Achieving a Structurally Balanced Budget

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BEST PRACTICES GFOA

Achieving a Structurally Balanced Budget

Adopt rigorous policies, for all operating funds, aimed at achieving and maintaining a structurally balanced budget. Most state and local governments are subject to a requirement to pass a balanced budget. However, a budget that may fit the statutory definition of a “balanced budget” may not, in fact, be financially sustainable. For example, a budget that is balanced by such standards could include the use of non-recurring resources, such as asset sales or reserves, to fund ongoing expenditures, and thus not be in structural balance. A true structurally balanced budget is one that supports financial sustainability for multiple years into the future. A government needs to make sure that it is aware of the distinction between satisfying the statutory definition and achieving a true structurally balanced budget.

GFOA recommends that governments adopt rigorous policies, for all operating funds, aimed at achieving and maintaining a structurally balanced budget. The policy should include parameters for achieving and maintaining structural balance where recurring revenues are equal to recurring expenditures in the adopted budget.

As a first step, the government should identify key items related to structural balance. These include:  recurring and non-recurring revenues, recurring and non-recurring expenditures, and reserves.

Recurring revenues are the portion of a government’s revenues that can reasonably be expected to continue year to year, with some degree of predictability. Property taxes are an example of recurring revenue. A settlement from a lawsuit is a good example of non-recurring revenue.

Some revenue sources may have both non-recurring and recurring components. These sources require financials to exercise judgment in determining how much of the source is truly recurring. For instance, a government may regularly receive sales tax revenues, but a large part of its base may be made up of retailers with highly volatile sales. In this case, it may be prudent to regard unusually high revenue yields as a non-recurring revenue under the assumption that such revenues are unlikely to continue, making it imprudent to use them for recurring expenditures. Another example might be building permit revenues in a period of high growth in the community.

Governments should review their revenue portfolio to identify non-recurring revenues and revenues with potentially volatile components, such as the examples above.

Recurring expenditures appear in the budget each year. Salaries, benefits, materials and services, and asset maintenance costs are common examples of recurring expenditures.

Capital asset acquisitions are typically not thought of as recurring because although some capital assets may be acquired every year, they are not the same assets year after year. In general, recurring expenditures should be those that you expect to fund every year in order to maintain current/status quo service levels. In general, a government has a greater degree of flexibility to defer non-recurring expenditures than recurring ones.

Reserves are the portion of fund balance that is set aside as hedge against risk. The government should define a minimum amount of funds it will hold in reserve.2 This serves as a “bottom line measure” to help determine the extent to which structural balance goals are being achieved. If reserves are maintained at their desired levels, it is an indication that the organization is maintaining a structurally balanced budget. If reserves are declining, it may indicate an imbalance in the budget (e.g., if reserves are being used to fund on-going expenditures). It should be noted that reserves levels are not a perfect measure of structural balance, but are a good and readily available measure.

With the forgoing terms defined, a government should adopt a formal policy calling for structural balance of the budget. The policy should call for the budget to be structurally balanced, where recurring revenues equal or exceed recurring expenditures. The policy should also call for the budget presentation to identify how recurring revenues are aligned with or not aligned with recurring expenditures.

For a variety of reasons, true structural balance may not be possible for a government at a given time. In such a case, using reserves to balance the budget may be considered but only in the context of a plan to return to structural balance, replenish fund balance, and ultimately remediate the negative impacts of any other short-term balancing actions that may be taken. Further, the plan should be clear about the time period over which returning to structural balance, replenishing reserves, and remediating the negative impacts of balancing actions are to occur.

Notes:

Note that this Best Practice excludes non-operating funds like capital and debt funds. While governments should ensure that these funds are financially sustainable as well, the specific recommendations found in this Best Practice may not always be a match to the circumstances of non-operating funds.

Please note that the best practice is not advocating that recurring revenues be formally allocated or “earmarked” to recurring expenditures, but rather is advocating that the budget presentation provide transparency as to whether recurring revenues and recurring expenditures are balanced.

Public pensions are mixing risky investments

More than 20 million Americans are covered by state and local government pensions. Unlike the 401(k) plans found in the private sector, these “defined benefit” plans promise to pay retirees a set amount of money every month for the rest of their lives.

For most public workers, these generous programs are a cornerstone of their financial security; for many, they’re one of the main attractions of government jobs. Yet the plans, by their own reckoning, are underfunded to the tune of $1.6 trillion.

The Difference Between a Sustainable Budget and a Balanced Budget

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  A balanced budget isn’t always a healthy one. http://www.governing.com/finance101/gov-what-is-a-sustainable-budget-vs-a-balanced-budget.html BY LIZ FARMER | MAY 12, 2014 This is part of an ongoing series called Finance 101 that explains the basics of public finance for public officials. Most states and many municipalities are legally required … Continued

Unfunded Employee Benefit Liabilities as of 6-30-23

In order for the Town to understand the value of future pension benefit payments, actuarial
valuations are performed each year for the pension plans. The CalPERS actuary estimates the
payments that will be made for all potential retirees from each plan in each future year. The
actuary calculates the present value of future benefits the plan will be required to pay to its
current participants: those still working who will retire in the future, retirees, and those who
have terminated employment but have not yet begun drawing benefits.

The 2022 valuation reports provide the determination of the minimum required employer
contributions for fiscal year (FY) 2024/25. In addition, the reports also contain important
information regarding the current financial status of the plans as well as projections and risk
measures to aid in planning for the future

The Positive Impact That Flows From The Reduction In The Unfunded Pension Liability

There is one other very positive impact that flows from the reduction in the unfunded pension liability, namely a corresponding reduction in the annual required employer contribution made to CALPERs.

I have attached the calculation of the required CALPERs contribution the Town must make for FY 2024. As you can see the amount expressed as a percentage of payroll dollars is 29.97%. Assuming a projected payroll of $13,004,007 that would equate to a total dollar payment of $3,897,300. That’s real cash being spent.