The purpose of this agenda item is to present a high-level financial forecast that highlights the fiscal environment facing the City in the next five years. A financial forecast is a long-range financial planning tool to provide awareness of future challenges and opportunities and intended to assist decision-makers in weighing the longer-term financial consequences of short-term decisions. The forecast is intended to assess whether the City is likely to have a surplus or deficit in the fiscal year based upon projected revenues and anticipated expenditures. The consideration of the financial horizon is particularly relevant as staff embark on the development of the Fiscal Year 2025-2026 (“FY 25-26”) operating and capital budget.
As shown within Attachment 1, “Five Year Financial Forecast FYE 2026-2030”, expenditures are projected to outpace revenues, resulting in a budgetary deficit for fiscal years 2025-26 through fiscal years 2029-30. The forecast is based upon the following assumptions and any change in these factors would impact the projected deficit:
1. Maintaining staffing levels at the full-time equivalent positions contained within the Fiscal Year 2024-25 Adopted Budget.
2. No change in debt payments resulting from refinancing and/or incurring new debt.
3. Capital outlay expenses based upon 5-year Capital Improvement Plan.
4. Additional funding to address pension mitigation ceases after its fifth year of contributions, fiscal year 2025-26.
Revenue Assumptions
In looking at Fiscal Year 2025-2026 and beyond, the model assumes continued modest growth in property taxes and sales tax over the next few years. Based on current industry expectations, transient occupancy tax is forecast to decrease initially, then realize modest growth thereafter. The assumptions are based upon economic literature, forecasts developed for the tourism industry and in consultation with the City’s sales tax consultant. The assumptions reflected within the attached forecast include:
- Property Tax: FY 25-26 property tax revenue assumes a 2% growth over the FY 24-25 Adopted Budget and 2% annual growth thereafter.
- Sales Tax: Based upon local business trends and the December 2024 Consensus Forecast received from industry consultants, Bradley Burns and Measure C assumes small economic growth in FY 25-26 of 1.5% and 1.2% respectively. After, Bradley Burns is projected to grow 2.7% each year through FY 29-30 and Measure C is projected to grow 2.8% year over year.
- Transient Occupancy Taxes: Reflects 3% decrease over the FY 24-25 Adopted Budget, and 1.3% annual growth thereafter based on industry expectations, economic indicators and anticipated room inventory.
- Charges for Services: Charges for services are based upon consumer demand for a variety of services, including planning and building, ambulance transport and special events, and are thus more challenging to predict. The forecast builds upon the FY 24-25 Adopted Budget and assumes an annual increase of 2.4% for inflation.
- Other Revenues: This category includes revenues such as business license taxes, franchise fees, and intergovernmental revenue. The forecast builds upon the FY 24-25 Adopted Budget and assumes an annual increase of 2.4% for inflation each year.
Expenditure Assumptions
Fiscal Year 2024- 2025 is likely to end with a surplus due to a combination of stronger than anticipated revenue and lower than anticipated operating and capital expenditures. Expenditures include the General Fund operating budget, capital budget, and debt service. The forecast is based upon the following assumptions:
- Salary and Benefits: In keeping with the City’s current MOU salary contract commitments, FY 25-26 reflects 4% growth over the FY 24-25 Adopted Budget. Thereafter, a 2% annual growth rate over each prior year's budget reflects potential increases in salaries and other benefits, such as healthcare. FY 25- 26 and each year thereafter is based upon the same staffing level as FY 24-25, thus any changes in staffing levels and/or negotiated salary and benefit cost increases greater than 4% and 2% will impact the projected expenses.
- CalPERS Unfunded Pension Liability: The forecast is based upon the City’s FY 24-25 authorized positions using a pension forecasting model which assumes a 6.8% CalPERS’s investment return.
- Services and supplies: FY 25-26 and thereafter assume a 2.4% annual inflationary increase over the FY 24-25 Adopted Budget.
- Debt: The debt payment is based on debt repayment schedules and reflects the reduced payments in FY 25-26 through FY 29-30 for the Sunset Center. Maturation of the Sunset Center bond is anticipated in FY 31-32. The forecast assumes no additional debt either through the issuance of new bonds, the refinancing of existing bonds or the use of lease financing for capital projects and/or vehicle purchases.
- Pension Mitigation: In Fiscal Year 21-22, Council authorized the City Administrator to set aside $1 million annually for pension mitigation in each of the next five years. The City has included the fifth and final authorized unfunded pension liability set-aside in FY 25-26. The forecast assumes no additional pension mitigation options thereafter.
- Capital Outlay: The forecast is based upon the City’s Five-Year Capital Improvement Plan.
Policy Discussion and Options
The financial forecast is intended as a planning tool to assist in both short and long-term decision-making. It is developed by staff based upon historical data, year-to-date actuals, and economic and industry literature and attempts to capture various external factors that impact the City’s revenues and expenses. It should be considered a guide that is fluid and able to be updated as new factors emerge, especially considering the changing economic environment. Based upon the current projections, staff anticipates an annual deficit whereby planned expenditures outpace anticipated revenues, primarily due to the economic slowing of some of the City’s major revenues and growing operating and capital expenditures.
The purpose of the special meeting is to receive preliminary direction from Council regarding capital expenditures. In particular, as part of the next agenda item, Council will receive a presentation regarding the proposed capital projects for the upcoming fiscal year and will be asked to provide preliminary direction regarding the prioritization of identified projects as well as any additional projects to be included within the Capital Improvement Plan.
Currently, the forecast allocates approximately $9,800,000 for capital outlay in FY 25-26. The $9,800,000 represents 30.1% of projected revenue, consistent with financial policy recommendations. Council has the discretion to change the amount allocated for capital projects. However, should the capital budget be increased it should be considered in light of other factors that will impact the forecast, namely service levels and pension liability.
First, the forecast for the City’s largest expenditure, salaries and benefits associated with staffing, assumes the same authorized staffing level as FY 24-25 and a 4% growth in costs over FY 24-25 Adopted Budget, and 2% annual growth thereafter. The City typically renegotiates MOU salary contracts every two years, therefore any newly negotiated salary schedules will impact future projected salary expenditures.
Second, the operating budget assumes an increase of 2.4% over the FY 24-25 Adopted Budget in services and supplies for FY 25-26. However, it is likely that many of the contractual services necessary to provide critical services to the community as well as necessary costs associated with daily operations (“cost of doing business”) will experience increases greater than 2.4%. Depending on the magnitude of the increase in some of these services, it may not be possible to absorb the impact through further reductions in other areas of the budget without impacting service levels and/or the efficiency of departmental operations.
Third, the forecast also sets aside funding to address pension liability. The City’s Unfunded Accrued Liability Payment (“UAL”) is estimated at $29.2 million as of June 30, 2024. The City’s annual UAL payment is expected to increase from $2.3 million in FY 24-25 to $3.3 million in FY 29-30. However, it is possible that the payments may increase if CalPERS either does not achieve its goal of a 7% return on its investments or reduces the discount rate. The forecast includes $1 million to be used for pension mitigation options in FY25-26 only. Council has the discretion to allocate additional funding for pension mitigation strategies.