Acton Needs to have a Reserve Policy

UPDATE (2/11/09): The Acton Finance Committee has written a reserve policy. We applaud this positive step. While the policy is not perfect, having some written guidance will allow the town to discuss and debate the merits and whether we should make changes. The new policy as approved by the Finance Committee is HERE.

Several government regulators and financial institutions strongly recommend that towns have policies on the use of their reserves. As such, many towns in Massachusetts have adopted such policies, as our research below shows. Acton, however, has not. And some of our town officials have been adamant that such policies are not needed.

Why not? Could it be that having a reserve policy would preclude spending reserves on operations?

Or do Acton town officials have another reasonable explanation? WATCH THE VIDEO.

Policies are not cast in stone. Should an unusual circumstance happen, a policy can be flexible. But if there is a reserve policy in place, it provides guidance to the town boards and citizens and establishes a normal way of dealing with budget issues that don't rely on the personalities involved.

During the last Special Town Meeting, it was argued by town leadership that Acton needed to "preserve the reserve," even though their financial plan showed spending the reserves down again. Then, at the Special Town Meeting itself, we were told that institutions such as Moody's recommended reserve levels as high as 10%. The Acton Voters Group plan would have us kept 6-7% in reserves. Without a clear policy, who is to say what the town wants?

Several of the policies we quote in our research allude to the concept of informing others if a policy is being broken, which sounds like a very useful "early warning" system that we lack. When we violate what would be a reasonable policy, there is no warning bell now and most people probably realize what happened when it is too late.

See the research below. We give examples of policies in other towns to show that Acton's lack of policy is unusual, plus information on the need for policies by government regulators and others.

What our town officials say about reserve policies

Finance Committee Meeting
Excerpts from 9-2-08 Meeting VIDEO

What other towns and government agencies and advisors say about having reserve policies, and some information on the policies they adopt

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Mass. Municipal Association
Assoc. of Town Finance Committees Handbook (2004)
Free Cash
It is recommended that each town develop a policy on the amount and use of free cash to avoid wide swings in the levels available from year to year.

Town of Boxborough, Board of Selectmen's Minutes, March 3, 2007
"Discussed FinCom policy of maintaining 3 - 5% of anticipated budget in free cash..."

Finance Committee Handbook - Glossary (2006)
"Maintenance of an adequate free cash level is not a luxury but a necessary component of sound local fiscal management. Credit rating agencies and other members of the financial community expect municipalities to maintain free cash reserves; judgments regarding a community's fiscal stability are made, in part, on the basis of free cash."

Town of Sudbury, Board of Selectmen Budget and Financial Management Policies
Reserves and Risk Management Policy
A municipality's fiscal policies should include a plan for maintaining reserves. Operating reserves (or fund balance) are a prudent fiscal management tool and an important credit factor in the analysis of financial flexibility.

The Town of Sudbury will maintain a level of reserves that protect the Town from emergency conditions that require financial flexibility, contribute to sufficient liquidity to pay all Town expenses without short-term borrowing, and contribute to the high credit rating that the Town currently holds from Standard & Poor's (AAA).

To provide for adequate levels of reserves to protect the Town's financial condition over the long-term, the Town of Sudbury has adopted the following financial reserves policy statements.

The Town will work toward the goal of maintaining in the Stabilization Fund an amount equal to five percent (5%) of the total projected general fund operating revenues for the next previous fiscal year.

Selectmen's Meeting, Town of Ayer, January 23, 2007

"Suggesting the establishment of reserve policies to provide framework for dealing with ongoing financial pressures from year to year while maintaining a reasonable financial position which would give assurances to rating agencies that the Town understands the importance of reserves and their relationship to the Towns overall financial health and credit status."

Chicago Public Schools Policy Manual, August 27, 2008
Unreserved, Designated Fund Balance (Stabilization Funds) - This policy will require the Board to maintain an unreserved, designated fund balance (assigned fund balance) of a minimum of 5% and a maximum of 10% of the operating and debt service budget for the new fiscal year…

Town of Rockport, Town Website, Frequently Asked Questions Page.
The Rockport Finance Committee has set a goal for the Stabilization Fund of 5% of the annual operating budget, or over $1 million.

