This article first appeared in California Special Districts Magazine, March-April issue, Money Matters section.
By Ian Berg, Eide Bailly Special District Advisory Services
The foundation of a successful government district is embedded in guiding policies. In particular, financial management policies are key to providing clarity and enhancing decision-making related to fiscal health. The absence of sound financial management policy leaves board members, management and staff to rely on assumptions and could result in a free-for-all decision making process.
Common financial management policies include those established for reserves, investments, procurement/purchasing, debt management, grant management, accounting and financial reporting, budgeting, and trust management for pensions or other post-employment benefits (OPEB). The relevance of any of these policies differ depending on district structure and operating environment. For example, a district primarily funded by grants will benefit from a robust grant management policy whereas an enterprise funded by ratepayers may not invest as much energy towards one. Developing thoughtful and relevant financial management policies are universally beneficial to all districts regardless of their size or purpose.
A reserve policy is essential. Reserves can be defined in several ways, but healthy reserve balances always represent disciplined cash management practices. Common types include operating reserves, capital reserves, emergency reserves, and rate stabilization reserves. Other types of reserves could be legally restricted and are often established for things like debt compliance requirements or for fees collected for specific purposes.
- Operating Reserves can be the lifeblood for cash flow management. They ensure continuity of service during economic shortfalls and are often calculated based on expected cash flows. Generally, three months of operating expenditures is acceptable, however, a district dependent on bi-annual property tax receipts benefits from a target near six months.
- Capital Reserves help preserve financial longevity and are established to fund future infrastructure, upcoming projects or new equipment. In calculating capital reserve targets, districts might consider a five-year average of capital expenditures, a percentage of capital assets, or a flat dollar amount based on planned future projects.
- Emergency Reserves prepare for the unexpected and can target a set amount or fixed percentage of revenues or expenses. COVID-19 is a great example where many districts suffered major revenue loss for an extended time-period. Emergency reserves help to fill that gap and preserve stability.
An investment policy contributes to reaching district investment goals and defines priorities during pursuit of those goals. The policy should set clear guidelines for types of allowable investments. For special districts in California, those investments must follow §53600 of the California Government Code. In evaluating investment options, Districts should always consider SLY – safety, liquidity and yield. The highest priority is investing funds safely with minimal chance for loss of principal. Secondly, investments should be liquid, or accessible, for cash flow. Lastly, yield can be considered, but should not be the driving characteristic in evaluating options. An investment policy should be reviewed and adopted on an annual basis.
A budgeting policy clarifies district objectives, roles and timelines during the budgeting process. The policy defines what is considered a responsibly balanced budget for the district. This could include funding targets for working capital or other reserves within the budget. Be sure to clarify the budget monitoring process, the frequency of monitoring, budget adjustment authorizations, and circumstances when a budget amendment is needed and should be approved by the governing body. Budget adoption often occurs annually but some districts adopt a two-year budget. Budgeting policy could also include long-term cash flow projections. Budget formats vary and the policy should be tailor-made for unique district circumstances.
An accounting and financial reporting policy guides procedures and practices related to the recording, reporting and management of financial transactions. An accounting and financial reporting policy provides timelines for preparation of reports as well as performing accounting duties. This could be specifying that bank reconciliations will be performed within 10 days of the bank statement ending date or that financial reporting will be prepared by the 25th day of each month. It dictates what reports are to be provided to management or the governing board. Monthly or quarterly reporting is common practice. The audit firm selection process, auditor rotation frequency, and maintenance of sound internal controls are also important to consider in the policy.
Debt can be a valuable source of funding, but a debt management policy should be in place to set guidelines for the appropriate circumstances. The debt management policy needs to establish debt limits and debt capacity, and in what situations debt can be considered. Certain parameters can also be discussed such as the purpose for which debt proceeds can be used. This might stipulate that debt will not be used to fund operating expenses, that the district must have sufficient revenue for debt repayment or specific types of capital assets that are appropriate to fund with debt.
Grants are a key funding source for many districts and implementing a robust grant management policy can benefit many districts. The policy clarifies when and where to seek grant funding and the requirements for approval. It should also address how the grant funding will be managed. Advance funding and reimbursement funding can both be difficult to manage, especially if managing both types of grants simultaneously. Guidelines should be outlined in the policy as to how grants will be monitored for compliance with their associated terms. Indirect costing and sub-recipient monitoring should also be detailed in the policy. For example, language such as “all indirect costs related to grant administration will be recovered to the maximum allowable level” provides users of the policy with clear direction to recover as much indirect costs as allowed by any grant.
In summary, financial management policies serve as a strong foundation for long-term financial health and perpetuate tactful decision-making. To unlock the full potential of these policies be sure to make them clear, concise, and monitor after adoption. Reviewing adopted policies periodically facilitates continuous improvement and reconsideration if conditions change. Additional financial management policies can be explored beyond the scope of this article, but it is the responsibility of each district to assess the need for implementing the right policies that benefit the direction and decision-making of the district.
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