STAFF REPORT TO THE CITY COUNCIL
DATE: Regular Meeting of April 25, 2023
TO: Members of the City Council
SUBMITTED BY: Dante Hall, City Manager
Edwin Gato, Director of Finance
SUBJECT: Budget Workshop: FY 23-24 City of Hercules Annual Proposed Budget
RECOMMENDED ACTION
No action is required at this time. It is recommended that the City Council discuss and provide direction to staff regarding the proposed Fiscal Year (FY) 23-24 annual budget.
COMMISSION/SUBCOMMITTEE ACTION AND RECOMMENDATION
The Finance Commission reviewed the proposed FY 23-24 Budget at their special meeting on April 19, 2023. Their comments, if any, will be incorporated into the first public hearing on May 9, 2023.
EXECUTIVE SUMMARY
The City operates under a fiscal operating budget. This meeting begins the process of building the FY 23-24 Annual Budget. The proposed FY 23-24 Annual Budget presented in this report balances one-time and ongoing investments and long-term financial stability strategies. It is designed to meet the community’s needs within the city’s current and projected financial resources. The proposed budget reflects the community’s long-term vision, strategic plans, and established priorities. The first public hearing for the budget has been set for May 9, 2023. City Council will consider adopting the proposed FY 23-24 Annual Budget after the second public hearing tentatively scheduled for June 6, 2023.
To begin the budget education process, the City recently released a video that explains the city’s financial planning and management process, and the most critical steps in forming the budget. The video is available on the City’s website and can be accessed at the following link: https://www.ci.hercules.ca.us/government/finance/budgets
DISCUSSION
The City Council held a public strategic planning meeting workshop in April 2022 where they established the Hercules strategic plan. During the workshop, the Council established priorities and multi-year goals, as listed below:
Multimodal station (RITC – Renamed the Hercules Hub)
Grow retail and commercial development to serve the community Long-term financial plan
The City’s goal is to align Council priorities and associated programs, projects, and activities within the budget and staff resources consisting of five categories - Prudent Financial Management, Traffic, Transportation & Infrastructure, Public Safety, Quality Of Life, and Future Planning & Policy Initiatives.
The City Manager’s proposed annual budget remains consistent with the Council’s commitment to long-term solvency. The revenue estimates and expenditure appropriation in the budget are for the General Fund, other restricted funds, sewer, debt service and internal service funds. They include general operations, debt, capital and internal transfers (for all programs and support functions of the City), fund summaries and financial schedules (showing prior year actual results), and the FY 23-24 proposed budget compared to last year’s budget. The following categories explain the overall assumptions used:
Salaries and Benefits
The most significant cost is driven by its labor. Labor accounts for almost 60% of total expenditures. Below are significant assumptions used to estimate the cost of salaries and benefits:
Regular Salaries – Personnel services costs included a 4.5% wage increase and a 3% one-time retention bonus based on the two-year labor agreements with the employee groups.
PERS Miscellaneous and Public Safety Normal Cost and Unfunded Actuarial Liability (UAL) rates are projected as follows based on CalPERS actuarial assumptions:
Health care costs, including medical, dental and vision, are projected to increase by 3% from the FY 22-23 Kaiser rate. 1% of employee salaries will be contributed towards IRS Section 115 Pension Trust per policy direction established by the City Council.
All other expenditures are estimated to increase by 3%.
Aside from the assumptions discussed above, a list of significant budget increases are outlined and detailed in Attachment 1. The budget impact of the following proposed increases are as follows:
Ongoing Cost:
General Fund: $665,450
Other Funds: $360,300
One-Time Cost:
General Fund: $24,000
The City’s annual budget is a planning tool that matches the services desired by the community to the estimated resources available to provide those services, such as police, parks and recreation, community development, public works and administration. The budget provides a detailed plan for the next fiscal year and five-year forecast to anticipate future needs and opportunities.
As the City develops the FY 23-24 annual budget, we want to hear from community members about the priorities that are most important to residents, businesses, and interested parties, with the goal of creating a budget that ensures the City is financially sustainable and healthy, while also being able to continue to fund and provide the services that our residents and businesses care about most.
