Monday Morning Thoughts: Disagree That City’s Structural Deficit is Solved

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Dan Carson submitted the guest piece yesterday and opened it with the bold assertion, “New data suggest that the city’s once-formidable $5 million structural budget shortfall is, for all practical purposes, solved.”

There is certainly a lot of good news to report, including the facts that “the 2013-14 fiscal year that ended in June almost $850,000 to the better than had been assumed in the city’s prior forecast” and “property tax revenues were up $570,000 over the amount the city had been projecting for 2013-14 as recently as last April.”

It may even be true that we will get “continued gains in property tax revenues above the 2 percent rate that the city assumed for 2014-15 in its most recent budget.”

But none of that means the budget crisis is over or that the true structural deficit is solved. The first problem is that the structural deficit of $5 million was actually just a number. And here is the key take away: “This welcome news on continued city revenue gains doesn’t solve all our fiscal problems. The city will face continued pressures to come up with more money for infrastructure and personnel costs.”

Mr. Carson adds that “the city will have to maintain strong fiscal discipline lest the dramatic recent improvements in its fiscal condition be allowed to unravel. Moreover, the city must continue to be entrepreneurial and search out opportunities to gain additional revenues to support needed public services.” Part of the problem is that we have conveniently kept deferred maintenance and infrastructure costs off the budget. That means the hundreds of millions we owe for roadways, sidewalks, bike paths, parks, greenbelts, and city structures are not counted against the current structural shortfall, but that is money that we need to find somehow.

Second, Davis is not going to be growing a lot in terms of housing – most likely. Yes, we will have some 600 new homes coming online at Cannery and perhaps a few hundred from the other sites. These will add to the city’s property tax base.

However, the increase in property taxes is likely due to the recovery of the real estate market and the fact that after years of few housing sales in the city, the pent-up demand for housing sales took off last year. That is probably a short-lived expansion and not likely sustainable into the future.

That means to achieve real revenue growth that is sustainable, the city still needs to expand its base. Dan Carson undoubtedly does not disagree with that as he argues that the city needs to continue “its aggressive efforts for economic development and conducting a rigorous review of what city assets are needed and could be leveraged through sales, leases or concessions for the benefit of the taxpayers.”

Dan Carson mentioned pensions and the likely increase in their cost. This morning, the LA Times published, “California pension funds are running dry.”

They write, “A decade ago, many of California’s public pension plans had plenty of money to pay for workers’ retirements. All that has changed, according to a far-reaching package of data from the state controller. Taxpayers are now on the hook for billions of dollars more to cover the future retirements of public workers, with the bill widely varying depending on where they live.”

New data from a website created by state Controller John Chiang are now emerging to show just exactly what the bill is. Writes the Times, “Until now, the bill for those government pensions was buried deep in the funds’ financial reports.”

Back to the issue at hand. Here is what I would have said. First, I would have argued that new data from the city shows better revenue growth than had been forecast. However, the city still has daunting fiscal problems to solve.

The economy is finally clearly improving in Davis and elsewhere and that is alleviating some of the stress on the system. However, pensions and infrastructure needs are going to still require a parcel tax and a long term economic growth strategy.

I agree with the content of the argument by one of the posters that there is no guarantee property tax revenues will continue to grow as they have.

I also believe that we are going to have pressure now to start increasing employee compensation. Part of that is that the city manager position just got a raise and that will create pressure to increase compensation for senior staff, and once senior staff get increases, the rank and file will demand them as well.

As much as some want to argue that the city’s salary structure is out of line with the private sector, the city’s salary structure is not out of line, and, if anything, is on the lower side of municipal government compensation. That is the case in a community with higher costs of living than many other areas.

Is the council going to be able to hold the economic line when revenues are increasing, the economy is improving, and the city manager just got both a positional as well as a personal raise? I am very skeptical about that.

The bottom line, at least for me, is that I would not have run the story as saying we have solved the structural deficit – I think that is untrue and that the structural deficit was in many ways, even under Steve Pinkerton, an arbitrary number based on calculations about what we could spend rather than what the true costs were.

I would say that things have improved, but there are still key challenges, and anyone wishing to start raising employee compensation before we have solved the underlying problems is asking for us to be in trouble the next time the economy turns south.

—David M. Greenwald reporting

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About The Author

David Greenwald is the founder, editor, and executive director of the Davis Vanguard. He founded the Vanguard in 2006. David Greenwald moved to Davis in 1996 to attend Graduate School at UC Davis in Political Science. He lives in South Davis with his wife Cecilia Escamilla Greenwald and three children.

