08.01 Proposed Financial Reserve Policy �('i,�� �'Se�� ��C' Ser'' e-
City of Orange
Finance Department
Memo
To: Rick Otto, City Manager
From: Will Kolbow, Finance Director
Date: April 19, 2018
Subject: Reserve Policy Draft
Financial reserve policies are a cornerstone of proper fiscal management. They allow for the
mitigation of current and future risks, assist in setting budget targets, and help with long-term
financial planning. The Finance Department has prepared a reserve policy draft for your review.
Our objective is to bring a draft to one of our upcoming budget study sessions for City Council
discussion and to ultimately have the City Council consider adoption, by Resolution, of the reserve
policy alongside the budget in June.
Background
The only formal reserve policy that the City currently has is the General Fund Catastrophic Reserve.
This was established in May 1996 and at a level of 25%of General Fund expenditures. This reserve
was established by a vote of the City Council (not by Resolution). The City has not met its reserve
target in the General Fund in quite some time. There was no formal action defined as to what steps
the City should take should the reserve drop below its target.
In February 2009, the Governmental Accounting Standards Board established its Statement No. 54
(GASB 54), which defines how fund balances should be reported and what standards must be met
to establish various levels of reserves. The fund balance classifications include nonspendable (non-
cash items), restricted (outside restrictions such as enabling legislation — Gas Tax for example),
committed (amounts designated by the highest decision making authority by Resolution or
Ordinance), assigned (intended use, but not necessarily formal action), and unassigned (all other
fund balance that does not meet the criteria of other classifications). While it could be argued that
the General Fund Catastrophic Reserve could fall under the "assigned" category, it has histarically
been defined as "unassigned" in the City's financial statements.
Discussion
In October 2016, staff first presented the idea of a comprehensive reserve policy to the City Council.
Subsequently, staff study reserve policies of other cities in the context of how those various cities
operate. We also did some analysis on the City's fiscal health, as seen in attached documents. We
then put together a set of reserves which we felt made sense for the City based on its operations and
presented these ideas at the budget study session on May 2, 2017. The City Council provided
feedback on some of the reserves presented, including the catastrophic reserve, capital reserve, and
equipment replacement reserve.
City of Orange
Finance Department
Based on the City Council feedback, we have put together the attached policy draft. Below is a
summary of the proposed reserves and minimum balances. We have removed targeted fund levels
since that could change as the City Council's priorities shift. This allows for flexibility for the City
Council to set the targeted fund balance in any given fiscal year.
Reserve T e Brief Descri tion Minimum Level
GENERAL FUND GROUP
General Fund Contingency Addresses unforeseen occurrences and 16.6% of annual
Reserve* emergencies,including local economic downturns, General Fund
Federal and/or State actions affecting local expenditures
revenues, catastro hic events or acts of God
General Fund Report outstanding purchase order and contractual None
Encumbrances commitments at the end of the fiscal year. For
financial re ortin u oses onl .
General Fund Carryover Report appropriations approved to be carried over None
Appropriations to the following fiscal year. For financial reporting
oses onl .
Building Records Revenues and expenditures related to the None
Management Fee Fund* maintenance and management of building records.
For budgetary purposes only —reported as part of
the General Fund in financial statements.
Business Investment Fund* Track payments related to certain tax sharing None
agreements and to set aside funds to attract new
businesses to the City in the future. For budgetary
purposes only — reported as part of the General
Fund in financial statements.
Capital Projects Fund* Accounts for capital projects that are funded by the Annual average
General Fund. of the adopted
five-year CIP
budgeted
expenditures, or
50% of highest
sin le ear
INTERNAL SERVICE FUNDS
Vehicle Replacement Acquisition and replacement of all vehicles and Annual average
Fund* equipment of the prior three
years' actual
vehicle and
equipment
ex enditures
Major Building Source of funding for major building None
Improvements Fund* improvements funded by transfers from the
Ca ital Projects Fund.
