Category Archives: Municipal economics

Forecasting Property Tax Base

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This week we conclude our series on property taxes by introducing our method for forecasting municipal property tax base if you want to build your own property tax forecast. We have used these variables to build models to support municipal budgeting and they should be helpful for any community in North Texas.

Components of the Tax Base

When doing the forecast you will get more accurate results by creating separate forecasts for the three major categories of property tax base: commercial real property, residential real property and business personal property. Many economic indicators are logical predictors of property tax base, but the following have consistently been statistically significant and contribute to more accurate forecasts.

Variables for Forecasting Commercial Real Property

Three indicators have been effective in forecasting commercial real property. The first is historical commercial real property tax base. This information can come from old budget documents or from your central appraisal district. The second variable is total commercial construction. This can also be obtained from the appraisal district for past years, but another good source may be your municipal building inspection permit data. One or the other may be significant for your community. The final variable is a national statistic, annual gross domestic product (GDP.) This indicator picks up the overall national business cycle, which can have an impact on commercial finance and employment trends which, in turn, influence local demand for real estate and drive up or depress local property values.

Variables for Forecasting Residential Real Property

We find four variables are significant predictors of residential property tax base. The first is historical residential tax base. The second is municipal population. This can come from the Texas Demographic Center. You may need to do your own estimates to obtain the most recent annual values. The third variable is your property tax rate. The final indicator is a national statistic and a subset of the gross domestic product called residential investment. This indicator represents the national housing business cycle and has proven to be a statistically significant predictor of residential tax base in the DFW area.

Variables for Forecasting Business Personal Property

For most cities, business personal property is the smallest of the three tax base categories, but we found it is the most complicated to forecast. We have settled on five indicators that are necessary to predict it. The first is historical business personal property. The second is the Texas Business Cycle Index, which is compiled by the Federal Reserve Bank of Dallas. The third variable is the vacancy rate for retail real estate. You can obtain this from one of the commercial real estate data vendors. A second real estate variable, and the fourth in our model, is total occupied commercial inventory (office, industrial and retail). Finally, annual gross domestic product is also important.

Running the Forecast

We have been using this mix of indicators for many years to track local tax base performance. The art of forecasting means experimenting with various functional forms of these and other variables until you find the equations that do the best job of explaining your city’s historical tax base change. It is best if you build the forecast model in a statistical software program like Eviews or STATA. Once you have finalize the forecast models you can transfer them to Excel to do sensitivity analysis and run scenarios. If you want to learn more about our process let us know. You can use our contact form.

Next week we begin a series on measuring economic wellbeing and how and why economists developed widely used indicators like gross domestic product.

Changing Tax Base in Dallas County

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This week we review changes in property market values and tax base for 25 cities in Dallas County since 2007. This builds on the analysis throughout the last month focusing on the property tax and its importance to local cities. Last week we looked at the structure of the tax base in our 25 cities on the eve of the Great Recession in 2007. Since then, there has been substantial change in the local economy.

Total Taxable Value

Our 25 cities saw their combined tax bases grow by 30 percent between 2007 and 2016. The average change for these cities was 45 percent and the median change was 27 percent. The largest and smallest changes were 308 percent and 3 percent, respectively.

Residential and Commercial Changes

Because of some changes in reporting over the period, it is difficult to calculate an accurate change in tax base by commercial and residential categories. Instead, we can present the changes in market value for these categories.

The combined residential market values for the 25 cities grew 29 percent from 2007 to 2016. The average of the individual city changes was 24 percent and the median of the city changes was 27 percent. There was considerable variation across the cities, with the largest increase being 143 percent and a decline of 8 percent on the other end of the scale. The changes for the 25 cities in shown in Figure 1.

Figure 1. Change in Residential Market Value 2007 to 2016.

On the commercial side, the total change for all 25 cities combined was 43 percent. The average of the city changes was 76 percent and the median was 43 percent. There was a very wide range of growth rates across the cities. The largest increase was 533 percent and the smallest increase was 16 percent. The change in commercial market value is shown in Figure 2.

Figure 2. Change in Commercial Property Market Value 2007 to 2016.

Change in Commercial Share of Market Value

Between 2007 and 2016, most cities saw the share of total market value in commercial property increase. That is, commercial property grew in importance compared to residential property. The average change for the 25 cities was a 5-percentage point increase in the share held by commercial property. The median increase was 3-percentage points. The largest shift was a 26-percentage point increase in commercial property’s share of total market value. The largest decrease in share of commercial property was 1 percentage point. The change in the share of property values in commercial property are shown in Figure 3.

Figure 3. Change in Commercial Property’s Share of Total Market Value 2007 to 2016.

