From the Archives: What’s an "Undesignated Fund Balance"?

With the budget season upon us, I thought I would re-post this explanation of the Undesignated Fund Balance. Originally posted on HereCast on September 10, 2018.

The Undesignated Fund Balance (UFB) is an important measure of the financial health of a municipality. 

In Norwich, the UFB is or will be underfunded by the end of the fiscal year, according to Selectboard Financial Policy #2.  That introduces an element of financial risk for the Town, though there is no immediate crisis. In a later post, I plan to ask why this happened without public discussion. First, as a warmup, I thought I would provide my layman's (not an accountant's) understanding of the purposes of the UFB.

The Undesignated Fund Balance is an amount the Selectboard holds in reserve to cover cash flow needs and emergency expenses. An earlier blog post of mine referred to the UFB as a 'rainy day fund' but that term understates its purpose. 

The  Selectboard Financial Policy #2, Undesignated Fund Balance describes its purposes as follows*:

1.1.1    To fund operations by providing sufficient working capital for adequate cash flow, tax rate stabilization and as protection against uncollected taxes, economic downturns, or shortfalls of revenues, imposition of additional costs by other governmental agencies including courts, errors in financial forecasting, natural disasters and cutbacks in distributions from the state government.
1.1.2     To reduce the cost of long-term borrowing by maintaining an appropriate level of undesignated general fund balance, which is reviewed as part of the evaluation of a municipality's creditworthiness by bond-rating agencies.

Tax rate stabilization in the quote above was a new concept to me. When the Undesignated Fund Balance is used to make a 'tax stabilization payment', the Selectboard takes money from the UFB, instead of raising it through property taxes.  Not uncommon in Norwich. This year the Selectboard specifically earmarked $264,290 in setting the property tax rate at its meeting on July 11. The $264,290 reduced the property tax rate by over three cents.

 

How much money should the Undesignated Fund Balance hold?  The recommended level of reserves is often expressed as a percentage of the annual budget, rather than a dollar amount. For example, the Government Finance Officers Association thinks that at a minimum, general-purpose governments should keep in reserve  two months of expenses. That equates to 16.67% of the annual budget. At the July 11 Selectboard meeting, the Town Manager expressed a preference for an UFB of 17%. 

Selectboard Financial Policy #2 at section 4.2 says the UFB should be "between 10 and 20 percent" of the annual budget. The Town’s budget for this fiscal year is $4,502,386, making 10% equal to $450,238. However, by using $264,290 as a tax stabilization payment, the UFB is closer to 9% than 10%. 

 

Going below the minimum was not discussed by the Selectboard. The lack of transparency regarding that situation is troubling and will be the subject of  a later blog post. 

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*  All Selectboard policies are not currently online. I located what appears to be a copy of Selectboard Financial Policy #2, Undesignated Fund Balance in the Selectboard packet of October 11, 2017

POSTED: 09.10.2018 

CORRECTION: In Norwich, the UFB is or will be underfunded by the end of the fiscal year ....