MRSC has joined with Toni Nelson, Small Cities Specialist, State Auditor's Office, Tracey Dunlap, Director of Finance & Administration at the City of Kirkland, and Mike Bailey, Finance Director, City of Redmond, to bring you the "Finance Advisor" column. The "Finance Advisor" will feature a new article each month with timely local government finance information and advice you can use.*

Budgeting Issues - Red Flags You Should Think About

October 2008

By Toni Nelson, Small Cities Specialist, State Auditors Office

For most cities, the creation, review and adoption of the budget is the main focus at this time of year. State law (RCW 35 & 35A) outlines the legal requirements associated with the development and adoption of this vital financial document.

The financial difficulties being felt across the nation are affecting many cities in terms of fewer resources and a greater demand for services. Evaluating levels of service is a key component in developing the budget. In addition we have some red flags that you should consider as you are developing your budget document and analyzing what will be presented for budget hearings:

• Do we have “Ending” cash and investments (fund balance) at the end of the proposed budget year?
• Are we borrowing from our utility funds to balance the general fund budget?
• Are the revenue projections attempting to reflect “potential” growth or grants/loans not yet approved?
• Are the beginning fund balances that are projected for the budget period being used to support the on-going operations of the fund?
• Is the distribution of expenses that are shared by multiple funds being weighted towards the funds that can afford to pay instead of distributing expenses based on the actual use?

While any one of these flags individually may not represent a reason for concern we would suggest that if you do have one of these issues in your budget proposal that you pause for a moment and ask the question “Why?”.

• “Ending” cash – (for a more in depth discussion on this topic, refer to Nov. 2005 MRSC Financial Advisor article), but suffice it to say that if you have “NO” ending cash at the end of the budget year, how will you began the next budget season? Remember to think long term when budgeting. Short sightedness can lead to financial crises especially in years where revenues are not coming in as projected.
• Inter-fund loans - borrowing from other city funds may be appropriate in some cases such as capital purchases for equipment (e.g., computer hardware/software or police vehicles) but if your city is borrowing to make ends meet, you need to re-evaluate. Do you have a short term cash flow issue or a long term level of service concern? If the later is closer to the truth then perhaps it’s time to address your fiscal problem head-on.
• Revenue projections – depending upon the unique characteristics of your community this budget projection can be complex or fairly straightforward. Knowing your city and its revenue potential is vital to developing projections that are meaningful. Smaller cities may have an advantage here but while small is better for gathering accurate data it also has its pitfalls. If a key business owner closes its doors then the impact will most decidedly be felt in city hall. If a major employer in your city is laying off its employees, those individuals may be unable to meet all of their financial obligations in a timely manner such as utilities and taxes. Revenue projections that reflect the current activity of your area is critical to the overall budget process. Any unsupported growth potential in the revenue projections or inclusion of grant income that may or may not be awarded could lead to short falls in the forthcoming budget year. Accurate, documented and supportable revenue projections is the more prudent approach.
• “Beginning” fund balances (refer to Nov. 2005 Financial Advisor article) – should not be used to balance your M&O budget. If you realized one time revenues last year such as building permit fees or retail sales tax associated with construction keep in mind that they are in fact “1” time resources and will not support the city’s on-going expense such as wages & benefits. Beginning fund balances are critical for cash flow purposes, capital reserves and other fiscal considerations but additional discussion should be had if you’re using all of your beginning cash to balance the budget for the upcoming year.
• Distribution of shared expenditures to multiple funds – this issue can be complex and there are as many methods for cost distribution and cost-sharing as there are cities in the State. The key factor in your evaluation is that the distribution of these shared expenses is based on supportable data that is reasonable, accurate and easily communicated to the public. Accountability and transparency is the foundation of good government financial practices. This foundation starts with the budget process.

Budgeting is an annual function for most cities that while short-term in nature it addresses long-term issues. Remember to think long-term and not only budget for next year but for the future as well. If you have tough issues such as some of the red flags mentioned above, open the communication lines and discuss how your city can best meet these challenges. Additional resources available through:

• AWC – Budget Workshops and on-line education materials on good budgeting practices
• MRSC – Publications such as “Revenue Guide” and the annual “Budget Suggestions” along with numerous articles on good budget practices
• Small Cities Assistance Program through the WA State Auditors Office

Toni Nelson is the "Small Cities Specialist" for the Washington State Auditor's Office, providing both on and off site financial training and assistance to smaller cities and towns throughout the state. Ms. Nelson has been working with the Auditors office for 6 years and prior to that was the Clerk/Treasurer for a small town for 9 years. She has co-authored the "Small Cities Manual" a detailed reference guide for new clerk/treasurers on governmental accounting procedures and presents numerous training workshops throughout the state for AWC, WFOA, WMTA, WMCA and local/regional organizations such as EWFOA and SCWMCA. Ms. Nelson is also a member of and conference track coordinator for the WFOA Education Committee.

Mike Bailey is currently the Finance Director for the city of Redmond. Previously he worked as Administrator of Finance and Information Services for the city of Renton and as the Director of Finance for the city of Lynnwood. Mr. Bailey also served as president of the Washington Finance Officers Association and is the Vice Chair of the GFOA Budget Committee. An experienced CPA and GFOA budget reviewer, Mr. Bailey co-founded the annual Budget and Fiscal Management Workshops held each summer. Mr. Bailey conducts numerous workshops and has authored various articles on local government finance, including Effective Budgeting in Washington State Cities published by the Association of Washington Cities.

Tracey Dunlap, P.E. is the Director of Finance & Administration at the City of Kirkland. Prior to joining Kirkland in 2006, she was a principal and shareholder in FCS Group, a regional financial and management consulting firm (14 years). An industrial engineer registered in the state of Washington, she has worked with jurisdictions throughout the Northwest to develop and implement cost recovery and fee strategies, set utility rates, and improve organizational efficiency and effectiveness. Tracey's experience also includes working for a large defense contractor (5 years) and a major financial institution (3 years). She has presented on a wide array of topics for organizations including WFOA, APWA, APA, WABO, and AWC.

*The Articles appearing in the "Finance Advisor" column represent the opinions of the authors and do not necessarily reflect those of the Municipal Research & Services Center.