CITY OF SAN MATEO
CITY OF SAN MATEO
Agenda Report
City Hall
330 W. 20th Avenue
San Mateo CA 94403
www.cityofsanmateo.org
Agenda Number: 17 Section Name: NEW BUSINESS Account Number: 10-2021 File ID: 26-11096 TO: City Council
FROM: Alex Khojikian, City Manager
PREPARED BY: Finance Department
MEETING DATE: April 20, 2026
SUBJECT:
General Fund 2026-27 Operating Budget — Preview and General Fund Ten-Year Forecast RECOMMENDATION:
Receive the General Fund 2026-27 operating budget preview and General Fund ten-year forecast.
BACKGROUND:
On February 23, 2026, staff presented a mid-year budget update to Council on the City’s financial status. The General Fund budget deficit for fiscal year (FY) 2025-26 is projected at $6.9 million, an improvement from the original $12 million shortfall. This reflects better-than-expected investment earnings and real property transfer taxes, as well as budget savings from vacancies. Despite the projected deficit, the General Fund balance is expected to remain strong at year-end, with an estimated $112.6 million.
In addition, since last December, City staff has been working to develop the FY 26-27 budget in accordance with City Council priorities, to meet operational needs and maintain financial sustainability. As a precursor to the proposed budget annual public hearing in June, staff is providing a preview of the General Fund’s 2026-27 budget estimates for Council comment and direction. The sections that follow provide an overview of current economic conditions and staff’s budget forecast for fiscal year 2026-27 General Fund revenue and expenditures. Additionally, this report includes a ten-year forecast of the General Fund to support budget planning discussions.
General Economic Conditions
This year’s budget development has encountered notable challenges due to economic uncertainties, particularly concerning interest rates, inflation, and expected economic growth. Although the U.S. and local economies have remained strong, despite the shifts in U.S. trade policies, the most recent war in Iran is expected to provide a significant shock to the world economy. As a result, local government agencies will most likely continue to grapple with sustained inflation and higher interest rates while also anticipating the effects of oil shocks on the growth of the economy. •Economic Growth: U.S. real GDP growth slowed materially through late 2025 and the U.S. Bureau of Economic Analysis reported real GDP growth of 0.5 percent at an annual rate in the fourth quarter of 2025, down from 4.4 percent in the third quarter. Currently, real GDP is expected to grow moderately, about 1.5 - 2.5 percent throughout 2026 and 2027, assuming the effects of the war do not dampen those estimates. •Labor Market: The labor market remains stable despite global uncertainties with the U.S. unemployment rate at 4.3 percent as of March 2026. Although the unemployment rate remains low, the civilian labor force has declined lowering the participation rate and for some segments of the labor market, unemployment is much higher. San Mateo County’s unemployment rate from December 2025 remained below the national average at 3.5 percent.
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•Inflation: Inflation, measured by the Core Personal Consumption Expenditure Price Index (PCE), has not changed much over the past two years and saw a slight uptick to 2.9% in February 2026. Inflation continues to be higher than the Fed’s long-term 2% target and a reduction in the core PCE index, which signifies easing inflation, is not expected given the current economic conditions. As such, inflation remains a concern to the economy. •Interest Rates: Throughout 2024 and 2025, the Federal Open Market Committee (FOMC) worked to reduce the federal funds rate target such that by March 2026 the rate was about 3.64 percent, with the goal of keeping the target between 3.5-3.75 percent. This rate has held constant since December 2025 and the FOMC projected just one rate cut in 2026 depending upon the economic growth, labor market, and inflation trends. Although the previous reductions had brought down mortgage interest rates, no additional reductions are expected without a rate cut and mortgage rates are expected to hover around 6% for most of 2026.
These broader economic indicators, especially those related to interest rates, inflation, and the labor market, have direct implications for the City’s revenue projections and fiscal outlook. Due to the degree of uncertainty, staff have taken a conservative approach in developing the FY 2026-27 budget.
Current Legislative Environment
At the same time, several factors within the Federal and State legislative environments are impacting the City‘s revenue projections and future financial sustainability.