City of Orange
Finance Department
Reserve T e Brief Descri tion Minimum Level
Workers' Compensation Self- Funding for the City's workers' compensation 150% of the
Insurance Fund insurance program, which includes limited annual average
self-insurance of the prior three
years' actual
workers'
compensation
claims aid
General Liability Self- Funding for the City's general liability 150% of the
Insurance Fund insurance program, which includes limited annual average
self-insurance of the prior three
years' actual
general liability
claims aid
PERS Set Aside Reserve* Provide contingency funds for the City's None
pension plan with Ca1PERS. This reserve is
maintained within the Employee Accrued
Liabilit Fund
Computer& Technology Acquisition and replacement of the City's Annual average
Replacement Fund* information technology infrastructure and of the prior three
related equipment. years'
information
technology
capital
ex enditures
*CITY COUNCIL Sum of the funds indicated with an asterisk(*) 40% of annual
DISCRETIONARY plus unassigned General Fund balance. This General Fund
RESERVE will ensure adequate liquidity for emergencies expenditures
and imbalances and cash flow.
ENTERPRISE FUNDS
Water Operating Reserve Contingency reserve within the Water Fund in 25% of a.nnual
the event of unexpected increases in expenses, Water Fund
shortfalls in revenue, and catastrophic events. operating
ex enditures
Sanitation Operating Reserve Contingency reserve within the Sanitation 25% of annual
Fund in the event of unexpected increases in Sanitation Fund
expenses, shortfalls in revenue, and operating
catastro hic events. ex enditures
Sanitation Capital Fund A separate fund to account for revenues from None
the sanitation infrastructure fee and related
ca ital ex enditures.
CC: Katrin Bandhauer, Assistant Finance Director
Robert Moya, Budget Officer
Enclosures: Draft of Reserve Policy
Analysis of FY 19 proposed fund balance vs. Reserve Policy
EXHIBIT ��A"
FINANCIAL RESERVE POLICY
PURPOSE
The purpose of this policy is to establish adequate reserves for the City to continue to meet
its financial obligations in the event of economic uncertainty, catastrophes, or other
unforeseen circumstances. This policy will be reviewed annually during the preparation
of the City's budget and recommended changes will be presented to the City Council for
consideration with the adoption of the budget.
BACKGROUND
It is essential for governments to maintain adequa;te levels of fund balance to mitigate
current and future risks (e.g. revenue shortfalls and unanticipated expenditures) and to
support long-term financial plans.This policy e�tablishes the reserve levels for various City
funds. The policy covers the General Fund Group (which includ�:s the General Fund,
Building Records Management Fee Fund, B�siness Investment Fund, and Capital Projects
Fund), Internal Service Funds (which includes �ehicle �nd Equipment M�intenance and
Replacement Funds, General I���.bility and Wor�ers �ompensation Funds,` Employee
Accrued Liability Fund, and Cornpute�Maintenance atzd Replacement Funds), the Water
Fund, and the Sanitation Fund. �'car ptt�po��es of this po�icy, the General Fund Group
includes the Business Investment F`tax�.d, and Capital Proj�cts Fund, since the resources
maintained in these fu�ads originated frorn the General Fund. The General Fund Group also
includes the Building k��cords Management Fe�Fund, since this fund is included with the
General Fund for�nancial repprting purpo�es. Unless otherwise specified, appropriations
from fund balance w�ll,continue to be made as they are under both existing policies and the
Orange Municipal Code.
For t�E Generat Fu�q.�Group,�und balances are considered to be unrestricted and available
for u�at the discretican of the Ci��,Council,unless the fund balances have been designated
as no�-sp�ndable or rest�eted,. Un�l�r GASB Statement 54 - Fund Balance Reporting and
Governr�e�tal Fund Type Definitions, unrestricted fund balances may be categorized as
committed, assigned and unassigned.
To be categorized as Com�eitted, amounts can be used only for the specific purposes
determined by the highes� ��vel of decision-making authority (i.e. the City Council). The
City Council has the au�hority to establish a fund balance commitment, through the action
of a resolution or an ordinance, and must use the same action to modify or rescind that
commitment.
To be categorized as Assigned, amounts are identified to reflect the City's intended use of
those resources. Such intent is to be established by the City Council; however, the City
Council may designate that authority to another body or official. All special revenue funds,
will be classified as assigned, unless they qualify as restricted or committed.
All General Fund fund balance resources that cannot be properly classified into the non-
spendable, restricted, committed or assigned category will be categorized as Unassigned.
