News

Legal challenge over utility transfers adds to Palo Alto's budget woes

City expects dispute to cost millions annually

Palo Alto Utilities workers respond to a gas leak on Dec. 28, 2017. The city plans to significantly reduce its transfers from the gas utility to address a court order. Embarcadero Media file photo by Veronica Weber.

For decades, Palo Alto has viewed its municipal utilities as both critical community operations and a prudent investment — one that helps to subsidize police, fire and popular services such as parks, libraries and art exhibits.

In recent years, the city has been transferring about $21 million from its gas and electric utilities to its general fund, which pays for most city services not related to utilities. The logic behind the transfers is simple: just as investor-owned utilities like PG&E profit from their operations, the city should be able to make money from the investment it made in municipal utilities over a century ago.

Now, that practice is facing a legal challenge, with significant budget implications. Resident Miriam Green has led a class-action lawsuit against the city, challenging the transfer policy. While the Santa Clara Superior Court had affirmed the city's right to transfer funds from utilities to the general fund, it had concluded that the city had illegally taxed its gas customers when it raised rates in 2012, 2014 and 2016. The city was ordered to issue $12 million in refunds to gas customers — a decision that both sides are expected to appeal.

But while the class-action suit continues to wind its way through the legal system, the city is significantly reducing its transfers from the gas utility to address the court order. According to City Manager Ed Shikada's proposed budget, the reductions in transfers will add $8.4 million to the city's budget hole in each of the next four years and $4 million annually thereafter.

"It really is an ongoing revenue reduction, while the first four years is a higher revenue reduction (than is) expected further out," Shikada said Thursday, during a virtual town hall meeting on his proposed budget.

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For the City Council, which is now planning for a second straight year of budget cuts, the timing of the litigation could hardly be worse. The city's general fund relies heavily on revenues from sales and hotel taxes. Both revenue sources have plummeted during the COVID-19 pandemic, with hotel revenues dropping by 67% from pre-pandemic levels and sales tax revenues dropping by 23%, according to Chief Financial Officer Kiely Nose.

In fiscal year 2019, the city had received $25.3 million in revenues from hotel taxes. In the current fiscal year, that number is projected at $4.8 million. Nose attributed the precipitous drop to the fact that about 60% of the hotel taxes are collected from business and visitor travel.

"Over the last year, with both of those basically dropping to zero except for in critical areas, we have seen significant decline in our third largest revenue source," Nose said Thursday, alluding to the fact that only property and sales taxes bring in more revenue.

The city's dire budget outlook makes the utility lawsuit particularly problematic. Mayor Tom DuBois noted during the council's Monday discussion that utilities transfers have historically helped to pay for the many services that residents love.

"We need residents to support that continued transfer to utilities, or we'll have to find alternative sources, or we'll have to cut some things permanently," DuBois said. "We should be clear with people: If this transfer ends, it's going to have some real impacts."

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In the coming weeks, the council's Finance Committee and the full council will determine what exactly those impacts would be. On Thursday, Shikada and Nose both went over some of the proposals in the budget for fiscal year 2022, which begins on July 1. These include keeping the Downtown, Children's and College Terrace libraries closed, while stationing vending machines at each branch to allow residents to pick up books. They also propose cutting popular programs at the Palo Alto Art Center, reducing city support for Children's Theatre, adopting a "brownout" model at Fire Station 2, which would keep the College Terrace station closed any time the department isn't fully staffed.

"This is a really difficult conversation," Shikada told the roughly 30 participants at the Thursday town hall. "We recognize community members are all coming through more than a year of really difficult conditions and are hopefully and in many ways anxious to be returning to civic life. We would like to do that as much as we can and certainly support the services provided to the community."

The city of Palo Alto hosted a virtual town hall meeting on its proposed budget for fiscal year 2022 on May 6, 2021.

