance and various des- ignations(most often in the general fund)should explain how financial resources are set aside. Policies that cover the reserved portion of fund balance are unnecessary since their amount is not subject to the discre- tion of a local jurisdiction's governing body or its public managers. There are three options to set aside resources for unreserved fund bal- ance,as discussed in the following paragraphs. Formulas that Determine Unreserved Fund Balance Amounts Typically,such formulas include one to three months'operating expen- • ditures,or unreserved fund balance as a proportion of annual operating i expenditures, such as 5 percent. An unreserved fund balance target may also be set based on general fund revenues. The City of Federal Way, Washington, requires a contingency designation set at 3 percent of the city's operating expenditures. City of Federal Way, Washington:The city shall establish an appropriated contingency [designation] in order to accommodate unexpected operational changes,legislative impacts,or other economic events affecting the city's oper- ations,which could not have been reasonablyanticipated at the time the budg et ,; p % was prepared.Funding shall be targeted at three(3)percent of the city's operat- ing expenditures. Requirements that a Portion of Any Operating Surplus be Deposited into Unreserved Fund Balance Other fund balance policies may require that 100 percent of surpluses be set aside.Surpluses are defined here as actual revenues exceeding ac- tual expenditures. Such a policy may be useful for governments that rely primarily on pay-as-you-go financing and have major capital pro- jects planned for the next few fiscal years. } Dedication of Revenues from a Specific Source Local governments sometimes dedicate revenue streams to establish an adequate level of unreserved fund balance.Most often,revenue is dedi- 1 :tl • i. l 4110 Fund Balance Policies•79 cated from property taxes.For instance,a local government could dedi- cate 1 or 2 percent of its annual property tax revenues for unreserved f' fund balance. I METHODS OF UTILIZING UNRESERVED FUND I� BALANCE RESOURCES Unreserved fund balance policies should include operating and capital needs that cannot be funded through current revenues. Such policies provide taxpayers with an explanation of why financial resources have been set aside and the conditions under which such resources will be expended. Common uses for unreserved fund balance in the general fund include: • Meeting future capital needs; • Offsetting difficult economic times; • Stabilizing fluctuations in cash flow requirements;and • Providing for emergency situations. Instead of appropriating all surplus funds to unreserved fund bal- ance,governments may wish to set aside a portion of surplus funds for lower-order priorities that are less crucial to the proper functioning of the organization after unreserved and reserved fund balance obliga- tions have been met. In this case, excess surpluses may be utilized for • lower-order governmental priorities,potentially outlined in a strategic plan or some other priority-setting document. Common local govern- ment uses for surpluses may include:neighborhood revitalization,ad- ditional capital spending,retirement of existing debt,and gainsharing. SUMMARY The broad categories listed in Exhibit 5-2 are highly recommended for constructing a fund balance policy.Details such as how many designa- tions should be created or the appropriate size of unreserved fund bal- ance in the general fund are dependent on the characteristics of the local government in question. As a guideline,GFOA recommends that governments establish an unreserved fund balance (consisting of both undesignated and desig- nated portions) of between 5 and 15 percent of general fund operating revenues.An unreserved fund balance: • , • i 1 j 80■Financial Policies:Design and Implementation Exhibit 5-2 ■ Fund Balance Policy Components Highly Advisable Advisable Optional I. How financial resources are set aside X for unreserved fund balance II. Determining the appropriate size of un- X reserved fund balance(or budget stabi- lization fund) III. Methods of utilizing unreserved fund X li balance resources • Provides resources to address contingencies; • Maintains good standing with bond rating agencies; • Avoids interest expense; • • Allows additional investment income (when investments are made prudently);and • Ensures a stable cash flow when revenue is unavailable. Other categories of fund balance (categories of reserved fund bal- ance,designations for unreserved fund balance,and surpluses)may be established to indicate both the degree of discretion public managers have over financial resources and the policy priorities of government. Endnotes 1. Local governments,for instance,pay staff salaries during the year at intervals that may not co- incide with revenue collection.Revenues may be collected only once or twice per year. 2. Fund balance as determined according to generally accepted accounting principles(GAAP)is more widely understood and accepted across a majority of local governments. 3. Stephen J.Gauthier,An Elected Official's Guide to Fund Balance and Net Assets:Using the GASB 34 Model.