GENERAL FUND GROUP
The City Council may Commit or Assign unrestricted fund balances in the General Fund,
Building Record Management Fee Fund, Business Investment Fund, and Capital Projects
Fund for two primary purposes: (1) to ensure the continued orderly operation of City
government, while maintaining the stability of tax and fee structures in the event of
unforeseen occurrences or emergencies outside of the City's control; and (2) to allow for
the setting aside of funds for particular purposes that will be spent in future years.
General Fund Contin�encv Reserve
Definition & Purpose: To address unforeseen occurrences or emergencies. Unforeseen
occurrences or emergencies may include uncertaintie� 'related to local economic
downturns, State and/or Federal actions affecting loGa� �'�venues, uninsured losses, errors
in actuarial liability estimates, and other financial risks outs�c�e the control of the City. The
City Council commits these balances for Contin�;encies in the fin:ancial records and on the
annual audited financial statements.
Fund Balance Classi ication: Committed
Minimum Reserve Level: 16.6% (i.e. 60 days) of annt��1 General Fund expend�tures.
Reguired Action for Use: At the tim�e o�, and concurrent with, the annual budget adoption
(i.e. within the budget approval resolution);: � simple majority City Council approval is
required. For all other#ames, a 4/5 approval of City Council by Resolution is required.
Re-establishing �rrinimum balance: If the balanc� falls belpw the minimum reserve level,
the City Manager s�all be required to forrnulate a plan to restore the balance to the
minimum amount required within a 2-year perit>d.
General Fund E�r�mbranGes
Definition & Purpose: 'i'o report autstanding and purchase arder commitments at the end
of the fiscal year. The Gity Council assigns these balances as Encumbrances in the
financial records and on the annual audited financial statements. This reserve is for
financial state�n�nt reporti�g purposes only and will be allocated to expenditure
appropriations as applicable in the subsequent year.
Fund Balance Classi acation: Assigned
Minimum Reserve Level: None.
Required Action e or Use: The City Council defers authority to staff to determine the
amount of outstanding contract and purchase order commitments at the end of every fiscal
year.
Re-establishinQ minimum balance: Not applicable.
General Fund Unencumbered Carrvover Appropriations
Definition & Purpose: To establish an assignment of fund balance for continuing
appropriations, as approved along with the budget. The City Council will determine this
amount along with the adoption of the subsequent year's budget and assign these balances
as Carryover Appropriations in the financial records and on the annual audited financial
statements. This reserve is for financial statement reporting purposes only and will be
allocated to expenditure appropriations as applicable in the subsequent year.
Fund Balance Classification: Assigned
Minimum Reserve Level: None.
Required Action� or Use: Not applicable.
Re-establishing minimum balance: Not applicable.
Building Records Mana�ement Fee Fund'Balance
Definition & Purpose: This fund is maintained as a separa#e fund for budgetary purposes
to record revenues and expenditures related to the maintenance and management of
building records. The City Court�il assigns this fi�nd balance as Building Records
Management in the financial records and t���ie annual�udited financial statements within
the General Fund.
Fund Balance Class%,�tcatifln: Assigned
Minimum Reserve Level: None.
Reguired,s4�t�Qn for Use: Appropriation by City�ouncil.
Re-establishin�minrrrtum balanee: Not applicable.
Business�nvestment Fund Balance
Pur,�ose: This fund is main#ained as a separate fund for budgetary purposes to track
payments related t� certain tax sharing agreements, and to set aside funds to attract new
businesses to the City in the future. The primary funding source for the Business
Investment Fund is tran�f�rs from the General Fund. The City Council assigns this fund
balance as Business Investment in the financial records and on the annual audited financial
statements within the General Fund.
Fund Balance Classi�cation: Assigned
Minimum Reserve Level: None—set annually by City Council upon budget adoption.
Rec�uired Action for Use: Appropriation by City Council.
Re-establishing minimum balance: Not applicable.
Canital Proiects Fund Balance
Definition & Purpose: This fund is maintained as a separate fund for budgetary and
financial reporting purposes for capital projects that are funded by the General Fund. The
primary funding source for the Capital Projects Fund is transfers from the General Fund.
The City Council assigns this fund balance as Capital Improvements in the financial
records and on the annual audited financial statements.
Fund Balance Classification: Assigned
Minimum Reserve Level: The annual average of the five-year Capital Improvement Plan
budgeted expenditures, or 50% of single highest year in the� five-year CIP, whichever is
higher. This will be calculated on an annual basis as p�rt of the budget preparation and
adoption.