Dallas County Property Tax Base Structure

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Introduction

We continue our series on the property tax in 25 cities that are primarily in Dallas County. This week, we look at the structure of our cities’ tax bases. That is, how it is distributed in terms of residential and commercial tax base and the extent to which cities have exempted their tax bases for various policy reasons. We are presenting the data from before the start of the Great Recession, 2007. The structure of the tax base can have important impacts on the behavior of local governments. Next week we will look at how these cities’ tax bases changed since 2007 by adding in the data for 2016.

Market and Taxable Values

Taxable values are what counts for delivering local government revenue. Taxable value can differ from market value because of exemptions that local governments offer. These include homestead exemptions and tax freezes on single family residences and various economic development abatements on commercial property, among others. Because each city council sets these exemptions, we can expect the taxable share of property to differ from city to city. This is the case. Figure 1 summarizes the situation for the combined tax base of all 25 cities.

Figure 1. Taxable Share of Different Sectors Varies

When looked at individually, our cities have total taxable values, as a percent of total market value, that range from a low of 68 percent to a high of 93 percent. The average of the 25 cities is 85 percent and the median is a little higher at 87 percent. Figure 2 compares the taxable shares of market value for the 25 cities.

FIgure 2. Taxable Portion of Real Estate Varies by City

The property tax rolls are summarized into three broad categories of property: real commercial property and real residential property include land and improvements (buildings.) The third category is business personal property, which is other income-generating property.

Just as cities present different overall taxable shares, the fraction of property that is considered taxable across property types differs even more. For commercial real property, there is a very wide range. The low and high percentage that is taxable runs from 37 percent to 93 percent. The average taxable amount for commercial real property is 74 percent and the median is 79 percent.

For business personal property, the range is from a low of 53 percent to a high of 100 percent. The average and median percentages are 90 and 97 percent, respectively.

Finally, for residential real property, the share that is taxable varies from a low of 72 percent to a high of 98 percent. The average rate for all cities is 88 and the median is 91.

Share of Tax Base by Sector

Our cities tax bases show different concentrations of commercial and residential. This is because business and residential activity is not uniformly distributed across the region. There are major business centers in the county, such as downtown Dallas, Richardson and Irving. Cities without such a business center or that lack significant highway frontage will have relatively small business tax bases. This means that the residential segment of the market will have to shoulder the burden of supporting property taxes.

The share of commercial real property ranges from 5 percent to 68 percent. The average is quite low at 28 percent. The median share is 26 percent. Business personal property is roughly, but not perfectly, distributed where the commercial real property is located – with an 82 percent correlation between the two.  To get a truer comparison of residential and commercial tax burdens should combine commercial real and business personal property. When we do that, we see that the total share of the tax base in these combined sectors runs from 7 percent to 86 percent, quite a wide range. The average share for these two combined is 41 percent, with a median of 39 percent. So, in general, our cities have more of their tax base in residential property than in commercial property. Actually, only eight of the 25 cities have a majority of their property tax base in commercial property.

Necessarily, the residential tax base makes up what is left. The range runs from a low of 14 percent to a high of 93 percent. The average for all the cities is 59 percent. The median is 61 percent.

Figure 3 shows the share of taxable value that is commercial + business personal property and residential real.

Figure 3. Cities Differ in Their Commercial and Residential Mix

This is the tax base structure our 25 cities had on the eve of the Great Recession. This is what their management and councils had to work with as local property markets began several years of declines. In many cases, the local choices were influenced by these tax base differences. Next week we will see how these cities’ tax bases had changed by 2016 and several years of recovery.

Tax Base in Dallas County Cities

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Introduction

Last week we looked at historical changes in the tax rates of 25 cities that are all or primarily in Dallas County. This week we review changes in the tax bases of those cities since before the Great Recession. The cities included in this analysis are: Addison, Balch Springs, Carrollton, Cedar Hill, Cockrell Hill, Coppell, Dallas, DeSoto, Duncanville, Farmers Branch, Garland, Glenn Heights, Grand Prairie, Highland Park, Hutchins, Irving, Lancaster, Mesquite, Richardson, Rowlett, Sachse, Seagoville, Sunnyvale, University Park and Wilmer. These cities vary dramatically in size. Though all saw their tax base grow, their performance also varied. Much of the growth in recent years was making up for loses following the Great Recession.

Total Tax Base

These 25 cities had a total taxable value of over $238 billion in 2016. This was a $57.2 billion increase over 2007 when their combined tax base was $183.7 billion. That was the year before the financial crisis and the beginning of the Great Recession. That change represents a 32 percent increase.