Federal Rules and Regulations Issues
At the federal level, the current administration is trying to limit grant funding to the City and other agencies through its various attempts to require certain organizational policy certifications, covering DEI, immigration, and anti-terrorism in federal grant agreements, including CDBG agreements. In addition, the administration is working to include these same policy certifications in the annual renewal of an agency’s SAM.gov registration, which is a required registration for receiving federal funds. The City is working to combat these new policy certifications, both by participating in a lawsuit against the new certifications in grant agreements and by opposing any changes to the SAM.gov regulations.
State Legislative Issues
At the State level, two main challenges could impact the City’s revenues in FY 26-27 and beyond. Property Tax In-Lieu of Vehicle License Fee: The uncertainty around whether or not the City would receive its Property Tax In-Lieu of Vehicle License Fee (VLF) shortfall revenue, a long-time financial risk, increased at the end of FY 24-25. Historically, the State has reimbursed counties and cities for any in-lieu VLF shortfalls through a special appropriation in the State budget. However, as the county-wide VLF shortfalls continue to widen, the State’s willingness to fund this obligation has diminished, particularly during fiscal years when the State experiences significant deficits. At the end of FY 24-25, the State decided to only reimburse 67 percent of the City’s VLF shortfall due in FY 25-26 from FY 23-24. The City along with the County of San Mateo and all the other cities within the County have filed a lawsuit with the State over the unpaid amount, which totaled $2.2 million for San Mateo.
As a City, we will continue to fight for the VLF revenue due to us, but there is significant risk that the City will not receive the shortfall due in FY 26-27 of about $6.9 million.
Real Property Transfer Tax: A new initiative, pending qualification with the California Secretary of State for the November 2026 ballot, threatens to eradicate a significant form of General Fund revenue, our Real Property Transfer Taxes (RPTT). The new initiative, titled Local Taxpayer Protection Act to Save Proposition 13, has two important provisions that affect the City. First, the measure aims to prohibit any new RPTT and second, it proposes to make null and void any previously approved taxes not in compliance with the measure, such as our RPTT which includes Measure CC revenues approved by San Mateo voters in November 2022. The City typically budgets about $8-9 million per year in RPTT revenue, although the amount the City collects varies from year to year based on real property transfers, with a recent high of $17.2 million (FY 24-25) and a recent low of $7.4 million (FY 22-23).
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General Fund 2026-27 Budget Preview
The FY 2026-27 General Fund budget preview reflects a cautious approach in response to both external economic conditions and internal operational needs. Budget assumptions were thoroughly reviewed and updated to reflect the best estimates available. These assumptions are summarized in Attachment 1 for Council review.
General Fund Revenues
General Fund revenues for FY 2026-27 are projected to be $174.0 million, a decrease of $2.8 million (-1.6%) from the FY 2025-26 mid-year projections of $176.8 million. The decrease is primarily due to the VLF shortfall of $6.9 million that City staff did not include in the Property Tax budget since we do not know if we will receive it. All other major revenues are expected to remain relatively flat with minimal increases.
Property Tax: Property Tax is the largest revenue source for the General Fund, accounting for approximately 50% of total revenues. For FY 2026-27, property tax revenue is projected at $85 million, a decrease of $2.2 million (-2.5%) compared to the 2025-26 mid-year projection. Currently, the local real estate market remains relatively stable with secured property taxes, which make up over 60% of total property tax revenues, anticipated to increase 3.17% for FY 26-27 based on the County Assessor‘s Office estimated tax roll. Approximately 75% of San Mateo’s secured property tax base is residential.
Sales Tax
Sales tax is projected to remain flat at $28.0 million, comprising of $20.6 million from the local 1 percent Bradley-Burns sales tax, $0.4 million from Proposition 172, and $7.0 million from the local ¼ percent Measure S transaction and use tax.
Ongoing inflation, high interest rates, and trade conflicts continue to weigh on consumer spending. San Mateo's sales tax base is relatively diversified, reducing the City’s exposure to high-volatility sectors such as auto sales. While the City does not experience rapid growth in sales tax revenue during economic booms, unlike cities with major auto dealership or retail hubs, the City’s sales tax tends to be more stable during a downturn.