Required Action for Use: The City Council ap�ropriates funds from the fund balance in
conjunction with the adoption of the annual budget. At other times, fund balance may be
appropriated by City Council under existing'policies.
Re-establishing minimum balance: As directed by the,C�ty Council during the budget
process.
INTERNAL SERVICE FUNDS
Internal service funds are used to efficiently allocat�costs of vaxious internal functions to
the City's individu�.l dep�rtments and' fun�s. These services include equipment
maintenance and replacement, self-insurance funds, ernployee accrued liabilities, and
information technalogy maint�nance and '�eplacement. Internal service funds utilize
proprietary accounting. As such, the classifications of fund balance described above do
not apply to �he internal service fun�s. Reserve levels will be determined on a current
resoure� basis (c�at�'ent ass�ts less current liabilities) and established from a strictly
budgetary perspective.
Vehicle Renlacement Fu�d
Definition &F��,pose: To pro�vide a source of funding for the acquisition and replacement
of all rolling stock and equip�ent, including vehicles, heavy machinery and equipment,
and trailers. The fur�dz`ng s�urce for this fund is charges to user departments.
Fund Balance Classification: Not applicable
Minimum Reserve Level: The annual average of the prior three years' of actual vehicle and
equipment expenditures
Reguired Action for Use: Appropriation by City Council.
Re-establishing minimum balance: As directed by the City Council during the budget
process.
Maior Building Improvements Fund
De�nition & Purpose: To provide a source of funding for major building improvements.
The primary funding source for the Major Building Improvements Fund is transfers from
the Capital Projects Fund.
Fund Balance Classification: Not applicable
Minimum Reserve Level: None.
Required Action for Use: Appropriation by City CounciL
Re-establishinQ minimum balance: Not applicable.
Workers' Compensation Self-Insurance Fund
Definition &Purpose: To provide funding ft�r the City's warkers' cc��n�ensation insurance
program, which includes limited self-insurance,
Fund Balance Classification: Nat applicable
Minimum Reserve Level: One hundred fifty percent (15U%o) of the annual average of the
prior three years' of actual workers' compensatic�n claims paid.
Required Action for Use: Appropriation by,City Ct�uncii. '
Re-establishin� minrnzum balanee: If the b��ance falls below the minimum reserve level,
the City Manager sh�ll be required to formulate a plan to restore the balance to the
minimum arnvunt requirec�within a 2-year periad.
General.Liabilitv Self-�nsurance Fund
Definition c� Purpose: To provide funding for the City's general liability insurance
program, whieh includes limited self-insurance.
Fund Balance Classificatian:Not applicable
Minimum Reserve Level: One hundred fifty percent (150%) of the annual average of the
prior three years' of actual general liability claims paid.
Rec�uired Action for Use: Appropriation by City Council.
Re-establishing minimum balance: If the balance falls below the minimum reserve level,
the City Manager shall be required to formulate a plan to restore the balance to the
minimum required amount within a 2-year period.
PERS Set Aside Reserve
Definition & Purpose: To provide contingency funds for the City's pension plans with
Ca1PERS. This reserve is maintained within the Employee Accrued Liability Fund.
Fund Balance Classifcation: Not applicable
Minimum Reserve Level: None—set annually by City Council upon budget adoption.
Required Action for Use: Appropriation by City Council.
Re-establishing minimum balance: Not applicable.
Computer and Technolo�v Replacement Fund
De�nition &Purpose: To provide a source c�f funding for the acquisition and replacement
of the City's information technology infrastructure and related equipment.
Fund Balance Classification: Not applicable
Minimum Reserve Level: The annual average of the prior three years' of actual computer
and technology capital expenditures.
Rec�uired Action for Use.' Appropriation by City Councii;
Re-establishing minirnum balance: As directed by the City Council during the budget
process.
CITY COUNCII.DISCRETIONARY�SERVE
In ord�t to ensure adequate liquidity for emergencies and imbalances in cash flow, the
combined �und balances c�f the General Fund Contingency Reserve, Building Records
Management Fee Fund, Business Investment Fund, Capital Projects Fund, Vehicle
Replacement Fund, Major $uilding Improvements Fund, PERS Set Aside Reserve,
Computer and Teclinology R�placement Fund, and unassigned General Fund balance,
collectively known as the City Council Discretionary Reserve, shall be maintained at a
minimum level of 40%t�f General Fund expenditures.