(Chicago,Illinois:Government Finance Officers Association,2002),p.8. 4. Ian J.Allan,"Unreserved Fund Balance and Local Government Finance,"Research Bulletin:Re- search and Analysis on Current Issues(Chicago,Illinois:Government Finance Officers Associa- tion,November 1990),p.1. 5. Gauthier,An Elected Official's Guide to Fund Balance and Net Assets,p.10. 6. Audits of State and Local Governmental Units with Conforming Changes as of May 1, 1998, 12.09 (New York,New York:American Institute of Certified Public Accountants). 7. Rowan A.Miranda and Ronald D.Picur,Benchmarking and Measuring Debt Capacity(Chicago, r Illinois:Government Finance Officers Association,1999),p.49. tt 8. Appropriate Level of Unreserved Fund Balance in the General Fund(2002),GFOA Recommended Practice. O Appropriate Level of Unreserved Fund Balance in the General Fund(2002) • Background. Accountants employ the term fund balance to describe the net assets of governmental funds calculated in accordance with generally accepted accounting principles(GAAP). Budget professionals commonly use this same term to describe the net assets of governmental funds calculated on a government's budgetary basis.' In both cases,fund balance is intended to serve as a measure of the financial resources available in a governmental fund. Accountants distinguish reserved f tnd balance from unreserved fund balance. Typically,only the latter is available for spending. Accountants also sometimes report a designated portion of unreserved fund balance to indicate that the governing body or management have tentative plans concerning the use of all or a portion of unreserved fund balance. It is essential that governments maintain adequate levels of fund balance to mitigate current and future risks(e.g., revenue shortfalls and unanticipated expenditures)and to ensure stable tax rates. Fund balance levels are a crucial consideration,too,in long-term financial planning. In most cases,discussions of fund balance will properly focus on a government's general fund. Nonetheless,financial resources available in other funds should also be considered in assessing the adequacy of unreserved fund balance in the general fund. Credit rating agencies carefully monitor levels of fund balance and unreserved fund balance in a government's general fund to evaluate a government's continued creditworthiness. Likewise,laws and regulations often govern appropriate levels of fund balance and unreserved fund balance for state and local governments. Those interested primarily in a government's creditworthiness or economic condition(e.g.,rating agencies)are likely to favor increased levels of fund balance. Opposing pressures often come from unions,taxpayers and citizens'groups, which may view high levels of fund balance as"excessive." • Recommendation. GFOA recommends that governments establish a formal policy on the level of unreserved fund balance that should be maintained in the general fund.' GFOA also encourages the adoption of similar policies for other types of governmental funds. Such a guideline should be set by the appropriate policy body and should provide both a temporal framework and specific plans for increasing or decreasing the level of unreserved fund balance,if it is inconsistent with that policy.3 The adequacy of unreserved fund balance in the general fund should be assessed based upon a government's own specific circumstances. Nevertheless,GFOA recommends,at a minimum,that general-purpose governments,regardless of size,maintain unreserved fund balance in their general fund of no less than five to 15 percent of regular general fund operating revenues,or of no less than one to two months of regular general fund operating expenditures.4 A government's particular situation may require levels of unreserved fund balance in the general fund significantly in excess of these recommended minimum levels.5 Furthermore,such measures should be applied within the context of For the sake of clarity,this recommended practice uses the terms GAAP fund balance and budgetary fund balance to distinguish these two different uses of the same term. 2 Sometimes reserved fund balance includes resources available to finance items that typically would require the use of unreserved fund balance(e.g.,a contingency reserve). In that case,such amounts should be included as part of unreserved fund balance for purposes of analysis. 3 See Recommended Practice 4.1 of the National Advisory Council on State and Local Budgeting governments on the need to "maintain a prudent level of financial resources to protect against reducing service levels or raising taxes and fees because of temporary revenue shortfalls or unpredicted one-time expenditures" (Recommended Practice 4.1). 4The choice of revenues or expenditures as a basis of comparison may be dictated by what is more predictable in a government's particular circumstances. In either case,unusual items that would distort trends(e.g.,one-time revenues and expenditures)should be excluded,whereas recurring transfers should be included.Once the decision has been made to compare unreserved fund balance to either revenues or expenditures,that decision should be followed consistently from period to period. 