ANALYSIS
The City uses fund accounting to ensure and demonstrate finance-related legal compliance. A fund is a grouping of related accounts, which are used to maintain control over resources that have been segregated for specific activities or objectives. The Analysis section of this report provides detailed information for the following fund categories:
General Fund Revenue Estimates
General Fund Expenditures Projections
General Fund Projected Net Annual Results
General Fund Five-Year Forecast
Non-General Fund Programs
General Fund
The General Fund is the chief operating fund of the City. This fund is used to record all resource inflows and outflows that are not associated with special-purpose funds. The activities being paid for through the general fund constitute the core administrative and operational tasks of the City.
General Fund Revenue Estimates
As shown in the graph and as detailed in Attachment 2, overall General Fund revenues in FY 23-24 are projected to increase by approximately 7% compared to what was projected in FY 22-23. The revenue increase is substantially driven by proceeds from sales tax and the program fees from the re-opening of the Parks & Recreation programs.
The bulk of General Fund revenues come from Utility User’s Tax (UUT), Sales Tax, Property Tax, Real Property Transfer Tax (RPTT), Transient Occupancy Tax (TOT) and other taxes.
Sales Tax
The largest revenue source for the City’s General Fund is remitted monthly to the City from the State. Sales Tax revenues are projected to increase significantly based on quarter three analysis generated from the data from the Board of Equalization (BOE). However, total sales tax revenues are highly concentrated within a few major operators and substantially generated from business-to-business sources. Its top three producers generate over 50% of the City’s sales tax revenues. When one or more of these key revenue sources deviate from projections, funding for future programs and services may be affected. If one or more of these key revenue sources were to cease local operations within Hercules, the resulting drop in sales tax revenue would likely have a significant negative impact on the provision of programs and services.
The City continues to benefit from the ongoing implementation of the Wayfair court decision that resulted in an increase in local government’s share of online sales and the more significant number of purchases made online. These trends are part of the City’s share of the County pool. The following chart depicts the source of the City’s sales tax revenues by industry group.
Staff Assumes:
Growth in Sales Tax Revenues due to higher sales data from BOE.
Continued modest growth in employment, disposable income, G.D.P., Consumption of taxable goods.
Possibility of recession should not be ignored but continued low unemployment and tight labor markets indicate that a severe downturn is becoming less likely.
The baseline forecast assumes a very mild recessionary estimate. Sales tax impacts, to a certain extent, will be offset by lingering higher than normal inflation.
Annual Per Capital Sales Tax
(Adjusted for inflation)
Utility User’s Tax
Utility User’s Tax (UUT) are revenues collected from the consumption of utility services, including (but not limited to) electric, gas, water, sewer, telephone (including cell phone and long-distance), sanitation, and cable television. The City determines the tax rate and the use of its revenues. UUT revenues are estimated at $3.7 million for FY 23-24. Based on the trend and its consumption rate, the City continues to see erosion in Wireless Telecom’s UUT revenues due to the update in allocations of the bundled packages from the respective providers. These updated allocations shifted a more significant percentage toward data that is not taxable. The following chart depicts the source of the City’s UUT revenues by category:
Utility User’s Tax
Summary by Fiscal Year
On November 8, 2022, the Hercules voters approved Measure N, which did not increase the amount of the UUT tax but removed the sunset provision that would have caused the expiration of the UUT in January 2025. The City’s UUT revenue is approximately 20% of the general fund budget.
Property Tax
The City of Hercules has been classified as a low-to-no property tax jurisdiction. The City's share of the base 1% property tax rate is lower than most other jurisdictions at just a little over 5% of Hercules's total base property taxes. This year the Assessor's office applied a CPI factor of 2% to non-Prop 8 parcels. It is estimated that the City share of 1% assessed property value tax is calculated to be a little over $1.6 million for FY 23-24.
Transient Occupancy Tax (TOT) – Commonly referred to as a “hotel tax”, the TOT is levied for the privilege of occupancy, each transient is subject to a tax of 10% of the rent charged by the operator. The TOT is a general tax which is deposited into the City’s General Fund. TOT revenue is expected to increase due to new development including a hotel to be built at the Sycamore Crossing location. Additional TOT is generated by Airbnb and other short term rental operations. Per the Development Agreement with Hercules Self-Storage Management LLC, the City is entitled to 10% of the rental income in-lieu of the TOT once a 90% rental threshold has been reached.
