LGC staff often receives questions regarding the amount of fund balance available that LGC staff recommends local governments to maintain. Through the years, different misunderstandings have arisen, including that there is an 8% requirement for fund balance available. In this blog post, we attempt to debunk the “Myth of 8%,” and address other questions and misconceptions about fund balance available. If you have any questions, please contact SLGFD@nctreasurer.com.
Myth: The “state” requires that local governments have 8% fund balance available in the general fund, meaning they must have a fund balance available equal to an amount that is at least 8% of expenditures.
Fact: There is no statute that requires an 8% (or any specific level) of fund balance available.
North Carolina General Statute 159-8(a) defines and limits the maximum amount of fund balance that may be appropriated in an annually budgeted fund, but there is no statutory minimum requirement for fund balance available.
Myth: The “LGC” requires that local governments have 8% fund balance available.
Fact: There is no LGC policy that requires an 8% fund balance available. “Management of Cash and Taxes and Fund Balance Available,” memoranda are published by LGC staff annually for both counties and municipalities which list the fund balance available for all such units, with units grouped by those with and without electric systems, and further by peer groups. These memos can be accessed at the State and Local Government Finance Division Memos webpage by searching on “fund balance” in the search box. The memos provide local governments with the opportunity to compare their fund balance available to similar counties/municipalities and evaluate the adequacy of their unit's current reserves. Local governments are encouraged to determine an adequate fund balance available for their specific unit and circumstances using the memos and other tools as a guide.
LGC staff recommends that local governments develop a fund balance policy to maintain a fund balance that is consistent with their peers that provide similar services. The policy should be brief and simple to understand. Governing boards should task their budget officer with developing operating budgets that maintain the fund balance in accordance with the policy. The finance officer should be charged with managing the unit’s finances in compliance with the policy. The policy should include language for planned corrective actions should the unit’s fund balance drop below the intended level at the end of a fiscal year. Developing and maintaining a well-considered General Fund policy can provide stability to the unit that will serve the citizens well. LGC staff have developed a sample fund balance policy that units can use as a starting point for developing their policy; see our Information for Governing Bodies webpage for details.
LGC staff does consider fund balance available in the development of its annual Unit Assistance List. If a unit has a fund balance available that is significantly below that of its peers and/or is trending lower over time, the unit may be considered for inclusion on the Unit Assistance List.
Myth: As long as my local government has 8% fund balance available, we are fiscally sound.
Fact: Fund balance available is just one of many factors that can be used to determine a unit’s fiscal health. There are few units that can operate in a fiscally sound manner with only 8% fund balance available.
An 8% fund balance available represents approximately one month of expenditures and likely does not represent sufficient reserves to provide cash flow during periods of declining revenues, or to be used for emergencies and unforeseen expenditures. Additionally, other factors such as the quick ratio of enterprise funds, statutory compliance, tax collection rates, and trends in property valuations are factors that contribute to a unit’s fiscal health. Finally, fund balance available is not used as a measure of fiscal health for local governments that do not have the ability to levy taxes.
Those local governments that levy property taxes must be aware that the tax collections process is very cyclical in nature. Real property taxes are billed in July after the budget is adopted for the new fiscal year, but most are not paid until the November through early January timeframe. Real property tax collections are levied and collected based on the statutory guidance provided in North Carolina General Statues Chapter 105. With tax collections substantially complete as of January 6 each year, the unit will not have significant real property tax collections available until the next fall. These significant cash resources are intended to last the unit through the summer and into the fall. Although a unit will have monthly revenues, such as sales taxes, motor vehicle property taxes, or utility collections that come in monthly, the large real property taxes are cyclical in nature. A unit that is at 8% of fund balance available as of June 30, may very well find themselves struggling with cash flows in the late summer or early fall before the next year’s property tax collections are due.
Myth: If my local government received a Financial Performance Indicator of Concern (FPIC) related to fund balance, that means we did not meet the minimum requirement for Fund Balance Available.
Fact: The financial performance indicator for fund balance available does not set a minimum requirement for fund balance available.
This indicator is used to identify units whose fund balance available falls below other units with similar General Fund expenditures. An FPIC in fund balance available doesn’t necessarily indicate financial or fiscal management weaknesses but is used to provide the local government and the staff of the LGC with a means of identifying potential issues or concerns in the general fund. If the government habitually uses fund balance to balance the General Fund operating budget over several years, then this FPIC may indicate that the local government is facing fiscal issues. Fund balance should not be used to finance recurring operating expenditures, such as salaries and benefits or utilities.
Summary
There is no minimum level of fund balance available required by statute.
The Financial Performance Indictor of Concern related to Fund Balance Available does not create a “state” or “LGC” minimum for fund balance available but allows units and LGC staff to compare and analyze units’ fund balance available as a potential indicator of fiscal health and prudent fiscal management.
Fund balance available is one of several factors used by the staff of the LGC to assess tax levying units’ fiscal health.
Sufficient fund balance available is essential to strong fiscal health and viability.
Local governing boards should develop a fund balance policy that requires they maintain a fund balance that is consistent with that of their peers. The policy should include corrective action should the fund balance fall below the intended targets.
Comparisons to peer group averages published in LGC staff memos are helpful in assessing if units have sufficient reserves.