Sunday, January 30, 2011

HIGHLIGHTS of 'Reserve Funds' & 'BENCHMARKING AND MUNICIPAL RESERVE FUNDS: THEORY VERSUS PRACTICE'

ABSTRACT: HIGHLIGHTS of “Reserve Funds” & “BENCHMARKING AND MUNICIPAL RESERVE FUNDS: THEORY VERSUS PRACTICE” are presented with links to the articles. Read for concepts and information only as the former article is specific to New York and the latter article is specific to North and South Carolina.

HIGHLIGHTS of “Reserve Funds” & BENCHMARKING AND MUNICIPAL RESERVE FUNDS: THEORY VERSUS PRACTICE:

“Reserve funds provide a mechanism for legally saving money to finance all or part of future infrastructure, equipment, and other requirements. Reserve funds can also provide a degree of financial stability by reducing reliance on indebtedness to finance capital projects and acquisitions. In uncertain economic times, reserve funds can also provide officials with a welcomed budgetary option that can help mitigate the need to cut services or to raise taxes.”

“A reasonable level of unreserved, unappropriated fund balance provides a cushion for unforeseen expenditures or revenue shortfalls and helps to ensure that adequate cash flow is available to meet the cost of operations.”

“Most reserve funds are established to provide resources for an intended future use. An important concept to remember is that a reserve fund should be established with a clear intent or plan in mind regarding the future purpose, use and, when appropriate, replenishment of funds from the reserve. Reserve funds should not be merely a “parking lot” for excess cash or fund balance. Local governments and school districts should balance the desirability of accumulating reserves for future needs with the obligation to make sure taxpayers are not overburdened by these practices. There should be a clear purpose or intent for reserve funds that aligns with statutory authorizations.”

“...this article suggests that local officials consider benchmarking as an aid in establishing individual city fund balance policies.”

“All of these funds, however, are intended to help local governments accomplish two goals: achieve tax stability and contribute to the orderly provision of services.
Various "rules of thumb" are commonly used to evaluate the adequacy of a local government’s unreserved, undesignated balance. A commonly cited standard is five per cent (5.0%) of annual operating expenditures. Others argue that the standard should be anywhere from one month’s operating expenditures (roughly 8.3% of budgeted operating expenditures) to three months’ expenditures (about 25%).”


“Why does a city need a positive fund balance? …First, a fiscal year is an artificial construct used for budgeting, control, and financial reporting purposes. Expenses do not cease simply because we change fiscal years. A city has to continue to pay employees and operate. Revenues in the new fiscal year often do not come in precisely when they are needed...”

“A second reason for maintaining a positive fund balance is that many governments it as a means of financing large capital expenditures, such as vehicles and other equipment, land acquisition, and buildings or building maintenance projects.”

“Finally, a positive fund balance can indeed serve as a contingency fund which enables the governmental entity to respond to unanticipated events or emergencies during the years.”

“Thus, there are many sound reasons for a government to maintain an adequate fund balance. At the same time, it is also possible for a governmental entity to accumulate an excessively large fund balance. An excessively large fund balance would be one beyond the contingency and cash flow needs of the community in the short term, and which lacks any planned use for other longer term projects or expenditures. In such a case, taxpayers are either paying unnecessarily high taxes or other charges, or they are not receiving an adequate return on their tax dollars in services and facilities. Hence, the need for city policy makers to engage in some type of planning, but also to have some yardstick to use to set a general fund balance policy. One yardstick which can be used is to look at what other cities maintain as a fund balance.”

“What does this mean for local government officials?...First, elected officials need to make a conscious decision about how large a balance they need to cover their cash flow and contingencies each year. Next, they need to anticipate capital outlay and capital project needs and have a plan for financing those needs. If operating revenues are to be used, are such funds available from annual revenues? If operating revenues will be the financing vehicle and the annual budget cannot accommodate those needs, it would be prudent to plan ahead and designate portions of their reserves, or fund balance, to assist in such purchases. Such a decision will give a community time to assure that money is available when those expenditures must be made.”

“The operative word here is planning. Assuming basic liquidity needs are met, the target fund balance range itself is less important than the fact that the community has a policy and periodically gives it conscious review. It is important that the elected officials and staff have given constructive thought to the reasons for maintaining a fund balance, that they have considered what size balance is right for their community, and that they understand and are reasonably prepared to deal with the risks inherent in whatever policy they craft.”

Sources:
Division of Local Government and School Accountability
Office of the New York State Comptroller
Reserve Funds

BENCHMARKING AND MUNICIPAL RESERVE FUNDS:
THEORY VERSUS PRACTICE
By Michael Shelton and Charlie Tyer with the Assistance of Holly Hembree

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