Parks & Recreation Program Revenues
During the COVID-19 pandemic and mandatory closure, revenues from the Parks & Recreation program were significantly reduced due to the suspension of programs and offerings and facility rentals. The FY 23-24 revenue estimates reflect the re-opening of suspended programs and returning to normal operations.
Fees for Service
The City charges fees to the community based on the costs of services provided. These fees are documented in the City’s Master Fees & Charges Schedule. The Master Fees & Charges schedule is approved periodically by the City Council, and individual fees may be amended from time to time during a fiscal year. However, there must be a nexus to the costs of providing those services. The City is currently undertaking a fee study to update the fees. Staff will return to the Council with recommendations before adopting the budget.
Cell Tower Leases – The revenue collected from the leases on cell towers is projected to increase by 2%.
General Fund Expenditure Projections
General Fund Expenditures by Category
The graph shows the General Fund ongoing expenditures by category and are projected to increase by 8% compared to the prior fiscal year's budget as summarized in attachment 2.
General Fund Projected Net Annual Results
The General Fund is projected to end the fiscal year with approximately $800K, about $179K of one-time expenditures, and $4.5 million in operating reserve. The reserve balance is equivalent to 25% of the General Fund budget.
General Fund Five-Year Forecast
The Five-Year Forecast provides a current and long-range financial assessment of revenues, expenditures, fund balance, and operating reserves. The primary objective is to provide the City Council and the community with a financial forecast and identify any significant issues that may need to be addressed in the annual budget development process.
It is important to keep in mind that a forecast is not a budget. Given certain assumptions, the Five-Year Forecast is a vehicle that peers into the future and makes projections about what is likely to happen. If future deficits are projected, then the forecast allows time to take corrective action to ensure finances remain stable.
This analysis is centered on the City's General Fund because it is the primary operating budget for tax-supported municipal services. Long-range financial forecasting assists the City in making decisions that lead to our ability to sustain the community's core services. It is best practice for the City to update this plan annually. As shown in Attachment 5, the General Fund can absorb the additional ongoing costs requested in the budget.
Non-General Fund Programs
Special Revenue funds
The Special Revenue Funds are driven by grants or other specific funding sources used for particular purposes, such as transportation, building permit counter activity, other restricted programs, etc. Such funding sources are restricted, requiring revenues and expenditures to be tracked differently from the City’s primary operating fund, the General Fund. There is sufficient funding for the completion of current projects or programs, but the addition of any new programs or projects is dependent on the availability of future funding sources. The following are funds under the Special Revenue category:
Asset Seizure (Fund #101) – The City maintains a forfeited assets fund to account for monies received from Police confiscated drug money and property. Funds are held until the final court disposition is received. The funds are restricted to police-related activities only. FY 23-24 projected ending available balance is $8,000.
AB 3229 COPS Program (Fund #201) – California State Legislature created the Citizens Options for Public Safety (COPS) program. The funds are restricted to front-line law enforcement services. The City receives approximately $150K a year transferred to General Fund to offset police services.
Landscaping and Lighting Assessment Districts (LLADs) – This Funding is restricted to landscaping and lighting maintenance and capital improvements in City parks, major roads, and each of the 5 LLADs. The 5 LLADs include approximately 8,500 parcels. An annual assessment must be submitted to the County and placed on the county tax rolls every year. An engineer’s report outlining the budget and showing the amount of the assessment must be prepared. Staff is in the process of preparing the assessment and the budget, which will be included in the budget documents once completed.
Stormwater (Fund #231) – This fund accounts for the activities associated with the acquisition, construction, maintenance, and operation of stormwater facilities. FY 22-23 projected ending available balance is negative $207,399. Staff will analyze the fiscal health of the fund and recommend strategies to address the deficit in the next fiscal year.