Mass. Dept. of Revenue, Division of Local Services, City and Town Newsletter Click here
July/August 2002, article on Stabilization Funds
The Division of Local Services encourages municipalities to adopt general policies to build an adequate stabilization fund. One way to build a stabilization fund is to establish a policy to appropriate a modest amount of free cash into the fund annually. In good economic times, any free cash over a certain percentage of budget, approximately 3 to 5 percent, may be appropriated to the stabilization fund. Even though stabilization funds may be used for any lawful purpose, local policy might direct funds to certain budgetary areas, such as tax rate reduction, or one-time only expenditures. A healthy stabilization fund balance can also strengthen the community's position when it seeks a review and upgrade of its credit rating.

Mass. Department of Revenue, Technical Assistance (TA) Section Click here
Best Practices
DOR recommends that communities understand the role free cash plays in sustaining a strong credit rating and encourages the adoption of policies on its use.

Reserve Policies
Formal written policies that establish guidelines for funding and maintaining reserves can help a community sustain operations during difficult economic periods. Reserves can be used to finance unforeseen or emergency needs, to hold money for specific future purposes, or in limited instances, to serve as a revenue source for the annual budget. Reserve balances and policies can also positively impact a community's credit rating and as a consequence, its long-term cost to fund major projects.

Mass. Department of Revenue, City and Town, Vol 10, No. 9, Nov/Dec 1997

Managing the Budget Process
Since the budget allocates scarce resources among many competing needs, it implicitly establishes the community's financial policies. However, in a good budget, these financial policies are stated clearly and explicitly so that those reviewing the budget can readily understand, discuss and debate these policies. Preparing written financial policies that can be applied and refined for use in future years provides a solid framework for budget decisions and promotes continuity in the planning and budgeting process. This approach is advantageous since government decisions are often based on the long-term with projects and initiatives spanning several years or benefiting future generations.

There are several areas where financial policies make sense. Communities should consider policies regarding the level of free cash and stabilizations fund reserves and how these reserves are to be used. For example, it is prudent to avoid using these reserves for operating expenses as they are not "recurring" revenue sources. Maintaining free cash balances in the area of three to five percent of the budget provides funding for unforeseen or emergency expenses, reduces the need for cash flow borrowing and demonstrates to bond rating agencies that a community is living within its means. Policies on the amount needed in the stabilization fund vary depending on what big ticket items need funding in future years. For example, a community may decide to build this account aggressively in the years prior to a new school project to reduce the amount to be borrowed or to cushion the impact on the tax rate.

It is important to remember that financial goals should be tailored to meet a community's specific needs. If your community has litter or no free cash, it is probably unreasonable to achieve a balance of five percent in one year. Similarly, a community that has deferred capital improvements will find it very difficult to devote even one or two percent of the budget for capital maintenance or to fund a capital budget. This does not mean that these financial goals are not worthwhile. Rather, these policies can be phased-in gradually so that they are realistic and achievable for your particular community.

Andover Free Cash Policy (from Town meeting publication)
Source
FREE CASH
The State certifies a certain portion of a town's surplus revenues as legally available for spending by Town Meeting. This amount is known as Free Cash….Andover has tried to maintain a Free Cash certification of 3-5% of total budget as a reserve which can be tapped in case of emergency and to provide enough cash in the bank to meet payrolls and pay the bills without having to borrow in anticipation of taxes. The 3-5% goal is a widely accepted measure of good financial standing and a factor in Andover's bond rating. The recommendation about the use of Free Cash is based on actual revenue collections for the current fiscal year and the adopted goal of the Board of Selectmen.

Town of Lexington, 2005 Budget Message
Richard J. White, Town Manager, August 1, 2004

Cash Reserve Policy A revised cash reserve policy is being recommended to jump-start the Town's stalled free cash policy. The FY2005 uses no free cash to balance the budget with the hopes that cash reserves can be replenished.