These cities vary in size, with 2016 tax bases ranging from $93 million for the City of Cockrell Hill to almost $109 billion for the City of Dallas. The five largest cities account for 72 percent of the taxable value in 2016. It takes the 14 smallest city tax bases to account for 10 percent of the total taxable value.

Changes in Tax Base

There are three benchmarks that we can use to evaluate the changes in individual city tax base since 2007. First, the absolute change in total taxable value for the entire county was 32 percent. The larger cities have a major influence on this total change. Indeed, the average change for the five largest cities was also 32 percent.

The average of the changes for all 25 cities was 45 percent. The slowest growing city saw an increase of just 3 percent, in Mesquite. The fastest growing city, Wilmer, had an increase of 308 percent over the period.

A final comparative metric is the median change, which was 27 percent. This implies that half the cities saw their tax base grow faster, and half grew slower than 27 percent.

Figure 1 shows the 25 cities in order of their percentage increase. Most cities had growth rates below 50 percent. The 45 percent average is pulled up by the very high growth rates of several small cities.

Figure 1. Percent Growth in Tax Base for Cities in Dallas County

 

Figure 2 keeps the same order for the cities, but shows the absolute increase in tax base. Figure 2 puts into perspective that the City of Dallas, as by far the largest city, has contributed the most to the total increase. The City of Dallas accounted for 44 percent of the total growth of the 25 cities. Irving and Richardson saw the second and third largest tax absolute growth in tax base.

Figure 2. Absolute Growth in Tax Base for Cities in Dallas County

Decline and Recovery

Comparing the difference between 2007 and 2016 misses the important changes that happened annually after the economic downturn. During this interval, these communities actually experienced four years of declining tax base after the onset of the Great Recession. The tax base in the Dallas County portion of these cities fell an average of almost $5 billion each year between 2008 and 2011. This was followed by growth in tax base for the last five years. Forty percent of the growth in the last five years was simply making up for lost tax base from the Great Recession. The annual changes for the Dallas County portion of these cities is shown in Figure 3.

Figure 3. Total Change in Tax Base for Dallas County Cities

*Includes the Dallas County portion of the 25 cities. Small sections of several communities are located in surrounding counties.

Next week we will continue our examination of the property tax base and rates for our Dallas County cities.

Property Tax Rates in Dallas County Cities

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Introduction

Tax rates are probably the most important policy decision a city government can make. These rates determine the scope and scale of the city services that the community can afford. The needs of businesses and households differ, and those tax rates are an important signal to them about the type of government services and level of operations they might expect in that community. The property tax is especially important in Texas. This post will summarize how the property tax rates of cities in Dallas County have changed over the last two decades. Tax rates have generally increased in Dallas County, but these increases have been concentrated in some cities and happened during certain periods.

Setting Tax Rates

According to the Texas Municipal League, 89 percent of cities and towns in Texas impose a property tax. This tax accounts for 41 percent of all municipal revenue in the state. The property tax is the most flexible revenue source available to a municipality. The city council may set a tax rate without the need for a referendum. Case law has also shown that the property tax rate, if imposed according to state law, is not subject to repeal by any voter initiative. Before imposing a rate, the city council must approve a budget that reflects a property tax. Upon adoption of that budget, the council votes to set a tax rate. As long as the annual increase in that tax is less than 108 percent of the effective tax rate, the levy is not subject to potential voter challenge. The effective tax rate is the rate that would bring in the same revenue as last year given the changes in appraised values. Senate Bill 2 is now under consideration by the Texas House of Representatives and would reduce the trigger for a roll-back election to 105 percent.

The maximum tax rate a city may impose varies according to its classification under state law. Home rule cities, essentially those operating under their own charter, may impose a rate up to $2.50 per hundred dollars of property value. We are not aware of any city in the state that has imposed a rate anywhere near that level. Most cities have rates that are less than a third of that.  General law cities, depending on type and population, have various maximum rates: Type A over 5,000 population, $2.50, under 5,000 population, $1.50; Type B, 0.25; Type C cities’ maximum rate varies between $0.25 and $2.50, depending on population.

The Data

The following analysis is based on tax rates for the 25 cities that are primarially in Dallas county. These cities are: Addison, Balch Springs, Carrollton, Cedar Hill, Cockrell Hill, Coppell, Dallas, DeSoto, Duncanville, Farmers Branch, Garland, Glenn Heights, Grand Prairie, Highland Park, Hutchins, Irving, Lancaster, Mesquite, Richardson, Rowlett, Sachse, Seagoville, Sunnyvale, University Park and Wilmer. Portions of many of these cities lay in surrounding counties, but they are required to impose a uniform tax rate on all their jurisdiction. The same tax rate applies to all property types: residential, commercial and personal property. We obtained historical tax rates from the Dallas Central Appraisal District for 1998 to 2016. These tax rates were in effect for the fiscal years immediately following. For example, the 2016 tax rate was used to collect property tax revenue for the fiscal year that ends in September 2017.