Development Impact Fees (DIF) – Under the California Mitigation Fee Act (AB 1600) cities and counties have the authority to implement DIFs. This allows cities and counties to collect funds from new development projects to cover public infrastructure, facilities, improvements, service, and community amenity costs related to the new development’s proportionate share of impact on those facilities. DIFs are prohibited from funding operation and maintenance and cannot be collected or used to cover existing capital or infrastructure deficiencies. The City DIF funds are categorized as follows and their respective available fund balance projected in FY 23-24:
Public Facilities (Fund #241): $179,673
Police Facilities (Fund #244): $105,948
Fire Facilities (Fund #246): $0 (Revenues remitted to the Fire District) Parks & Recreation (Fund #247): $136,536
Public Benefit Fee (Fund #249): $975,835
Transportation Facilities (Fund #261): $141,988
Sub-regional Transportation Mitigation Program (STMP): $0 (Revenues collected are remitted to West Contra Costa Transportation Advisory Committee (WCCTAC) in accordance with the Master Cooperative Agreement) State Gas Tax (Fund #262) - The Gas Tax is a special revenue fund used to account for the revenue received from the State of California derived from gasoline taxes. These funds may only be used for street purposes as specified in the State Streets and Highways Code, so they have always been an important revenue source for the City’s Streets Capital Improvement Program. The revenue estimate, including SB1 funds, for FY 23-24 is $1.4 million and the proposed budget is approximately $1.4 million. The projected FY 23-24 ending available balance is $192,863.
Measure J Street Fund (Fund #263) – The Measure J Fund is a special revenue fund used to account for the revenue received from the County’s ½ cent sales tax measure and can only be used for street purposes per F. above, similar to the Gas Tax. The revenue estimate for FY 23-24 is $450K and the estimated ending available balance at the end of the fiscal year is $0.
Solid Waste and Recycling (Fund #291) – This special revenue fund is used to comply with recycling and diversion programs required by State legislation (AB 939). Previously approved qualifying expenditures include street repair to mitigate damage from garbage trucks, street sweeping, trash removal from the stormwater system, and enforcing the plastic bag ban. FY 23-24 estimated ending available balance is $816,427. The City Council last reviewed this item on September 22, 2015, and staff would like to seek the Council’s direction regarding allocating accumulated savings and incorporating the updated expenditure plan in the annual budget.
Regional Water Quality (Fund #521) - This fund accounts for the Regional Water Quality. Created by the State Legislature in 1967, the Board protects water quality by setting statewide policy, coordinating, and supporting the Regional Water Board efforts, and reviewing petitions that contest Regional Board actions. There are nine regional water quality control boards that exercise rulemaking and regulatory activities by basins. FY 23-24 ending available balance is $51,729.
BART Park & Ride (Fund #266) – This fund is to account for maintenance of the park-and-ride facility own by BART. The cost to maintain the facility will be reimbursed by BART through a revolving fund, so no out-of-pocket expenditures occur.
General Plan Update Fee and Building Training Fee (Fund #267) – This fund is to account for the General Plan Update Recovery Fee and Building Training Fee. The projected ending available balance for FY 23-24 is $1.1 million.
American Recovery Plan Act (ARPA) (Fund #353) – This fund is to account for funding received from ARPA. The final rule offers a standard allowance for revenue loss of $10 million. Staff selected the standard allowance as permissible under the revenue loss category and elected to use the total amount allocated of $6.2 million for government services.
Successor Housing - The City did not elect to become the Housing Successor to the Hercules Redevelopment Agency (“Housing Successor”) to retain housing assets and functions. The City and the County declined the role of Housing Successor in 2012 because there was no funding for the management or monitoring of housing assets and functions. The Housing Authority’s refusal of Housing Successor responsibilities has left 108 loans with an outstanding balance of $3.9 million and $4.9 million in deposits from loan repayments in a state of limbo since 2012. The City does not have the legal authority to administer loans and spend money generated by Former Agency housing assets (“Housing Funds”) because they Housing Funds are restricted as Housing Successor assets under HSC 34176 and 34176.1.
City staff is currently in discussions with the County Housing Authority to legally transfer the role of Housing Successor, including all housing assets and functions of the Former Agency, from the Housing Authority to the City. This will allow the City to actively administer the $3.9 million in outstanding loans and access the $4.9 million in Housing Funds to pay for Housing Successor administrative costs and affordable housing development. If the City becomes Housing Successor, it will incur costs to administer loans, prepare annual reports due to the California Department of Housing and Community Development (“HCD”), and report on the Housing Fund in the City’s audited financial statements.
