Managing the Current Tax Levy Cap Crisis
By Gregory C. Fehrenbach
Coordinator, League Interlocal Cooperation
and Management Advisory Service and
Principal, Government Management Advisors, LLC
Reagan Burkholder, Principal, Summit
Collaborative Advisors, LLC
Robert Casey, Executive Directory, New Jersey
Municipal Management Association
This is a two-part article. Part I sets forth the problem and two approaches to management of the issue, while Part II (which will appear in the November issue) sets forth additional methods of managing the issue.
Managers, administrators and elected officials throughout the state have begun to come face to face with the impacts of the tax levy cap and a recessionary economy. The recession presents special problems of its own. However, the tax levy cap is a legislated condition with which we must come to grips immediately. This article outlines a few ways that a manager, an administrator or elected officials might go about managing the problem.
It is possible that our current level of fiscal discomfort will be permanent. Our world has changed. Does anyone foresee non-tax revenues growing significantly? Does anyone see state aid increasing, or even keeping pace with costs? At its sunset, does anyone see it not being reauthorized? It is more likely that each new year will require new approaches, new ideas, new decisions on services. Furloughs accomplish only so much. At some point, we will have to identify which services are “needs” and which are “wants.” We will need to make sure that every service is both efficient and effective, and even that may not be enough.
What is the problem? The tax levy cap (TLC) came into being with the CORE Reform legislation emanating from the 2006-2007 Joint Legislative Session called by the Governor. Chapter 62 of the Public Laws of 2007 established a limit beyond which municipal officials may not increase a tax levy unless they hold a successful referendum or the Local Finance Board grants a waiver. Limits on appropriations are limits on spending. In essence, the tax levy cap provides a limit on the amount of revenue that can be raised through increases to the property tax.
In 2008, municipalities sustained losses in several miscellaneous revenue categories and consequential reductions in fund balance (surplus) growth. This put many municipalities in a situation where it was necessary to:
• drastically reduce most other expense categories,
• postpone payments of pension bills,
• inadequately fund appropriations,
• unreasonably anticipate other revenue sources, and/or
• effect reduction of personnel through attrition,
furloughs and/or layoffs
Because some chose the deferral of bill payment and/or depletion of other revenue sources, 2010 budget preparation could be even more difficult than in 2009. The TLC will continue to affect the budget development process at least through the 2012 budget year when the law sunsets. However, who believes the sitting governor and legislature will permit it to truly sunset?
The Tax Levy CAP The TLC formula, annually provided by the Division of Local Government Services in spreadsheet form, contains many elements. However, it can be simply described as follows:
• Start with the prior year’s tax levy
Remove from it
• any one year waivers
• Capital Improvement Fund Contributions
• Deferred Charges to Future Taxation
• Multiply the result by 4 percent
• Adjust the amount by the
• Change up or down in debt
service and county leases
• Offsets to State Formula Aid loss
• Allowable increase in Reserve
for Uncollected Taxes
• Permitted increases in health insurance costs in excess of 4%
• Capital Improvement Fund
• Deferred Charges to Future
• Additions due to
• increased assessed valuation
(new construction and additions)
• Local Finance Board Statewide Blanket Waivers (there have
Why is the problem greater than it appears? The financial impact of the TLC varies among municipalities, depending upon the portion of the current fund budget that is supported by property tax revenue. Municipalities that relied heavily on property taxes to support the current fund generate more revenue from the 4 percent Tax Levy to support their operations than those who historically had lower property tax revenues. In effect, municipalities with higher property tax levies can more easily manage under the TLC than those municipalities with lower tax levies.
To provide this explanation it is easiest to use an example to illustrate the extent of the problem.
Our example will be the Town of Anytown. Anytown’s 2008 budget was a total of $30,000,000. The “Amount to be Raised by Taxation” (property tax levy) was $22,000,000 or about 73.3 percent of all revenues. Total general revenues, including anticipated fund balance (surplus) and receipts from delinquent taxes, accounted for about 26.7 percent of the revenues used to fund the 2008 budget. The 2008 property tax levy is the base used to calculate the 2009 TLC. While in most New Jersey municipalities total general revenues actually dropped in 2009 from 2008, here we assume that they do not change in Anytown. If only the tax levy can rise and the tax levy represents 73.3 percent of the revenues, the expenditure side of the budget can only rise by the result of multiplying 4 percent times 73.3 percent or about 2.9 percent.