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28 thoughts on “Monday Morning Thoughts: Disagree That City’s Structural Deficit is Solved”

  1. South of Davis

    Gunroick wrote (at the end of the last post on this issue):

    > I would strongly recommend that all Vanguard readers go to the links

    > provided by Robb re: the actuarial studies.   The numbers are very sobering

    > and point out the overwhelming challenge ahead for fiscal stability

    When preparing a budget we never know for sure what health care will cost in 5 years, but we have a pretty good idea how long the HVAC unit at city hall will last or how long an asphalt bike path will last before it needs a seal.

    In addition to the MASSIVE pension shortfalls (see the site below for more info on a daily basis) Davis like every other city I have seen (or heard of) does not budget enough to replace the huge number of items that have a known useful life.

    I’ll be honest that the main reason that I want to see budget reform is that I know the taxpayers are going to get hit when 1. The Pensions never catch up and are fully funded and 2. The city is “shocked” that things like AC units and bike paths wear out and we need another parcel tax.

    What I try and remind my union friends is that since any one with even a basic understand of math (including basic accounting and exponential growth) can tell you that there is NO WAY that there will be enough money to pay for all the promises the unions have made to their members EVEN if we have massive tax increases.

    http://www.pensiontsunami.com/

    1. Frankly

      Business accounting for fixed and real property assets (private sector accounting best practices) is to treat them as ongoing annual expenses through depreciation.  The term of the depreciation should actually match the useful life of the asset.  At the end of the useful life of the asset, you would consider replacing it… or else face future un-budgeted liabilities when the asset needed to be replaced.  If an asset is retained and used beyond its useful life a company is advised to begin to accrue expense for replacement or increased maintenance (older stuff generally needs greater maintenance).

      I’m not yet sure how public accounting practices work relative to accounting for ongoing expense of assets, but it appears that we just wait until there is a “crisis” of needing to fund a new capital expenditure… basically ignoring the true cost of maintaining the asset through its useful life and not budgeting for its inevitable replacement.

      1. South of Davis

        Frankly wrote:

        > Business accounting for fixed and real property assets

        > (private sector accounting best practices) is to treat them

        > as ongoing annual expenses through depreciation. 

        They do this because FASB makes them do it and they will go to jail for fraud if they pretend to have more money and give themselves raises.  Public sector accounting is not as well regulated so they can easily hide expenses and give themselves raises in salary and benefits (like the totally underfunded 3%/50)…

        1. Sam

          GASB 67 & 68 have just been implemented after PERS fought very hard to water them down (like the firefighters), but they are nothing like the FESB requirements and they are so new PERS has not even reported on them. Although it will be soon!

           

  2. Anon

    ” Part of the problem is that we have conveniently kept deferred maintenance and infrastructure costs off the budget. That means the hundreds of millions we owe for roadways, sidewalks, bike paths, parks, greenbelts, and city structures are not counted against the current structural shortfall, but that is money that we need to find somehow.”

    Put deferred maintenance into the budget, and it is clear the city is in serious financial trouble – an inconvenient truth.

    “The economy is finally clearly improving in Davis and elsewhere and that is alleviating some of the stress on the system. However, pensions and infrastructure needs are going to still require a parcel tax and a long term economic growth strategy.”

    Without some sort of economic development or other source of tax revenue to fill city coffers, the city will remain with huge deferred maintenance issues.

    I agree with Dan Carson to the extent that things have improved, but they have not improved enough to make much of a dent in deferred maintenance of our city’s basic infrastructure.  The city historically has not set aside sufficient funding to maintain and repair its infrastructure, including roads, bike paths, buildings, pools, etc.

  3. Dan Carson

    David,

    A lot of your commentary today involves differences with the language I used in my commentary yesterday and not a real difference in the facts I reported about the city’s improving fiscal situation.  But it looks like we have one continuing factual disagreement, about whether city property tax revenues are going to continue to improve.  I think they will continue to improve the next few years, you don’t think they will.

    Here’s why I think I’m right.  It has to do with Prop 13 and the way our property tax system works in California.

    Property tax revenues are a lagging indicator of improvements in the condition of the real estate market, including the one here in Davis.  As you know, increases in property tax assessments are generally capped at 2 percent under Prop 13.  However, when a property is sold, it is assessed at its full cash value, which is often much higher than the assessments on similar neighboring properties which benefitted from remaining under the 2 percent cap.  As properties turn over, the city (and other jurisdictions receiving property tax revenues) get what amounts to a catch-up or bonus.