5 In practice,levels of fund balance,(expressed as a percentage of revenues/expenditures or as a multiple of monthly expenditures), typically are less for larger governments than for smaller governments because of the magnitude of the amounts involved and because the diversification of their revenues and expenditures often results in lower degrees of volatility. • long-term forecasting,thereby avoiding the risk of placing too much emphasis upon the level of unreserved fund balance in the general fund at any one time. In establishing a policy governing the level of unreserved fund balance in the general fund,a government should consider a variety of factors,including: • The predictability of it revenues and the volatility of its expenditures(i.e.,higher levels of unreserved fund balance may be needed if significant revenue sources are subject to unpredictable fluctuations or if operating expenditures are highly volatile). • The availability of resources in other funds as well as the potential drain upon general fund resources from other funds(i.e.,the availability of resources in other funds may reduce the amount of unreserved fund balance needed in the general fund,just as deficits in other funds may require that a higher level of unreserved fund balance be maintained in the general fund). • Liquidity(i.e.,a disparity between when financial resources actually become available to make payments and the average maturity of related liabilities may require that a higher level of resources be maintained). • Designations(i.e.,governments may wish to maintain higher levels of unreserved fund balance to compensate for any portion of unreserved fund balance already designated for a specific purpose). Naturally,any policy addressing desirable levels of unreserved fund balance in the general fund should be in conformity with all applicable legal and regulatory constraints. In this case in particular,it is essential that differences between GAAP fund balance and budgetary fund balance be fully appreciated by all interested parties. • Approved by the Committee on Accounting,Auditing and Financial Reporting and the Committee on Governmental Budgeting and Management,January 30,2002 Approved by the Executive Board,February 15,2002. • The Government Finance Officers Association • GDLong-Term Financial Planning An Introduction Faced with downward pressures on tax revenues, increasing expenditures, shifting demographics, as well as a host of other complex challenges,local government needs a new approach to planning. The traditional centerpiece of governmental planning,the annual budget, is not suited,by itself, to address these types of challenges due to its inherent tactical and short-term nature. This makes long-term financial planning a powerful complement to traditional budgeting and an invaluable piece of a government's overall planning framework because it provides a long-term and comprehensive financial perspective (Strategic Strategic Plan) that is not available through other governmental planning processes. The Budget Results Evaluation diagram to the right shows how financial planning interacts with other Gong Term traditional components of the planning (Fn) framework to form a complete system. fi Financial planning includes analysis of the financial environment and revenue and expenditure forecasting. However, it also includes a number of other essential features. A plan articulates the service level your government wants to provide to its citizens—this allows you to reconcile financial resources with desired service levels. Through financial • policies,long-term financial planning establishes the standards of financial stewardship your organization aspires to,thereby providing a common language and framework for guiding day-to-day financial management decisions. Financial planning occurs through collaboration between elected officials and staff,thereby producing a shared understanding of service and financial strategy. This understanding allows elected officials and staff to focus their energies throughout the year on the matters agreed to be most important to the on-going sustainability of the community. These characteristics of planning bring a number of benefits: Broader Outlook Good financial planning does not simply project the status quo into the future—rather, you consider a range of possible futures confronting the organization, examine the financial consequences, and determine the most appropriate policy and strategy responses. It is from this broad consideration that the primary benefit of financial planning flows: to stimulate discussion and thinking about the long-term impacts of "Long-term financial planning decisions made today and how your develops a mechanism that helps staff organization can begin positioning itself now to and policy-makers move from a maximize its ability to meet challenges, exploit reactionary mode to one of charting opportunities, and deliver a stable level of the course ahead,preparing for the essential services. pitfalls as well as the successes." Terry McCall,CFO City of Gresham, OR. Page 1 of 3 The Government Finance Officers Association GDLong-Term Financial Planning ( - • An Introduction \] Deliberate