Changes in City Tax Rates

In Dallas county, property tax rates are generally higher today than in 1998. The average tax rate in 1998 was 0.5772. The average rate in 2016 was .6677. This amounts to an increase in the average rate across all cities of 9 cents per $100 in property value. The median tax rate, that is the rate of the city with the middle tax rate, grew about 8 cents over the period.

This growth was not uniform. The pattern of increase since 1998 is a stair step. Tax rates increased after the 2001 recession and remained level until the Great Recession, when they increased again. This is evident in Figure 1, which shows the median tax rate over the period.

Rates increase after recessions in 2001 and 2008.

The property tax base responds slowly to economic recessions. As the economy declines, appraisals tend to take several years to fully reflect the impact of the downturn. When we look at the five years following the last two recessions, we can see how these Dallas County cities responded. Five years after the 2001 recession, 12 of the 25 cities in Dallas county had higher tax rates compared to the year of the recession. These cities increased their rate by 7 cents on average. Five years after the Great Recession, 18 of 25 cities had higher rates five years later. Their average increase was 8 cents. This is similar to the pattern nationally, where cities struggled with declining appraisals for three years following the end of the recession.

Another interesting feature of this data, is that the difference between the highest tax rate and lowest tax rate each year also increased, especially after the Great Recession. See Figure 2. This gap became dramatic in recent years and probably reflects a combination of factors and sharp tax rate increases in just a few cities.

The range in tax rates across cities has increased in recent years.

Tax rates have changed in Dallas County for many reasons. In some cases, increases in tax rates were a response by cities to recessions. Many of these cities also decreased the rate of growth in their budgets and cut many programs. In other cases, taxes were increase to accommodate higher debt loads. Most cities in Dallas County are relatively mature and have streets and water mains that are reaching the end of their useful life. Decisions about operations and infrastructure will continue to weigh heavily on local leaders.

Next week we will look more closely at the tax base of these cities to better understanding reasons for these tax rate changes.

Texas Property Tax: The Big Picture

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Introduction

This month, we will take an in-depth look at property taxation in Texas. The property tax is the most important source of revenue for Texas cities, accounting for almost half of municipal revenues. The property tax is the primary local revenue source for local school districts. This time of year, property owners will receive their appraisals from their local central appraisal districts’ (CADs.) A certified tax roll will be delivered to local governments in July. That tax roll will be used by city councils, school boards, county commissioner’s courts and various special districts to set property tax rates for the upcoming budget year. This week, we will provide a high-level review of property taxation in Texas for local leaders. In following weeks, we will examine trends in property tax based and rates in the DFW area and methods for forecasting property tax revenues.

History of Property Tax in Texas

Josh Haney provides an interesting history of the property tax in Texas. This tax, in place since before Texas independence was a huge source of both state and local revenue. For much of early statehood it amounted to more than half of state revenues. With local responsibility for administration, tax appraisals varied wildly from community to community. A standardized system, that ended state use of the property tax, also created the local appraisal districts in 1982. This gave us the current form of property taxation still in place today, though numerous statutory and constitutional changes have refined it.

Tax Year Cycle

The property tax cycle can be divided into four phases. Appraisal districts are required to appraise properties based on their value as of January 1 each year. CADs generally complete this process by the end of April and notify property owners of their appraisals. The CAD will also provide local jurisdictions with this preliminary information by the end of April so cities, counties, school districts and special districts can draft their budgets for the following year. This information informs decisions for operating and capital budgeting. Next, property owners can protest their appraisals. Appraisal review boards will complete these disputes by July. CADs must provide local taxing jurisdictions with a certified property tax base roll by July 25th. This value will be used by local governments to finalize budget preparation and set a tax rate. Local governments must set this tax rate after approving the budget and before September 30. The final phase of the tax year begins on October 1 when tax bills are mailed to property owners. Payment is delinquent on February 1 the following calendar year.

Truth in Taxation: Effective Tax Rate and Roll-Back Rate

The concept of truth in taxation, embodied in the Texas Constitution and state law essentially permits taxpayers to assess their property tax burden and influence the local political process that sets budgets and tax rates. The effective tax rate and the roll-back rate are important concepts under truth in taxation.

The effective tax rate is a hypothetical tax rate that would bring in the exact same amount of revenue as collected by local government in the previous year. This rate can change from year-to-year because it depends on changes in appraised values of existing property. If previously existing property appraisals are higher, then the effective tax rate will be lower than last year’s official tax rate. If property appraisals have fallen, such as during a recession, then the effective tax rate will be higher than last year’s official tax rate. The rate is calculated by excluding the value of new real estate constructed during the previous year.