Administrative costs are estimated to be $200,000 to $225,000 in the first year to set up the Housing Fund, catch up on annual reports, and review outstanding loan balances and payoff status. Ongoing annual administrative costs are estimated to be $100,000 to $150,000 based on a review of other housing successors. State law permits a maximum annual administrative allowance of $200,000 per year adjusted for inflation.
Sewer Enterprise Fund
On January 23, 2001, the cities of Hercules and Pinole entered into a joint letter agreement for the operation and ownership of the Pinole/Hercules Wastewater Treatment Plant. The City has an undivided fifty percent ownership interest in the Plant, and the City of Pinole has the right and responsibility to manage and operate the Plant. The City retains responsibility for operating and maintaining its wastewater collection system. Also, the City of Pinole maintains the records and accounts for all the wastewater treatment plant transactions.
The City owns and operates the collection system in Hercules, which includes over 60 miles of underground piping and five lift stations. The effluent is treated at the Hercules-Pinole Wastewater Treatment Plant (WWTP), located and operated by the City of Pinole. Hercules owns half of the WWTP.
The City collects approximately $6 million a year in services charges from over 8,400 connections charged through the County tax roll. Developers also pay impact fees to provide capacity for the wastewater their project generates.
The Sewer Enterprise Fund pays for the sewer system's operations, maintenance, and capital improvement and is restricted. The revenues collected from sewer fees cannot be used for non-sewer-related purposes. FY 23-24 proposed operating budget is estimated to be $4.1 million; Capital improvements of $785K, and debt obligation annual payment of $2 million.
Internal Service Funds
The City utilizes five Internal Service Funds (ISFs). Three of the funds manage the capital replacement and asset management of vehicles, facilities, and technology items. The two ISF manages the City’s Information System (IT) Operations and Facilities Maintenance.
Vehicle Replacement ISF
The City is in the process of developing a replacement cycle plan. The model that the City is developing will provide for the replacement of vehicles on a schedule based on age and mileage. There will typically be some vehicles that need to be replaced before the targeted age and mileage threshold and others that can be extended beyond the established schedule. All vehicles will be evaluated using these criteria and assessing the maintenance and gas consumption cost to determine the appropriate replacement time frame. Currently, the City replacement is “pay-as-you-go” basis. For FY 23-24, the budget provides for replacing the following:
Replace the existing two patrol vehicles that exceeded the dependable service life of a Police patrol vehicle and two Police administrative vehicles. (Estimated cost: $220,000) Information Technology Operations and Replacement ISF
The fund accounts for Information Technology, which provides various technology-related services for the city, including networking and infrastructure technology, including servers, switching, security, cyber protection, internet connectivity, service desk, disaster recovery, and other data communication technologies. FY 23-24 proposed IT operating Budget is estimated to be $1.3 million. Resources are from administrative charges to departments based upon their proportional share of program costs.
Facilities Maintenance ISF
The fund accounts for Facility Maintenance and provides and manages maintenance and emergency structural repair services for all City facilities. The source of revenue is reimbursement from departments for the cost of providing facility maintenance services. This interservice fund pays for the maintenance and repair of the City’s facilities which include:
City Hall (including the Police Department)
Senior Center
Library
Lupin & Hanna Kids Center
Teen Center
Community Center
Ohlone & Foxboro Community Center
Activities include contract janitorial, HVAC, plumbing and other miscellaneous activities; various repairs and improvements performed by City staff, and utilities. FY 23-24 proposed Facilities Maintenance Budget is estimated to be $995,631. Resources are from charges to departments based upon their proportional share of program costs using the square footage of the building they occupied.
Facility Replacement ISF
This fund will be used to cover the major replacement of City buildings and facilities. There is a significant backlog of large maintenance projects at City Hall, the Police Department, etc. For FY 23-24, the City will be conducting a Citywide Facility study to address some of these backlogs.