ENTERPRISE FUNDS
Enterprise funds are maintained for funds whose primary source of revenue is charges for
services. The City maintains enterprise funds for two functions: Water and Sanitation. The
California Constitution restricts revenues generated by the user charges to be used only for
the purposes for which the fees are collected. Enterprise funds utilize proprietary
accounting. As such, the classifications of fund balance described above do not apply to
the enterprise funds. Reserve levels will be determined on a current resource basis(current
assets less current liabilities) and established from a strictly budgetary perspective.
Water Fund Onerating Reserve
Definition & Purpose: To provide a contingency reserve for the Water Fund in the event
of unexpected increases in expenses, shortfalls in revenue, or catastrophic events.
Fund Balance Classi ication: Not applicable
Minimum Reserve Level: Twenty-five percent (25%) of budgeted operating expenses.
Rec�uired Action for Use: Appropriation by City Council.
Re-establishing minimum balance: If the balance falls below the minimum reserve level,
the City Manager shall be required to formulate a pla� to restore the balance to the
minimum required amount within a 2-year period. '
Sanitation Fund Oqerating Reserve '
Definition & Purpose: To provide a conting�n�y reserve for the Sanitation Fund in the
event of unexpected increases in expenses, shortfalls in revenue, or catastraphic events.
Fund Balance Classification: Not applicable
Minimum Reserve Level: Twenty-five perce�t(25%) of budgeted operating expenses.
Required Action for tlse.• Appropriation by City Council,
Re-establishi��minirrzum balartee: If the bal�nce falls below the minimum reserve level,
the City Manager shall be re�u�red to formulate a plan to restore the balance to the
minimum rec�uired amount wit�in a 2-year periad.
Sanitation Capital Fund
De�nition & Purpose: 'This fund is maintained separately for budgetary purposes to
account for the sanitation infr�.structure fee. The revenue generated from this charge is to
be used for capital improvements to the City's sewer infrastructure. It is combined with
the Sanitation Fund for fina.ncial reporting purposes.
Fund Balance Classificertion: Not applicable
Minimum Reserve Level: None.
Reguired Action or Use: Appropriation by City Council.
Re-establishin�minimum balance: Not applicable.
City of Orange
Proposed FY19 Fund Balances vs. Proposed Reserve Policy
Reserve Minimum Level Minimum Balance Proiected Balance
General Fund Contingency Reserve* 16.6%of annual General Fund
expenditures 18,564,510 20,067,960
Unreserved General Fund Balance* None - 3,797,668
General Fund Encumbrances None - -
General Fund Carryover Appropriations None
Building Records Management Fee Fund* None
- 537,392
Business Investment Fund* None - 1,704,380
Capital Projects Fund* Higher of annual average of the
adopted five-year CIP budgeted
expenditures or 50%of single highest
year 235,000 9,113,707
Vehicle Maintenance Fund* None - (18,166)
Vehicle Replacement Fund* Annual average of the prior three
years'actual vehicle and equipment
expenditures 3,552,223 2,866,348
Major Building Improvements Fund* None
- 58,927
Accrued Liability Fund* None - (27,512)
PERS Set Aside Reserve* None - 6,243,000
Computer&Technology Maintenance None
Fund* - 35,291
Computer&Technology Replacement Annual average of the prior three
Fund* years' information technology capital
expenditures 957,741 474,274
*CITY COUNCIL DISCRETIONARY RESERVE 40%of annual General Fund
expenditures 44,733,759 44,853,269
Workers'Compensation Self-Insurance 150%of the annual average of the
Fund prior three years'actual workers'
compensation claims paid
3,120,911 7,036,803
General Liability Self-Insurance Fund 150%of the annual average of the
prior three years'actual general
liability claims paid 735,944 1,077,533
Water Operating Reserve 25%of annual Water Fund operating
expenditures 8,000,612 5,519,018
Sanitation Operating Reserve 25%of annual Sanitation Fund
operating expenditures 1,173,239 1,444,433
Sanitation Capital Fund None - 1,867,885