The roll-back rate is a buffer to growth in property taxes that can be implemented by local taxpayers. It reflects the maximum tax increase a city government can adopt for its upcoming budget year without risking a roll-back election. According to the Texas Municipal League, there are half a dozen roll-back elections annually and a small majority are successful in rolling back the tax rate. The roll-back at the time of this writing is 108 percent of the effective tax rate. That means, that a city council can chose to adopt a property tax rate that is equal to or less than its effective tax rate without risk of a roll-back election. Rates set above 108 percent of the effective rate can trigger a citizen petition to call a roll-back election. Proposed legislation in the 2017 Texas Legislative Session would change the roll-back rate to 104 percent and make a roll-back election mandatory, without a petition.

In addition to excluding newly constructed property from the calculations, the effective and roll-back rates only apply to the portion of the tax rate that supports general government operations. The fraction of the tax rate that supports debt service (called interest and sinking or I&S) is not subject to the roll-back provision.

Statewide Trends in Property Values

Property taxes are generally calculated at the local level, by appraisal districts, for each taxing jurisdiction in the state. Changes in property tax bases can vary dramatically from community to community depending on local economic conditions. Given the overall importance of the property tax to local governments, we would like to have some baseline to easily compare tax base performance across the state. The Texas Comptroller provides us with a reasonable metric. It is charged with evaluating the appraisals made by local CADs for all the independent school districts in the state. The primary purpose of the property value survey is to support calculation of state funding formulas for K-12 education. It is not comprehensive, but provides some details to study statewide property tax base trends.

Based on these reports, between 2011 and 2016, the total taxable value of real and personal property in Texas grew 32 percent from $1.7 trillion to over $2.2 trillion. The annual increase was relatively consistent each year at over 5 percent. By comparison, for single-family homes, the statewide total has grown by 39 percent over the same period. Home property values, presented an increasing growth rate in recent years. This seems to reflect home price increases we have seen throughout the state. Annual increases in the last three years have exceeded 9 percent. Next week we will expand our analysis and take a closer look at DFW cities.

Placemaking for Sustainable Development

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Introduction

Communities everywhere are looking for ways to strengthen their economic competitiveness and to do so in less wasteful and more sustainable ways. Placemaking and branding are sometimes considered too ephemeral to be a development strategy, yet, they are very cost effective. Given the importance of retaining and attracting talent, placemaking can be the centerpiece that helps coordinate and give other development tools coherence.

What is Sustainable Placemaking

Local leaders should think about placemaking as a process of facilitating the collective private initiatives of businesses and residents in each neighborhood. This may seem counter to the common notion that placemaking is a way of making your community more attractive to those fickle and footloose creatives. We believe that the sustainable success of every community will come from those who are already there and those who may want to join them in raising families and building local businesses. So the primary goal of placemaking is to do things that make the community better for those already there.

Placemaking and branding isn’t about turning a community into something it is not. It is about helping communities make the most of what they have, nurturing a shared vision that attracts local private interests to make their unique contributions. The community will experiment and generate businesses to meet the needs of the local neighborhoods. Some will fail, but others will survive and over time the business community will be fine-tuned to the needs of local and visiting customers.

Placemaking is important to making our cities and towns more sustainable because it increases the power of local businesses and residents to succeed in ways that reinforce local assets and nurture uniquely appropriate ventures to each community. These kinds of neighborhoods will have a much easier time satisfying their needs with locally grown businesses employing local residents.

The private sector does most of the placemaking. Local government can still help coordinate, reform regulations and provide small scale incentives that help guide private efforts in ways that multiply the impact. We recommend a bottom-up approach where local leaders engage the community to encourage competitive experimentation. These experiments can take a variety of forms, but they share a few things in common. First, they are the idea of residents and businesses, not outside consultants. Second, they should be small scale.

Placemaking only works at a fine-grained level. Generally, the place is somewhere that can be explored on foot. This reinforces people’s perception of the area as a place. It is hard to create a sense of place if you have to drive from venue to venue. Cities and larger districts can be supported by branding efforts. Branding can help communicate the assets of a place, but is secondary to place making. We always recommend that when working on a placemaking effort that the stakeholders actually walk it. They should also watch how others walk it.

Two Placemaking Tactics

Once you have engaged your community, it is okay to give them some broad parameters or concepts if they have trouble identifying some immediate initiatives. Two options include improving local connectivity and events.