Real Property Transfer Tax (RPTT)
San Mateo’s RPTT is set at 0.5% on sale or transfer value of any property within the City. The voter approved Measure CC portion of RPTT increases the rate to 1.5% on properties sales or transfers of property with a value of $10 million or more.
For FY 2026-27, RPTT is projected to be $9.0 million, including $8.4 million baseline budget and an estimated $0.6 million from Measure CC.
Given the ongoing economic uncertainty, General Fund revenues are expected to remain flat or have minimal growth at
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this time. Overall, San Mateo’s revenue remains resilient, supported by stable property tax and consistent sales tax. This provides the City with certain insulation during economic downturns.
General Fund Expenditures
Total General Fund expenditures for FY 2026-27 are expected to reach $190.0 million, an increase of $2.3 million (1.2%) compared to the prior year’s adopted budget.
Personnel Costs
Personnel costs are projected at $97.0 million, consisting of salaries, benefits, and pension unfunded liability payments.
This reflects an overall 3% increase over the prior year and accounts for approximately half of the General Fund budget.
When including San Mateo Consolidated Fire Department‘s personnel and legacy costs, total personnel-related costs represent about 72% of the General Fund budget.
For FY 2026-27, staff needed to develop a new approach to estimate the personnel budget since this is the first year that the data for personnel costing is coming from our Workday ERP system. Workday categorizes salaries and benefits a bit differently in some areas, which made it difficult to compare this year’s costing to past year’s data. After incorporating salary adjustments based on negotiated labor contracts and scheduled step increases, as is past practice, and refining the data from Workday; staff believes the Workday model of personnel budgeting should bring budget closer to actuals at year end.
Also, given the ongoing financial sustainability plan, staff reviewed opportunities to reduce the personnel budget and keep increases to a minimum. Again, this year, staff plans to maintain a lower contribution to the City’s self-insured Workers’ Compensation Program (a reduction of $1.5 million) and draw down on excess fund balance from the Workers’ Compensation Fund and maintain higher CIP chargebacks to reduce the General Fund burden.
Other Operating Expenditures
Non-personnel operating expenditures are projected to be $44.7 million, increasing by $2.4 million (5.7%). For the most part, this budget reflects maintaining a baseline budget, with minor inflation adjustments, since the majority of operating expenses increased by about 3 percent. Other expenses, though, outside of the City‘s control have increased at a much higher rate. As a whole, utilities throughout the City have increased with an 18% increase in PG&E costs and a 15% increase in water costs from last year. In addition, insurance premiums continue to increase with an over 20% increase budgeted for this year. These higher increases contributed to the overall 5.7 percent increase in operating budget.
Transfers out, anticipated to be about $7.6 million, are smaller this year because staff is recommending decreases in the contributions from the general fund and Measure S to capital. Staff is proposing a one-time contribution of $1.25 million in Measure CC funding to capital, but this still leaves capital contributions to the Capital Project Fund for CIP projects low with only $4.2 million in contributions. This is added to the $3.0 million for debt service and $0.4 million annual contribution to the Equipment and Vehicle Replacement Fund for major building component replacement to make-up the total transfers out.
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General Fund Balance
In summary, General Fund total expenditures are projected to exceed total revenues in 2026-27, resulting in a budget deficit of approximately $16 million. If the deficit is realized at the end of the year, the City would need to draw on the General Fund’s Budget Stabilization Reserve to maintain core services and investments in capital projects. Fortunately, the City’s strong General Fund reserves place us in a strong position, allowing time to address the structural deficit.
General Fund Ten-Year Forecast Scenarios
This year’s General Fund ten-year forecast has been challenging due to two major uncertainties: (1) VLF shortfalls and (2) the potential legislation around RPTT.
