Despite a thriving economy and growing revenues, Palo Alto is heading into the new year with a financial cloud on the horizon: a projected budget deficit that could be as high as $6 million.
The numbers, which are reflected in the latest projections from the Administrative Services Department, present an early challenge for the City Council, which will have three new members next year and which is scheduled to start reviewing the Fiscal Year 2018 budget in April.
The budget challenge comes at a time when the city's main revenue sources continue to show robust growth. Sales taxes revenues are expected to be $30.3 million in fiscal year 2017, $1.2 million more than the city budgeted for, and $31.8 million in 2018. Hotel tax revenues have also been increasing steadily since fiscal year 2015, going from $16.7 million in that year to $22.4 million in 2016, and to an expected level of $23.9 million in fiscal year 2017 (which ends on June 30). In 2018, the city expects to to collect $24.8 million from hotels.
Property-tax revenues are also showing healthy growth, going from $36.6 million in 2016 to a projected level of $39.1 million in 2017 and to $41.5 million in 2018.
Yet expenses are growing just as fast. The costs of salaries and benefits (which make up 61 percent of the General Fund) are expected to continue their growth, fueled in part by the city's recent efforts to align local salaries with the regional marketplace. In addition, the city has recently made new commitments to funding Project Safety Net (a program that promotes youth well-being). It is also facing a $1.1 million increase in its tree-trimming contract; a protracted negotiation with Stanford University over fire services; and a reallocation of electricity costs associated with streetlights and traffic lights from enterprise funds to the General Fund, which pays for most basic city services, not including utilities.
The result is a General Fund shortfall of $4 million to $6 million, according to staff projections. And the number doesn't include the additional funds that the city would spend if it wants to purchase the downtown U.S. Post Office, invest in improvements to its animal shelter and move along with a series of expensive planning efforts, including the new master plan for Cubberley Community Center and an update to the city's Comprehensive Plan.
Compounding the challenges is the rapidly rising cost of construction, which could lower the city's infrastructure ambitions. Given this trend, City Manager James Keene made the case Tuesday night for speeding up the city's process on major construction projects. The big items on the city's list include a public-safety building and new parking garages in downtown and around California Avenue.
"While the economy is doing well, that's why we need to be getting these projects done as fast as we possibly can ... To accelerate the Palo Alto Process on some of these capital projects would be important," Keene told the council's Finance Committee during a Tuesday night discussion.
The financial picture is by no means as alarming as it was six or seven years ago, when Palo Alto was slashing City Hall positions and flirting with outsourcing animal services. In addition to healthy revenue streams, the city has a Budget Stabilization Reserve that functions like a rainy-day fund. The council has a target of keeping the reserve funded at about 18.5 percent of the General Fund. Currently, it's at 21.4 percent, or about $5.7 million above target level, according to Chief Financial Officer Lalo Perez.
The money, Perez said, could potentially serve as a "buffer" should costs escalate further. It can also be used as a "temporary bridge" to delay eliminating programs and services that the council or the community feel strongly about.
Even so, the report from Administrative Services emphasizes the importance of prioritizing spending and containing escalating costs in current activities.
"A containment strategy is necessary to maintain a manageable financial position and to address future financial challenges such as rising pension, infrastructure and medical costs; unforeseen program needs; and the inevitable economic downtown," the report states.
The four members of the Finance Committee didn't take any votes on Tuesday, but they largely supported staff's strategy for dealing with the newly discovered deficit. This includes considering new public-private partnerships, creating fee structures that ensure cost-recovery and contracting out for services where doing so would save money.
Councilman Cory Wolbach urged staff and his colleagues to "keep an open mind" when it comes to looking for new revenues. He supported looking for ways to monetize the city's resources.
"If we have any land or office space we're not using, can we lease it out?" Wolbach asked.
His colleagues had other ideas. Councilwoman Karen Holman urged staff to look for cost-sharing opportunities with the Palo Alto Unified School District and to improve cost recovery in the city's code-enforcement program.
"There is a huge gaping hole there -- especially when it comes to repeat offenders," Holman said.
Councilman Greg Schmid pointed to Palo Alto's status as a regional job center and argued that a critical component of financial health is making sure that businesses pay their fair share to help fix the problems that they create.
"We need to grapple with the issue. How can businesses participate in at least covering the cost of mitigation of parking, traffic, congestion that they cause?" Schmid said. "It's crazy that they're not participating actively in a funding way."