Building connections helps local residents take advantage of existing assets. Most neighborhoods have separated land uses. In many cases, however, these land uses are nearby. Yet, they lack the physical infrastructure that would permit households and businesses to more easily access each other. There are often relatively low-cost ways to lower the barriers to connecting uses. This can increase value for residents and businesses. Ask what connections the community thinks would be most valuable. You can also observe pedestrian patterns to see where people are trying to overcome a failed public infrastructure. The presence of dirt paths along roadways or through abandoned parcels is a clear sign that pedestrians are trying to make connections. Painting crosswalks and other visual ques that let drivers know the route is used by pedestrians improves safety. Where low-cost interventions improve connectivity, and increase use, in the next round, the community may decide to reinforce these links with more permanent fixes like better signage, lighting and sidewalks.

Placemaking can be facilitated by regular events. Events can help build social capital in a community. These need not be extravagant. Indeed, they should start small with little cost. Gather the stakeholders and ask what they would like to do. With a small budget, several experiments can be tried by different interests in the neighborhood. The successful ones can be singled out for additional support. In every case, however, these programs will be more sustainable if they grow organically. Planning a first time, major blow-out event is a good way to build excitement that is hard to maintain the following year. Financial sustainability is also hard to maintain when you start with a big budget in year one.

Placemaking strategies are focused on helping a neighborhood identify its strengths and opportunities and make the most of its assets. Every neighborhood is unique and they will vary in their successes. Regardless of its potential, every neighborhood can become a sustainable, identifiable place. This gives its residents a sense of pride and makes a net contribution to the social, economic and fiscal sustainability of its home city.

Being a Fiscal Impact City: Long-Term Planning

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Introduction

In recent weeks we looked at how adopting a fiscal impact approach to operating and capital budgeting can help a community make more sustainable choices. This week we apply the same logic to long-range fiscal planning.

Framework for Long Term Planning

Long range planning, according to the National Advisory Committee on State and Local Budgeting (NACSLB)  is a process to assess the long-term financial implications of current and proposed policies, programs, and assumptions. This process creates appropriate strategies to achieve a community’s long-term goals. Though finance officers and budget managers are daily working with a city’s budget, revenue and operating numbers, financial planning expands their awareness of how these statistics relate to each other and to external variables like economic indicators and demographic trends. Taking a long-term perspective helps these local leaders improve their awareness of options, potential problems, and opportunities. The range of issues that they can examine with this approach includes revenues, expenditures, and the service implications of changing or eliminating programs or adding new programs, services, or debt.

A summary of the key steps should include:

  1. Analysis of financial trends
  2. Assessment of problems or opportunities facing the city and potential actions to address them
  3. Long-term revenue and spending forecasts
  4. Consideration of how these trends relate to citywide and departmental goals set out in strategic or comprehensive plans

Such a process is not just a forecast. It engages all internal departments, key external stakeholders and the general public in so far as all these have some role in setting and helping achieve key goals.

The NACSLB identifies several best practices that can support the long-range planning process including:

  • Prepare multi-year revenue and spending forecasts using a variety of methods
  • Evaluating and understanding how changes in the tax base and revenues will impact city operations
  • Examination of tax exemptions, incentives and other policies that can reduce revenue
  • Prepare multi-year projections of spending for each fund and for current and proposed programs
  • Evaluate revenue and expenditure options together, and present these relationships so elected officials and the public can understand the implications of changes in service levels and revenues and how they can impact each other.

Role for Fiscal Impact Models

Other best practices are also presented in the report. For our purposes we want to highlight how fiscal impact analysis can help tie these steps and practices together. The goal is to improve fiscal sustainability with the model, not just use it to evaluate individual projects. Using a full fiscal impact model is the most direct way to use this process to analyze revenue, spending and economic data in ways that help policy makers and the public understand the consequences of budgeting decisions. These decisions may appear harmless when looked at in an annual budget presentation. A community risks making very wasteful and politically damaging decisions without taking a longer term perspective.

First, a good fiscal impact model will make use of extensive, custom information on the city’s spending, revenue and staffing. This detailed data is the only way to make meaningful and accurate predictions of the consequences of changes. At a minimum, the historical data in the model should include enough years of data to see how they budget and how revenues change in good and bad financial times. A full business cycle is a good starting point.

Second, the model will connect these municipal financial statistics to activities in the real economy. Service costs will change based on the population, employment level, industry mix and physical form of the city. As these external factors change, local leaders need to be able to predict how their service demands and resources are likely to change, too.

Third, the model should give local leaders a projection that is long enough to help them make good decisions. A five to ten-year projection is usually adequate for most operations and department-level variables. For capital infrastructure or other longer-lived decisions the projection should go out at least as far as the infrastructure is expected to last and to include maintenance and replacement costs.