    These bonus payments were a major factor in the surge of monies the city received in 2013-14.  There is every reason to believe that this trend is continuing and that we will get a lot more of these bonus payments.  The bonuses will continue even if the now, much better, prices for property that are being fetched in the real estate market were to flatten out for a while and not surge further.  The rebound in housing prices that has already occurred since 2008 is enough to ensure that we will often get these bonus payments when properties are sold.

    Another factor is in play.  When the real estate downdraft occurred amidst the 2008 housing recession, the county assessor invoked another provision of Prop. 13 that allowed him to lower assessments on properties he believed were below market value.  He did that for a lot of properties all over the county following the 2008 housing crash, including Davis.  Now that the real estate market has significantly improved, the assessor is again invoking Prop. 13 and reinstating higher assessments within the bounds allowed by the law.  He can go higher than a 2 percent annual increase in such cases.  This will also up the city’s property tax take even if you are right that housing prices remain stable.

    The prospect for healthy gains in property tax revenues for 2014-15 are strong because the assessor announced in June that the Davis assessment roll was going up 4.49 percent in that year.  This is an impressive increase and one that occurred even though, once again through the oddities of Prop 13, it reflected an inflation adjustment of less than .5 percent instead of the maximum 2 percent allowed.  As County Assessor Joel Butler explained things to me a few months ago when I was researching the city’s property tax revenue trends, it is pretty likely that the inflation adjustment will be at the 2 percent level for most future years.

    What it all means is that property tax gains are pretty likely to continue for the city for the next few years even if prices in the real estate market were to level out.  The city’s property tax take is going to get even better in the next few years as Cannery homes come on the market and are sold with higher property values than the undeveloped land there now.

    By the way, even the city (in the five year fiscal forecast published in April) now expects property tax revenues to grow at 3.5 percent per year after 2014-15.  They are not asserting, as you apparently are, that revenues will flatten out.

    I predicted last January that property tax revenues were going to come in well above city forecasts, and, after the city responsibly upped its forecast revenues in April, I looked at economic trends and property tax revenue data from the county and again advised that the property tax revenues were probably still understated.  They have now come in $570,000 higher. The revenue gains are highly likely to “stick” and be available for 2014-15 and subsequent years.

    To repeat a point I made yesterday, we have already have in the bank substantially more property tax monies for 2013-14 than are assumed in 2014-15 in the budget plan adopted last summer. Adding these monies into city forecasts this spring is a no-brainer.

    To the city’s credit, it has decided to take a fresh look at how it does its revenue forecasting to try to obtain more accurate results. This is a welcome development.  The better the quality of information our city leaders have for important budgetary decisions, the better off we will all be.

     

     

    1. Frankly

      Dan – Although your assessments here are well considered, I think we risk getting into something greater than actuarial analysis and more into real estate market analysis.  There are other considerations with respect to real estate turn-over.  One is that home prices are again over-heated (especially when you consider the metric of ratio of home prices to incomes) due to the continued existence of many of the same bad stuff responsible for the previous bubble that popped in 2008.  For example, rates are still way below market.  We still have Freddie and Fannie buying up the mortgages so banks can re-lend.  Recent reports about banks again lowering their credit standards back to sub-prime due to the collateral appreciation expectation.

      Frankly, when you think about it… it is exactly the type of rosy property tax revenue conclusions that you are making here that contributed to much of our existing financial difficulty.  We should be banking the excess in anticipation of the next inevitable downturn… not considering it as shoring up our operating and maintenance deficits.

      However, if we build innovation parks, I see there being greater pressure on Davis home prices and more turn-over.

      But a 6% or 7% home mortgage will have pretty chilling impact on home sales in any case.

      1. Dan Carson

        Frankly, I’m not sure we disagree about what should be done with the additional city revenues that are coming in.  Your comment is that “we should be banking the excess in anticipation of the next inevitable downturn…not considering it as shoring up our operating and maintenance deficits.”

        What I am saying is that the city is on a track to putting its annual revenues and expenditures in balance.  I’m not sure that we have much if any “excess” money, at least at this point, although that is possible if these revenue trends continue.  I also said that “as (the city) receives additional resources (it should be) setting aside some of these monies to rebuild its General Fund reserve in keeping with established city policy.  Those good times won’t last forever, and it will be important to have a fiscal cushion in place for that day when revenues aren’t looking as good as they are now.”

        I’m thinking you agree with that statement.