VLF Shortfalls
Property tax in-lieu of Vehicle License Fee (VLF) is a key component of the City’s property tax revenues, accounting for approximately 20% of total property tax revenues or approximately 10% of total General Fund revenues. As discussed in previous City Council meetings, there is currently no reliable funding source for VLF shortfalls. Also, with more school districts shifting from non-basic-aid to basic-aid status, the County of San Mateo’s VLF shortfall continues to grow. The county-wide VLF shortfalls are expected to be $119 million for fiscal year 2024-25 and $125 million for fiscal year 2025-26.
The City’s share of the countywide VLF shortfall is roughly 6%, translating to $6.9 million and $7.1 million for 2024-25 and 2025-26, respectively. Currently, there are only five non-basic-aid school districts remaining in San Mateo County. The City is forecasting that three of the school districts will become basic aid within the 10-year forecast and two will remain non-basic aid. Thus, the ten-year forecast predicts the City’s VLF shortfall will reach $17.2 million by 2035-36.
Real Property Transfer Tax
As mentioned, a new initiative, titled Local Taxpayer Protection Act to Save Proposition 13, is threatening to make null and void any prior approved Real Property Transfer Taxes (RPTT). This could potentially eliminate the .5% real property transfer tax paid on all property transfers in the City and the additional 1.0% real property transfer tax paid on all property transfers over $10 million dollars as approved by 71% of San Mateo voters in November 2022. For fiscal year 2026-27 and going forward, the City estimates this revenue to be about $9 million per year.
SCENARIO ANALYSIS:
The General Fund ten-year forecast (Attachment 2) illustrates the fiscal challenges and uncertainties facing the City, including VLF shortfalls, challenges with State legislation, limitations on Federal funding, and revenue increases that cannot keep up with inflation and the increase in expenses. To demonstrate the impacts of these fiscal challenges, staff developed four scenarios - optimistic, practical, grave and dire - to outline potential fiscal outcomes and highlight the need for strategic planning and preparedness in the face of current issues.
Optimistic Scenario: This baseline scenario projects the highest growth in revenue over the ten years, assuming favorable budget conditions for most revenues. Property tax, as the primary revenue source, is projected to experience stable annual growth (averaging 4% annually), sales tax is set at a steady 2% growth rate, RPTT is set at a consistent $9 million baseline and modest increases are built in for other tax revenues. The scenario is optimistic because although it shows the current proposed budget with no VLF shortfall paid, losing $6.9 million, it assumes that the State will pay 100% of the VLF shortfall starting in fiscal year 2027-28 and beyond. As shown in Attachment 2 – Scenario A, this scenario reflects continued economic growth with a consistent reimbursement of VLF shortfalls. Under this optimistic scenario, the General Fund faces a structural deficit until fiscal year 2034-35 because even with strong revenues, the rising labor costs, inflationary pressures, and the costs of the unfunded pension liability continue to put pressure on the City’s operations.
The General Fund balance maintains a positive balance in this scenario until fiscal year 2034-35.
Practical Scenario: This scenario Includes the baseline assumptions from the optimistic scenario and is updated to assume that the State will only backfill the VLF shortfalls by 67% going forward. As shown in Attachment 2 – Scenario B, this
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scenario reflects continued economic growth with a reduction in VLF revenues. The General Fund balance maintains a positive balance in this scenario until fiscal year 2033-34.
Grave Scenario: As shown in this scenario in Attachment 2 – Scenario C, the baseline assumptions are held constant and the update assumes that the State refuses to backfill any VLF shortfalls, resulting in significant revenue loss for the county and cities in San Mateo County. If this scenario were realized, the City would need to make drastic cuts to service levels to balance the budget. It highlights the importance of continuing to advocate for the VLF revenue and exercising cautious fiscal management. The General Fund balance maintains a positive balance in this scenario until fiscal year 2030-31.
Dire Scenario: Finally, as reflected in Attachment 2 – Scenario D, this scenario keeps all the assumptions from the Grave Scenario and also assumes that the City loses its Real Property Transfer Tax ((RPTT) from State legislative action. As a worst-case scenario, this attachment shows the General Fund balance maintaining a positive balance until fiscal year 2030- 31, as in the Grave Scenario, but the resulting deficit is much larger. If realized, the results would be devastating for the City and even more drastic cuts to service levels would be needed to balance the budget.