Because of these features of a good fiscal impact model, a city can combine its revenue, operation and economic forecasting in a single package that will help the community understand where they stand in terms of their goals and the means to achieve those goals. As always, there needs to be extensive citizen engagement in these processes so that when setting sustainable goals, local leaders can win the support of the community. When the community understands the consequences of these choices, and what can happen when there is a downturn, it will be easier to stay the course.

Being a Fiscal Impact City: Capital Budgeting and Asset Management

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Introduction

Last week we saw how adopting a fiscal impact perspective with the operating budget improves municipal sustainability. Even without doing formal analysis on every project, local leaders can start helping the community think in terms of the long-range costs and benefits of city service levels. This week we turn to capital budgeting and capital asset management. Fiscal impact analysis will help a community align its vision with long-term sustainability. Capital assets – long-lived investments such as buildings, infrastructure or equipment are essential to delivering municipal services. They enabling the private sector to operate more effectively. Unfortunately, many communities have over invested in infrastructure given their tax base. Many also fail to properly manage these assets – either because they find that their tax base cannot support appropriate maintenance or because they don’t have simple procedures to help them get a handle on their real capital needs and costs.

Framework for Capital Budgeting

To begin with, cities should have formal policies set out in a capital budgeting process. Even when cities have good processes in place, they tend to run them in isolation. This makes it harder to learn about community needs and the economics of different ways of satisfying those needs. Without going into too much detail, capital budgeting and management process should include clear definitions of what counts as a capital project and what doesn’t. It should also include common sense policies like making sure the city covers maintenance costs first and isn’t doing deferred maintenance on some assets while trying to build new capital projects. It should look at the total lifecycle costs of the assets. That includes routine maintenance and the staff and materials to run and repair the asset. The process should also include metrics for asset performance that are related to the community outcomes the city wants to impact. There needs to be extensive citizen involvement and the process needs to be linked to other major plans like the city strategic plan and comprehensive land use plan.

Cities have been building up their capital assets over decades if not centuries. Often, documentation was an afterthought. It can be a considerable task just to inventory existing assets, but it is the necessary starting point to understand long-term costs and needs. Above the ground assets like streets, buildings, signs and street lights are relatively easy to address. Unseen assets like water mains, wastewater and storm water systems and other utilities are more difficult to inventory. Once the process is in place and the existing assets are mapped how can fiscal impact analysis support long-term sustainability?

Using Impact Analysis for Sustainability

Communities should invest in assets because they help deliver services. Impact analysis helps communities evaluate capital assets in the context of those services. This helps build a strong conceptual link between the city operating budget and the capital budget. Sustainability requires that all the costs of a service be accounted for, and they need to be covered by adequate revenues. Failure to do this is leads to deferred maintenance. They looked at operating and capital costs in isolation and didn’t try to understand how each service and its associating capital resources contribute to the total municipal budget burden. Fiscal impact analysis is a framework that can integrate these two dimensions of the capital decision. At a minimum the analysis should consider four dimensions when evaluating existing capital assets or evaluating potential new investments:

  • The source of funding and its appropriateness to the life of the asset
  • Potential impacts on the supply of the associated service from changing technology
  • Changes in the demand for the service from demographics and economic trends
  • Legal and regulatory issues that may impact the supply or demand for the service

This type of analysis will give decision makers an idea of the cost effectiveness of the asset in question relative to the desired goals. Fiscal impact analysis can help answer several other key questions:

Is the current production process for a municipal service cost effective long-term (this requires including both operating costs and the associated capital equipment?)

Can the government afford to maintain and eventually replace the capital assets? Our cities are full of underused and abandoned capital projects because of poor planning or a misguided belief that the investment responded to a long-term need. Entertainment and sporting venues are prime examples.

Can the city achieve its vision and performance goals with the approach being proposed? Just because the city has always provided a given service does not mean that the old way is still cost effective or effective at all. There are many public, private and hybrid methods for delivering a given service.

Finally, what are the costs of deferred maintenance? How much deferred maintenance can the asset survive, and for how long before its functioning is compromised? For example, Road quality degrades in a nonlinear fashion. There is a gradual decrease in road performance for several years, then, in a very short time, a road will rapidly decay. Cities should understand the consequences of not maintaining their assets.

A fiscal impact model can help decision makers understand the answers to these questions. Such an analysis documents the full lifetime costs of a capital asset or an entire class of assets. These costs can be compared to the overall municipal tax base. Most communities will enjoy many years of near-maintenance-free benefits from their new capital investments. Eventually, they will face the choice of either maintaining those assets or letting them degrade. Failing to maintain an expected level of service reduces the desirability of the community. The response from the private sector may be a swift loss of confidence in the local government. This can start a downward spiral that the community may not recover from. It is too easy for families and businesses to vote with their feet. Building a fiscal impact process into capital budgeting is very cost-effective insurance against this unhappy outcome.