IT Equipment Replacement ISF
This fund will be used to replace infrastructure and equipment used to support City technology needs (servers, switches, data security, etc.). This model has not yet been developed, and expenditures are currently charged together with IT Operations as “pay-as-you-go.” The ISF receives money from the other operating funds, like the General Fund, Special Revenue funds, Sewer Enterprise Fund, etc. These operating funds contribute not only for the operations but also its future capital replacements. The use of internal service funds provides for a smoothing of the costs over the asset's useful life. This is a better budgeting process because it does not require large allocations in one year and smaller allocations in other years. Instead, the estimate for repairs or replacement is calculated, and allocations are made from the operating budget into internal service funds so that resources are available when required.
Debt Service Funds
The Debt Service Fund is used to account for the accumulation of financial resources for the payment of principal, interest, and related costs for general long-term debt paid primarily from taxes levied by the City. Debt is issued as needed to provide for infrastructure improvements. The following is a summary of the City’s long-term debt and FY 23-24 debt service payment obligations:
CalHFA Loans
The City obtained the CalHFA loans under the Residential Development Loan Program (RDLP) and the Housing Enabled by Local Partnerships (HELP) for the construction of the Sycamore North project (the Aventine development). Presumably, income from leasing the residential units would have been sufficient to repay the loans. However, since the cost to complete the project was significantly more than the City and Redevelopment Agency had to pay for the project's construction, the project failed and was marketed to obtain the highest and best offer from a qualified and experienced developer. Thus, the obligation to repay the loans is now the City's obligation. Staff approached CalHFA in 2012 and, after several meetings and counteroffers, negotiated new loan terms that extended the time for payment and lowered the interest rate from 3% to 1.5%. Amendments to the loan agreement on CalHFA Loan No. HELP-080604-03 and RDLP-060506-01 were made and entered into on April 11, 2005, and February 15, 2007, and will expire on April 11, 2027, and August 15, 2026, respectively. Payment of the remaining loan balance is due in full no later than the expiration date of the loan.
At January 10, 2023, Council meeting, the Council approved in concept the option for staff to make a partial payment of $2.5 million and attempt to renegotiate repayment of the remaining balance based on an extended payment plan. As of June 30, 2022, the remaining balance was $5.2 million. In the alternative, staff can also attempt to renegotiate the entire loan amount with CalHFA rather than make an initial partial payment. The best option from the City’s perspective will depend on the terms of repayment negotiated with CalHFA. At this juncture, it is unknown whether CalHFA would agree to renegotiate the loan and what the terms would be; staff will report back to Council on this matter once CalHFA has been engaged.
Capital Improvement Projects (CIP)
Each year staff develops and presents to City Council for the adoption a CIP budget alongside the operating budget for the coming fiscal year. The CIP budget is adopted for a single year only, but the plan includes projected programming over a ten-year period.
The CIP is developed from numerous sources, including a review of on-going projects, active grant applications and opportunities, requests from Council and the community, regulatory mandates and the numerous conditions reports, studies and workgroups that include evaluations and prioritization of infrastructure needs. The needs are balanced with available funding to develop the CIP, with priority projects funded as early in the five-year program as funding permits. The list of projects/needs far exceeds the available funding in the ten-year span, and as such staff maintains a list of projects that are not recommended for funding as ‘unfunded projects’ for consideration in subsequent years. Attachment 7 includes the list of projects for FY 23-24 and its funding source. The total CIP proposed budget for FY 23-24 is $1.9 million and funded as follows:
FISCAL IMPACT OF RECOMMENDATION:
This report has no direct fiscal impact. Direction provided by the City Council will be incorporated into the FY 23-24 Annual Budget.
ATTACHMENTS:
FY 23-24 List of Additional Budget Request
FY 23-24 Proposed General Fund - Fund Summary
FY 23-24 Proposed General Fund – Expenditures by Category FY 23-24 Projected General Fund Reserve Balances
General Fund Five-Year Forecast
FY 23-24 Proposed Special Revenue Budget - Fund Summaries FY 23-24 Proposed Sewer Fund - Fund Summaries
FY 23-24 Proposed Internal Service Fund - Fund Summaries FY 23-24 Proposed Debt Service - Fund Summaries
FY 23-24 Proposed Capital Improvement Projects (CIP) – Funding Sources Presentation
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