Therefore, the total amount that the entire current fund budget appropriations can rise is 2.9 percent. While employee salary and wage expenses represent a large portion of the budget, the budget also includes pension expenses, health insurance premiums, insurances including workers compensation, asphalt, utilities, gasoline and diesel fuel, maintenance of equipment and vehicles and the many other materials that are needed to provide municipal services. All of these elements may only rise collectively by 2.9 percent over the prior year cost.
This example could be even worse: In 2008, the average New Jersey municipality had a budget of $21,000,000, of which 53 percent came from taxes. With a 4 percent tax increase, the average town’s total revenues can increase by no more than 2.12 percent.
Many of us are familiar with the union and management proposals to raise the salary guide by about 3 percent. On its face, this seems reasonable. However, a rise in the guide does not take into consideration the cost of step increment movement, the cost of longevity increments or increases in such categories as clothing and other allowances. All of a sudden, the 3 percent rise in the guide has now become much more than this, possibly as much as 5 to 8 percent or more.
For most New Jersey municipalities, miscellaneous revenues have not remained flat. Rather these revenues have slipped, sometimes significantly, as the result of less economic activity in our communities, reductions in state aid, actions by the Federal Reserve Bank among others. This exacerbates the problem at hand. Not only must we find ways to deal with the TLC but we must also manage our governments through this adverse turn in the economic cycle.
Reductions to appropriations have been employed for many years in New Jersey as local objections to and statewide loathing of property tax costs has grown. While these objections have caused elected officials often to utilize more miscellaneous revenues than might have been prudent, these actions in 2008 in several municipalities exacerbated the problem for 2009. Likewise, in some cases imprudence led appointed and/or elected officials to anticipate revenues at much too high a level or anticipate non-recurring revenues as if these revenues would be replaced with some other magical source the following year. Likewise, some appropriations were under-funded in hopes that additional revenues would develop the following year. Wishing and hoping do not appear to be techniques to manage the TLC.
Some Techniques to Consider At the 2008 League of Municipalities Conference, the New Jersey Municipal Management Association (NJMMA) in cooperation with the League, held a tandem session on this subject. The primary focus of the session was on multi-year budgeting and financial forecasting. Those present heard speakers talk about anticipating the condition of the many factors that affect municipal budgeting. They also heard speakers discuss the new challenges brought about by the TLC. Christopher Raths of Roxbury Township delivered a 90-minute presentation on financial forecasting and developing budgets with a multi-year perspective, which he later summarized in the March 2009 issue of New Jersey Municipalities earlier this year. You are encouraged to follow up on that article and the technique both Roxbury and Plainsboro have used for several years now.
We will supplement the approach provided by Mr. Raths by looking at possible additional methods you might wish to employ immediately to manage this condition as you go about the preparation of your 2010 budgets. (It should be noted that for an immediate response to their problems, some fiscal year municipalities are examining the benefits and disadvantages of returning to a calendar year budget from the fiscal year budget cycle. Given the fact that many municipalities that made this switch in the early 1990’s generated large amounts of multi-year debt with no products to offer as collateral, these municipalities should consider stretching out over several years any financial benefits of returning to calendar year budgetary status.)
A Conventional Approach You probably have little time between now and when the budget must be in final form. You would like to do some financial forecasting but the TLC problem is imminent and you do not have time now to perform the required data gathering and analysis necessary to employ this method of fiscal management. How might you go about managing the problem?
Up until now, you have probably employed some of the following methods:
• across the board cuts to programs
• elimination of the most obvious of the appropriations that will have the least organization-wide impact
• employed goal setting sessions with the governing body to identify the key services the municipal leaders wish to provide their residents
• reviewed the operations to determine which service might be placed in self-liquidating utilities and determined the impact of these actions on your TLC
• employed furloughs in the hopes that this problem will be short lived
The single largest expenditure items in most municipal budgets are personnel and personnel related expenses, estimated in most budgets at more than 70 percent of the entire budget. If there is going to be a reduction in the demand on the property tax, of necessity it must come about through the reduction of these costs. While pension and workers’ compensation costs, both of which are based on payroll costs, will not respond immediately to the reduction of personnel, paid salaries, health insurance, social security and other related costs will.