Becoming a Fiscal Impact City: The Budget

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Introduction

Once you decide to become a more sustainable organization by becoming a fiscal impact city, and have had the serious conversations we recommended last week, what’ next?

A good place to start is with your budget process. Budgets are an ever-present feature of local governments. Most cities are either in the process of planning for, developing, approving, implementing or reviewing their budget. The calendar is full of budget-related responsibilities, actions and deadlines. In too many communities, the budget process dominates everything else puts staff into a continuously reactive mode. They may be focusing more on the internal demands of the budget process than on trying to connect their resources and processes to solve community challenges.

With some minor changes, your budgeting process can be reoriented into a tool to improve long-term organizational sustainability and a way to proactively help you realize your community’s vision. There will still be hard decisions. Community engagement and politics will still be a central part. The rest of this post shows how a budget process can be gradually reformed through using a fiscal impact mindset. The result will help cities realize their community vision and build a more sustainable organization.

A Framework for Budgeting

As a reference point, we will be using the budget framework developed by the National Advisory Committee on State and Local Budgeting. This framework, set down almost twenty years ago, is still one of the best starting points for local leaders who want to be proactive and focus on long-term sustainability. We will give a quick overview of this framework then talk about how a fiscal impact mindset can work in it to turn budgeting into a true tool for organizational sustainability and community prosperity. Though they define budgeting as the planning, implementing and evaluating the provision of services and capital assets, we limit our discussion this week to the operating budget. We will look at capital budgeting in a later post.

Qualities of a Good Budgeting Process

The National Advisory Council emphasized the need for budgeting to go beyond annual balancing of resources and options. They intended their report to help governments upgrade all phases of budgeting: planning, development, adoption and execution. To begin with, the entire budget process should be goal-driven. These are goals beyond preserving departmental operations with given resources. The critical difference in a good budgeting process is that it starts with community needs, vision and issues. These should motivate the government’s quest to create a suite of services that can meet those needs, realize that vision and address the issues that are most important. The budgeting process sheds light on cause and effect, the real issues, so management and elected officials can make the tough decisions and tradeoffs that are always necessary because resources are limited.

In addition to being linked to goals, they emphasize that a good budget process:

  • Takes a long-term perspective – cities should look at impacts of budget decisions over many years and use the process to determine the sustainability of programs and services.
  • Is focused on outcomes and results – the outcomes of the resource allocation process are the services the city provides. These should have measurable results – impacts on the community issue they are designed to address.
  • Provides information and incentives to staff (and other stakeholders) – budgeting should inform decisions makers and increase stakeholder participation. It should also close the loop with all stakeholders.

Sustainability Budgeting and Fiscal Impact Analysis

Fiscal Impact Analysis is usually associated with evaluation of specific policies or development projects. How can this approach support annual budgeting? It isn’t cost effective to produce a formal fiscal impact analysis for every little decision. What is important and possible is to start thinking in fiscal impact terms when making these decisions. Stakeholders, elected officials and staff should all be aware of how resource allocation decisions produce winners and losers. Shifting funding from one area to address a priority is a good choice, but it is helpful to understand what the community is giving up with these decisions. Adopting the perspective and language of cost benefit analysis is the first step in applying fiscal impact analysis. Being aware of the consequences of tradeoffs in resource allocation and documenting the likely changes in service levels are concrete ways to start the process.

A further step requires collecting more information so local leaders can understand the costs per unit of service for various programs, the outputs of those programs and the associated changes in community indicators. This additional data does not exactly prove cause and effect, but can give hints of the relative effectiveness of different approaches to solving the same problem. Not all programs are easy to measure and have a more complicated relation to community outcomes. Still, the data collection and evaluation process can improve decision making.

The final step is to conduct a complete fiscal impact analysis of a policy change. This analysis will measure program costs and document the budget, revenue and economic impact of that change so that policy makers can see what it means for the organization and the community. Combined with community indicators and standard program performance measures, a fiscal impact analysis will help those responsible for setting the budget be well informed. Those decision makers can also share this information with constituents so that everyone is clear about the tradeoffs and likely consequences. This type of analysis can be applied to a part of the budget, the major programs or departments or to the entire budget. When applied to the entire budget it is a useful input into long-range financial planning which attempts to evaluate budget, revenue and impact out at least three years.

Becoming a fiscal impact city is more than a resource challenge. It is a major leadership and cultural challenge. The difficulty is building the organizational culture that can function in this more transparent way and building in community engagement and education processes so the public can increase their support for the hard choices local leaders need to make. In the following weeks we will look at other areas where local leaders can improve organizational sustainability by becoming a fiscal impact city.