The Board voted and Town Meeting supported the establishment of a cash reserve policy in 1997. A ten-year plan or strategy was adopted by the Board so as to accumulate cash reserves of 5% of the tax levy at the end of that 10-year period. Budget balancing issues caused the Board to suspend or defer for one year the policy in FY2000. This deferral was made whole in FY2002 as free cash balances grew to larger than expected levels. Balancing the FY2004 budget required another compromise of the cash reserve policy, as no money was set-aside in reserve and $640,333 was taken to balance the budget. Recovering this policy required fiscal discipline in the FY2005 budget and beyond, given all of the uncertainties of the economy, the strategic direction of the state government and the precarious world politic, combined with the overwhelming documented budget needs identified within this budget. Pragmatism has always ruled at the end of the budget deliberation process and the cash reserve policy has often been compromised as a result. In future years, Boards will need to be more disciplined if there is the community wants to retain its bond rating as well as its position as a leader in progressive finical practices among Massachusetts municipalities.

Town Of Bourne, Board of Selectmen Minutes

Town of Bourne Financial policies: Unreserved fund balance - To maintain an annual unreserved fund balance of at least 5% of the General Fund operating balance.

Stabilization Fund - To maintain a stabilization fund balance of at least 7% of the General Fund operating balance.

Town of Andover
FINANCIAL POLICIES
All current operating expenditures will be paid for with current operating revenues.

The purpose of this policy is to maintain a financially sound operating position for the town by promoting Andover's ability to 1) balance its budget on a current basis, 2) maintain reserves for emergencies, and 3) have sufficient liquidity to pay bills on time to avoid short-term borrowing costs.

The town will avoid budgetary procedures that balance current expenditures at the expense of meeting future years' expenses, such as postponing expenditures, accruing future years' revenues or rolling over short-term debt.

The combined balance of Free Cash and Stabilization Fund should be maintained at 3%-7% of general fund operating revenues.

Town of Chelmsford, Finance Committee
Warrant for spring session 2005.

Stabilization Fund: The Town maintains its cash reserves in a Stabilization Fund, as defined by state law (M.G.L. Chapter 40, §5B). These reserves contribute to the financial well-being of the Town by mitigating the effects of increasing debt service on the tax rate; they support higher bond ratings, and assure that emergency situations can be addressed without expensive unplanned borrowing.

The policy generally precludes using stabilization money to pay for recurring budget items, and requires the Town Manager to present an updated Utilization Plan annually.

The Report of the Finance Committee, Town of Concord, 2005
Finance Committee Policies
For many years, the Finance Committee has supported a set of long-range financial policies for prudent financial management of the Town. Starting this year, the Town has begun documenting these in the Town Manager's annual budget in a comprehensive way, following the recommended practices of the Government Finance Officers Association of the U.S. and Canada. Following is a summary of some of those policies, from the perspective of the Finance Committee:

• Maintain a fixed percentage of the annual budget in Free Cash. This forms the core of the Town's reserves and its working capital. Since the mid-1990's, that percentage has been 5% equivalent to about $3.1 million as we enter FY06.

Spend about 7-8% of the annual budget on routine capital maintenance and renewal of the Town's facilities and infrastructure (including schools.) Included in this, 5% is reserved for debt service for large items and projects funded by borrowing.

Town of Easton
Financial Management Principles
To protect the town's financial stability, to ensure the availability of adequate financial resources in times of emergency, to capitalize on high bond ratings (and thus low interest rates), it is essential that guiding principles regarding the town's financial management be adopted and adhered to in the preparation and implementation of the town's operating and capital budgets.

PART 3: IMPLEMENTATION OF PRINCIPLES

Section 1:    If financial conditions warrant actions that are in contradiction to these principles, the Board of Selectmen and/or Town Administrator will acknowledge such actions to the Town Meeting and the reasons therefore.

Town of Groton
Overall Financial Management Policies

The Town will maintain a Stabilization Fund as its main financial reserve. It shall be the goal of the Town to achieve and maintain a balance in the Stabilization Fund equal to 5% of its current year total expenditures. Any balance beyond the 5% level will be accumulated and added to the Capital Stabilization Fund in conjunction with the Capital Plan to reduce overall borrowing and associated costs.

Moody's Bond Rating Town of Weston

MOODY'S ASSIGNS Aaa TO WESTON'S (MA) $3 MILLION GO BONDS AND MIG 1 TO $17 MILLION BANS
Favorably, the town has adopted a comprehensive policy establishing prudent financial goals for reserve levels, boosting overall reserves outside the general fund to approximately $4 million, including $2 million in stabilization, from the current level of just over $1 million; full compliance is expected in fiscal 2013.