Responses A long-term financial plan enables proactive management of government finances,rather than reactive responses to financial crises as they occur. When you develop a long-term financial plan you combine financial forecasting with financial strategizing to identify future challenges and opportunities, causes of fiscal imbalances, and strategies to secure financial sustainability. Improved Allocation of Resources Financial planning brings a long-term perspective to resource availability that is necessary for setting realistic boundaries on what your government can accomplish and helps direct resources to the highest priority activities. A long-term perspective integrates strategic planning and budgeting,enabling you to forecast,predict, and actively communicate challenges before they arise and opportunities before they pass by. The Phases of a Long-Term Financial Plan A long-term financial planning process takes place over phases. These phases are: Mobilization Phase-Setting the Stage for Success Long-term financial planning begins by creating consensus on what the purpose and results of the planning process should be. Mobilization determines the composition of the • project team, identifies the project sponsor, and formulates a strategy for involving important stakeholders. Here you should expect to create a high-level roadmap that helps participants understand how the process will unfold and their role in it. A financial plan must identify the service level preferences of the community because this has important implications for how resources will be spent and how revenues will be raised. A financial plan also articulates critical financial policies, which allow you to set and validate baseline standards for financial "Finally.... a model Long-Term Financial Plan! stewardship and perpetuate The City of San Clemente developed a Long Term structural balance. Based on these Financial Plan 15 years ago and the process would initial activities, it becomes have been much easier if GFOA's resources had possible for you to define the been available then." ultimate purpose the financial plan Pall Gudgeirsson,Asst. City Manager and Treasurer is intended to fulfill. From City of San Clemente, CA expanding services in order to meet growth,to reducing reliance on unstable or low-growth revenue sources, defining the purpose of planning up-front builds shared expectations for the plan and provides the basis for later evaluation of the results. Analysis Phase-Supporting Decisions By properly setting the stage through Mobilization,you are prepared to produce an analysis that supports development of strategies for financial sustainability. In the Analysis Phase,you analyze the financial environment, create long-term revenue and expenditure projections, and analyze debt position. This helps you gain a better understanding of the forces that impact financial stability,potential future imbalances in i Page 2 of 3 The Government Finance Officers Association V Long-Term Financial Planning ( - • An Introduction �] ~ financial position,the causes of those imbalances,weaknesses in financial policies,and threats in the financial environment. Decision Phase-Informed Response After first mobilizing your organization and alerting it to the importance of long-term planning and then analyzing the forces affecting financial stability,you develop strategies to confront anticipated challenges and capitalize on opportunities. These strategies are developed collaboratively between elected officials, staff,and,perhaps, citizens. After developing your new strategies,you evaluate the planning process,celebrate successes, and commit to the tangible steps needed to execute the financial strategies and ultimately achieve and maintain long-term financial sustainability. Credibility and Communication Long-term financial planning is not solely or even primarily a technical exercise. It is essential that different stakeholder groups be actively engaged in the process,endorse the plan and trust the results. A successful long-term financial plan builds in opportunity for meaningful communication with stakeholders like staff, elected officials, and your citizens. A broad base of participation is a proven means for building the credibility of the plan and gaining commitment to financial strategies. • How GFOA can Help You with Financial Planning Long-term financial planning emphasizes the long-term impacts of decisions made today. By making apparent the long-term consequences of decisions through long-range forecasts and financial analysis,financial planning transforms the dialog between decision-makers in your organization by placing the focus of the conversation squarely on financial sustainability. GFOA can lead you through the process of long-term financial planning by providing proven tools and techniques, serving as a trusted advisor, conducting financial analysis,and by working with elected officials and staff to develop strategies for financial balance. If you would like to learn more about how long-term financial planning works and how GFOA can help you,please feel free to contact the GFOA's Research and Consulting Center at 312-977-9700 or at consulting@gfoa.org. Page 3 of 3