         

        1. Frankly

          I think we agree in principle except maybe for the recommendation that the city include in its operating budget an ongoing high-priority accrual to replenish and maintain a surplus… and the inclusion of commentary and a more comprehensive impact assessment of the unfunded long-term liabilities.    Doing these things would tend to increase the time-frame for the balanced budget projection.

          It would be just as wrong to under-report any good budget news as it would to be to ignore negative budget news.  I’m not in favor of either.

          I see the debate here as largely being one where we are not yet adequately funding the inevitable budget fluxuations resulting from tax revenue volatility, and we are not yet fully funding all of our critical long-term liabilities.   So any message about a positive budget circumstance seems at least half complete… and at worst a bit dangerous in how it might influence the voting public.

    2. South of Davis

      Dan wrote:

      > As you know, increases in property tax assessments

      > are generally capped at 2 percent under Prop 13. 

      Under prop 13 the tax “assessments” are capped at 1% not 2% (the annual tax “increases” are capped at 2%).

      Dan might want to check his model since if he thinks we are getting 2% (+ special assessments and parcel taxes) for every home in town his model will show a lot more income that we really have.

      1. Dan Carson

        As I said, annual increases in property tax assessments are generally capped at 2 percent.  In 2014-15, the cap is even tighter than that — less than .5 percent because of the fluky way inflation adjustments are made each year under Prop 13.  Nonetheless, because of the rebound in real estate, the county assessment roll for the 2014-15 fiscal year increased 4.49 percent over the prior year for the city of Davis. That makes it highly likely that property tax revenues are going to continue significant growth in 2014-15, above and beyond the substantial gains we just saw for 2013-14.

        1. Matt Williams

          Dan, the problem that I see in your analysis is that the recent, impressive 4.49 percent increase in the Davis assessment roll is the result of two factors.  (1) the incremental difference of the sale price of actual home sales over the existing Prop 13 constrained assessment, and (2) the velocity of such home sales.  We have clearly had a spike in home sales velocity due to pent-up factors that caused homeowners who desired to sell to refrain from putting their house on the market.  Once real estate prices started to rise, that pent-up desire to sell was released, resulting in a higher than normal velocity of home sales.

          If the velocity of the recent months  drops back to a more “normal” level, then the 4.49 percent increase in the Davis assessment roll could easily be closer to 2.25 percent, or even lower.  Bottom-line, Davis is a much lower home turnover market, and unless those turnovers are happening the 4.49 percent number will be a one time spike.

    3. Davis Progressive

      i think one of the issues was the title and your declaration that the fiscal crisis was over.  the second problem is that you could not have picked a worse timing to make this declaration as the council is probably looking to increase employee compensation which will get us right back into the pickle.

        1. hpierce

          Just for clarification… when you say “compensation”, do you mean that if salaries have zero increase, but City pays for ANY or all increases to current healthcare, or pension assessments by PERS, that would constitute ‘increased compensation’ and would result in the parcel tax increase concept to be “dead in the water”?  Not arguing, just clarifying.

    4. Mark West

      Dan Carson: “A lot of your commentary today involves differences with the language I used in my commentary yesterday and not a real difference in the facts”

      I think the problem with your commentary was that your choice of language and your basic conclusions, completely undermined your credibility.  Especially so your declaration that the structural deficit was largely solved. In fact, my visceral response to your article was that all it lacked was a picture of you in front of City Hall with a giant “Mission Accomplished” banner hanging from the eaves.

      I don’t think anyone will argue with your conclusion that the local economy is getting better and the City’s fiscal situation is therefore improving, but any suggesting that we are getting close to solving the fiscal crisis is nothing but a fallacy.  We have years of hard work and difficult decisions ahead of us before there is anything close to a successful conclusion to the current fiscal crisis, and any suggestion to the contrary is both premature and utter nonsense.

       

      1. Dan Carson

        Mark,

        I don’t think you are fairly characterizing what I said in the piece yesterday.  To recap, I said:

        1.  The city’s structural operating deficit of $5 million is headed for zero by 2015-16 because of budget cuts, more money coming in from Measure 0, and underlying growth in the city’s revenue base.

        2.  We still face significant cost pressures for infrastructure and personnel costs that pose a fiscal risk to the city, and, therefore…

        3. The city must maintain fiscal discipline, aggressively pursue such strategies as economic development and better asset management, and prioritize any extra money we get in the future for a city reserve fund to help shield us from future downturns.

        I stand by all of those statements.

