When Is a Balanced Budget Not Balanced?

The views expressed are those of the author and do not necessarily reflect the views of ASPA as an organization.

By Minchin G. Lewis
November 22, 2024

The answer is: When budgetary gimmicks are used to create the image of balance. The most significant budgetary gimmick is the use of “fund balance” as a revenue item to offset expenditures. This is not an isolated occurrence. Most local governments use fund balance to balance their budgets.

ProMarket, a publication of the University of Chicago’s Stigler Center for the Study of the Economy and the State, reported that according to the most recent United States Census estimates, there are over 19,400 municipalities, 3,000 counties and 12,500 independent school districts. The number one way most local units monitor their fiscal health is through the ration of fund balance to revenues or expenditures. The NYS Comptroller explains: “Establishing and funding allowable reserve funds for a clear purpose can help smooth out spikes in the annual budget and in the real property tax levy.”

What is “fund balance?”

Fund Balance is the difference between the things of value and the amounts that are owed on them. Over the years, the Governmental Accounting Standards Board (the GASB), as the standard-setting agency for all accounting reports, has added many distinctions to the definition of “fund balance.” We now have two sets of “fund balances,” one “accrual based” and the other “cash based.” The first is “Net Assets” found in the government-wide statements. It measures economic resources. The second is simply “Fund Balance” found in the governmental Fund Financial Statements. It focuses on financial resources (cash).

How many “fund balances?”

The ”cash based” fund balance is separated into categories prescribed by the GASB based on the degree to which they are available: Nonspendable; restricted by law; committed by resolution; or assigned by policy including the amount to balance next year’s budget. The remaining amount in the General Fund is “unassigned.” The unassigned fund balance is an indicator that can tell us whether using fund balance is appropriate. Formal reserve funds are subject to the same analysis.

How much “fund balance” is needed?

GFOA has traditionally recommended that the unassigned balance in the general fund be “no less than two months of regular general fund operating revenues or expenditures.”

But tradition changes. According to the Civic Federation, GFOA now cites four reasons why governments should rethink their strategies on reserves. Changes that call for larger reserves result from increasing risks and rising uncontrollable costs. Changes that call for reducing reserves include diminishing public trust in government and improving technology to predict requirements. The New Hampshire Municipal Association advises that “the levels of unassigned fund balance may need to be adjusted as a budget grows and new debt service obligations are issued.” 

The other “fund balance”—the Net Assets

On the surface, especially with the positive effects of ARPA, the question might be “why don’t we use more fund balance?”  The “accrual based” fund balance, labelled “Net Assets,” is just below the surface with a different picture—the financial realities that will determine whether the economic resources will be available to pay the bills that will be incurred if the “cash based” fund balance is used to balance the coming year’s budget.

For example, if a budget is “balanced” by counting on a use of fund balance, there is no clear connection to the government-wide Net Assets. For the City of Syracuse, at June 30, 2023, the total fund balance for the general fund was $139.8 million. The net position of governmental funds at the same time was a minus $147.8 million. The city balanced its 2023 general fund budget by using $15.6 million. But there is no transparent link to determine the feasibility of the city’s action.

Further, as documented by Hou, “fund balances” are the result of many external factors and all the other revenue and expenditure line items. To increase “fund balance” we must increase revenues or decrease expenditures.

Taking the “gimmick” out of fund balances

Transparency and accountability are the best strategies to remove gimmicks. According to the GFOA, “Governments should establish a formal policy on the level of unrestricted fund balance that should be maintained in the general fund for GAAP and budgetary purposes.” The policy sets goals for fund balance levels and specifies the conditions when resources can be allocated from fund balances. “In all cases, use of those funds should be prohibited as a funding source for ongoing recurring expenditures.” 

An additional GFOA recommendation is that the policy includes provisions for replenishing the fund balance. “Revenue sources that would typically be looked to for replenishment of a fund balance include nonrecurring revenues, budget surpluses, and excess resources in other funds….Year-end surpluses are an appropriate source for replenishing fund balance.”

Using fund balance allocations increases the need for monitoring operations during the budget year. Positive variances will increase fund balance. Negative variances will deplete fund balances.

Conclusion

With careful planning, transparent reporting to taxpayers and timely accounting, allocations from fund balance can be budgeted without gimmicks. They can fulfill responsibilities to conserve and protect public resources. Details are in my PA Times article: Financial Reporting: Why we need financial statements.

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Author: Minch Lewis is a part-time instructor at Syracuse University’s Maxwell School. He served as the elected Syracuse City Auditor for 9 years. He has developed and installed financial management systems for the affordable housing industry. He earned his MPA degree at the Maxwell School. He is a Certified Government Financial Manager (CGFM). He can be reached at [email protected]. 

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