When one looks at the increasing cost of governmental services with each successive budget, it strikes one that the growth of salaries and wages is a very significant contributor. In the private sector, salary freezes and actual reductions in salary can be seen. In the public sector, for as long as most of us can remember, public employees have expected and received annual increases to their salaries. Salary freezes have been rare. In many municipal and school district collective bargaining agreements, percentage increases (higher than the cost of living increase) to the salary guide have been the norm. These have been in addition to step increases within the salary guide of as much as 5 percent or even $15,000 and longevity payments and increment rising by as much as 2 percent to 3 percent every two to four years. It is clear that at the very least, these rises in costs must be limited and made compliant with the TLC.
How does one go about deciding to reduce personnel? Attrition is the easiest of the methods as a vacant position or a soon to be vacant position simply remains unfilled. This however might not conform to the elected officials’ municipal service delivery policy. It is possible that the position(s) being vacated is located in a service area that is considered vital. Others may remain unfilled with little obvious effect.
Involuntary furloughs are an equal opportunity across the board reduction in the number of hours public employees can service their constituencies. While somewhat fair on the surface, often they do not affect police, fire or EMS services. Depending on the problem, furloughs might be a stopgap solution, but there is no residual effect in the following year. Also note that the rule for implementation differ between Civil Service jurisdictions and those without Civil Service.
While layoffs can be more focused, they are very cumbersome for those municipalities under the jurisdiction of the Civil Service Commission. In many cases, some of the municipality’s best workers are lost through the process. This is the course of both least and most resistance. It is the conventional method of reducing personnel costs. However, it can cause much angst to any municipal organization.
Collective bargaining agreement (CBA) must be brought into conformance with the limits of the TLC. A total annual cost analysis needs to be performed on each collective bargaining agreement. For each CBA currently under negotiations management needs to cost out all of the elements that affect the cost of the contract for the anticipated term of the contract to determine the impact on the TLC. Limits must be set on the growth of the cost of each contract. Failure to satisfy those limits must result in adverse consequences to the unit that fails to conform. These might present difficult choices to the elected officials who might find that the adverse consequence violates their municipal service delivery policy.
How many are the correct number of employees to provide a service? The Department of Community Affairs, Division of Codes and Standards (uniform construction code) and the National Fire Prevention Association (NFPA) provide guidelines and standards to provide appropriate levels of service to municipal constituencies. However, their determined level of service might be more expensive than your municipality can afford given the available resources and the TLC. What follows is one way that 15 municipalities have attempted to determine if their output per employee is reasonable or not. What is the right number of employees to provide a particular service?
In next month’s magazine Part II will appear. It will provide a couple of alternative approaches to managing the problem.
Resources In addition, for those who have time to examine additional alternatives we would suggest that you might examine the following texts.
A Budgeting Guide for Local Government, ICMA, Washington, DC 2007
Evaluating Financial Condition: A Handbook for Local Government, ICMA, Washington, DC, 2003, 4th Edition
“Faltering Economy: Time to Thoughtfully Challenge the Status Quo,” ICMA Public Management, June 2009, ICMA, Washington, D.C.
Financing the Future, Long Term Financial Planning for Local Government, Shayne C. Kavanagh, Government Finance Officers Association, Chicago, IL, 2007. (www.gfoa.org)
ICMA Conference: Lemonade from Lemons: How the Economic Crisis and Make Local Governments Stronger, 2009 (www.icma.org)
“Wise Risk Taking Can Save You Money,” ICMA Public Management Magazine, April 2009, ICMA, Washington, D.C.
“Leadership in a (Permanent) Crisis,” Ronald Heifetz, Alexander Grashow, and Marty Linsky, Harvard Business Review, July-August 2009, Boston, MA (Online at http://hbr.harvardbusiness.org/2009/07/leadership-in-a-permanent-crisis/ar/1 )
Rutgers Public Performance Measurement and Reporting Network online at www.ppmrn.net/
ICMA Center for Performance Measurement online at http://icma.org/performance/
This article was originally published in New Jersey Municipalities magazine. Vol. 86, No. 7, October 2009