OTHER CHALLENGES
City Facilities and Infrastructure Needs
In the April 20 meeting, staff will present a five-year CIP Budget Preview to the City Council, detailing the funding needs for City facilities and infrastructure improvements. As outlined in the ten-year forecast, the scenarios assume about $6.3 - $6.75 million in annual contributions to CIP from the General Fund with about $4.25 million from General Fund and $2- $2.5 million from Measure S (a General Fund sub-fund). The City’s funding needs for CIP far exceed these baseline annual contributions underscoring the substantial gap between current funding levels and the actual needs for capital improvements.
Pension Costs
The City’s pension costs consist of two components: (1) normal cost and (2) unfunded accrued liability (UAL) payment.
While normal costs are projected to be steady with limited growth, UAL payments are projected to increase significantly over the next seven years. The current UAL payment estimates included in the ten-year forecast are based on two strong investment years for the CalPERS pension system. With returns of 9.3% in fiscal year 2023-24 and 11.6% in fiscal year 2024-25, the fund beat its projected earnings target of 6.8%. When market returns are strong and beat the earnings target, the amount of funding set aside for pension obligations increases and additional funding is not needed towards the UAL.
The balance for the current CalPERS portfolio is higher than last year, and CalPERS estimated a 7.7% fiscal year to date total return in December, but the final rate of return will not be noted until the end of the fiscal year. Depending upon the performance of the market in the next three months, the pension obligations for future years could change.
Budget Deficit and Financial Sustainability Plan
With projected revenues at $174 million and proposed expenditures at $190 million, the General Fund could be facing a $16 million budget deficit in fiscal year 2026-27. As with the previous fiscal year, City staff will work to make progress on the financial sustainability plan and reduce that deficit. Ongoing activities and initiatives include the following:
Expenditure Control
oFrozen positions - Limit the refilling of vacant positions to reduce expenses oNon-General Fund Charges - Charge positions and hours to capital projects and non-General Fund budgets where feasible
o Benefit Savings – Reduce General Fund contributions to Workers Compensation fund as funding allows oOperating Savings – Reduce discretionary spending where feasible including reviewing options to reduce the City’s General Liability insurance
Revenue Enhancements
oSales Tax Measure – Conduct education and outreach around a potential quarter cent sales tax measure
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on the November 2026 ballot
oRevenue Agreements – Look to other options for revenues such as electronic billboards and parking agreements
Cost Recovery & Cost Allocation
oCost Recovery – Continue to review fees and the appropriate recovery of service costs oCost Allocation – Review and update the Citywide cost allocation plan Grant Opportunities
oGrants Coordination – Work with our grant consultant to review and pursue competitive grant opportunities
Economic Development
oWork Plan Activities - Work to address priority items in the adopted Economic Development Workplan for 2026-2029
Staff will continue to work on these and other initiatives as part of the financial sustainability plan to address the current fiscal year 2025-26 deficit, the proposed fiscal year 2026-27 deficit and the longer-term structural deficit.
BUDGET IMPACT:
There is no direct budgetary impact resulting from this report. The financial status of the General Fund will continue to be monitored. Updated final estimates will be incorporated into the recommended 2026-28 Business Plan.
ENVIRONMENTAL DETERMINATION:
This report is not a project subject to CEQA, because it is a government fiscal activity which does not involve any commitment to any specific project which may result in a potentially significant physical impact on the environment. (CEQA Guidelines Section 15378(b)(4).)
NOTICE PROVIDED
All meeting noticing requirements were met.
ATTACHMENTS
Att 1 – FY 26-27 General Fund Budget Assumptions
Att 2 – General Fund Ten-Year Forecast Scenarios
Scenario A – Optimistic
Scenario B – Practical
Scenario C – Grave
Scenario D – Dire
STAFF CONTACT
Abby Veeser, Finance Director
[email protected]
(650) 522-7102