        1. Miwok

          Mr Carson,

          While I am not as strident as some people, my questions revolve around the recent Cannery article that mentions 600 homes to be built. Many Cities and Counties approve these knowing the tax base will grow, however that article mentioned the developer paying the City for the infrastructure improvements necessary as a part of the project approval.

          The developer was profiting almost 40-50% if they (and they will) sell all the housing. Of course the tax revenue will increase so over time if the current budget stays the same they will wipe the $5M deficit. But in two years? The math of unexpected revenue of $870K per year does not add up to $5M.

          The other question which I am sure you are not responsible for, is the fact most Cities make infrastructure changes and TRY to charge the developer for all of it, but the rest of the City generally gets NO benefit except the temporary headache of the new construction, and more traffic later, which does not get addressed by the so called “Planning Commission” in the other parts of town. It ends up costing the town more later while the developer has no roots in the town, and therefore no stake in the outcome after the sales of the houses.

          I appreciate your responses to the articles.

  4. Dan Carson

    Miwok,

    Here’s one way of looking at the math that may help you understand how the $5 million structural budget deficit is being resolved.  The council adopted an additional $1.2 million in budget cuts that took effect in 2014-15 and are ongoing.  The voters approved Measure O, which is projected to eventually bring in $3.6 million annually once we get a full four quarters of revenue from it in 2015-16.  The latest improvements in the city’s financial condition mean that we are $850,000 better off than before.

     

    1. Matt Williams

      Dan, as I and others said yesterday in response to your article, the numbers that you are discussing (referring to) are almost wholly artificial because they only include budgeted General Fund numbers. What those numbers do not include is the approximately $100 million of deferred Capital Maintenance/Replacement expenses (Streets, Bicycle Paths, Greenbelt paths, Buildings and Structures, Parks infrastructure, Pools, Fleet, Property, Community Farm, etc.) that are excluded from the budgeted General Fund numbers.

      I agree with you that Revenues are better than expected, but the long list of maintenance expenses that were deferred by past accounting/managerial decisions.  If we don’t address the Deferred Maintenance Backlog with those Revenues, the Pavement Condition Index (PCI) of our roads will continue to plummet, our Main Fire Station roof will continue to leak like a sieve when it rains, and the cost of making those deferred repairs will continue to climb as the infrastructure deteriorates.  You need to look at the whole fiscal picture, not just the narrowly defined budgeted General Fund amounts.

      1. Gunrocik

        Agreed.  Both Matt and Mark West note the fallacy of the writer’s provocative claims.

        Penning a “Mission Accomplished” piece is detrimental to the cause.

    2. Gunrocik

      Dan Carson: 

      Mark,
      I don’t think you are fairly characterizing what I said in the piece yesterday.  To recap, I said:
      1.  The city’s structural operating deficit of $5 million is headed for zero by 2015-16 because of budget cuts, more money coming in from Measure 0, and underlying growth in the city’s revenue base.
      2.  We still face significant cost pressures for infrastructure and personnel costs that pose a fiscal risk to the city, and, therefore…
      3. The city must maintain fiscal discipline, aggressively pursue such strategies as economic development and better asset management, and prioritize any extra money we get in the future for a city reserve fund to help shield us from future downturns.
      I stand by all of those statements.

      Your paragraph 1 and 2 are contradictory.  You can’t claim the end of the structural deficit while cautioning that significant cost pressures remain.  #2 is all part of the structural deficit, much of which isn’t being addressed yet.

      It is like claiming your home budget is now balanced even though your heater, roof, refrigerator, washer/dryer and stove are all about to fail — and you haven’t budgeted a penny for replacement cost. And you haven’t factored into the budget any future raises for your gardener, nanny and house cleaner.

  5. sisterhood

    “…looking at the math that may help you understand…”

    Hello,

    You probably didn’t mean this phrase to come off as a tad patronizing, but that’s how I interpreted it.

    1. Dan Carson

      sisterhood,

      I wasn’t being patronizing.  My words “here’s one way of looking at the math to help you understand” was to recognize the idea that, at the end of the day, hundreds of different budget decisions and various events ultimately lead to the bottom line I describe of improving city finances.  For example, there was wave after wave of budget cuts that were made in prior years by the City Council that helped improve the city’s position.  There was a prior decision in April by city staff to recognize millions of dollars in additional revenues. What I provided Miwok was one way of looking at what actions have led to the good news we have now.  There are other ways of looking at the numbers too, and mine is clearly not the only way one can look at this.

  6. Davis Progressive

    my concern is that dan carson did his mission accomplished article right as the council is looking at ways to increase employee compensation because the last city manager so mistreated them.

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