On Thursday, some residents questioned the planned budget cuts, including a proposal to cut the number of school crossing guards in two. Eileen Kim noted that the city is reducing crossing guards just as children throughout the city are preparing to resume biking to schools — and often crossing dangerous thoroughfares such as Embarcadero and Middlefield roads and El Camino Real.

"I just don't understand how it's possible to reduce crossing guards and be safe," Kim said. "What are the liabilities that the city has if there's an accident when there's no crossing guard?"

Police Chief Robert Jonsen assured attendees that his department and contractors will continue to enforce traffic near schools, though he said the city will have to reduce the number of intersections where crossing guards are stationed.

"We're still going to make sure high-traffic intersections have crossing guards available," Jonsen said. "It's just we're not going to be able to provide services for every intersection currently on the contract."

Shikada underscored Thursday, as he had in prior discussions, that the resource allocations in his proposed budget are not sustainable but "reflect the necessity for the city to live within our means … and ensure that our expenses do not exceed expected revenues." He also indicated that the city will soon resume exploration of a major new revenue source that the council has been discussing for years: a business tax. The council was preparing to place a business tax on the November 2020 ballot but scrapped that plan once the pandemic upended the local business climate.

Shikada said that barring declaration of a fiscal emergency, which would require a unanimous council vote, the earliest time that the city can bring a tax measure to the voters is during the next council election, which will take place in November 2022. He said the council is scheduled to discuss the business tax next month.

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Legal challenge over utility transfers adds to Palo Alto's budget woes

City expects dispute to cost millions annually

by / Palo Alto Weekly

Uploaded: Fri, May 7, 2021, 9:29 am

For decades, Palo Alto has viewed its municipal utilities as both critical community operations and a prudent investment — one that helps to subsidize police, fire and popular services such as parks, libraries and art exhibits.

In recent years, the city has been transferring about $21 million from its gas and electric utilities to its general fund, which pays for most city services not related to utilities. The logic behind the transfers is simple: just as investor-owned utilities like PG&E profit from their operations, the city should be able to make money from the investment it made in municipal utilities over a century ago.

Now, that practice is facing a legal challenge, with significant budget implications. Resident Miriam Green has led a class-action lawsuit against the city, challenging the transfer policy. While the Santa Clara Superior Court had affirmed the city's right to transfer funds from utilities to the general fund, it had concluded that the city had illegally taxed its gas customers when it raised rates in 2012, 2014 and 2016. The city was ordered to issue $12 million in refunds to gas customers — a decision that both sides are expected to appeal.

But while the class-action suit continues to wind its way through the legal system, the city is significantly reducing its transfers from the gas utility to address the court order. According to City Manager Ed Shikada's proposed budget, the reductions in transfers will add $8.4 million to the city's budget hole in each of the next four years and $4 million annually thereafter.

"It really is an ongoing revenue reduction, while the first four years is a higher revenue reduction (than is) expected further out," Shikada said Thursday, during a virtual town hall meeting on his proposed budget.

For the City Council, which is now planning for a second straight year of budget cuts, the timing of the litigation could hardly be worse. The city's general fund relies heavily on revenues from sales and hotel taxes. Both revenue sources have plummeted during the COVID-19 pandemic, with hotel revenues dropping by 67% from pre-pandemic levels and sales tax revenues dropping by 23%, according to Chief Financial Officer Kiely Nose.

In fiscal year 2019, the city had received $25.3 million in revenues from hotel taxes. In the current fiscal year, that number is projected at $4.8 million. Nose attributed the precipitous drop to the fact that about 60% of the hotel taxes are collected from business and visitor travel.

"Over the last year, with both of those basically dropping to zero except for in critical areas, we have seen significant decline in our third largest revenue source," Nose said Thursday, alluding to the fact that only property and sales taxes bring in more revenue.

The city's dire budget outlook makes the utility lawsuit particularly problematic. Mayor Tom DuBois noted during the council's Monday discussion that utilities transfers have historically helped to pay for the many services that residents love.

"We need residents to support that continued transfer to utilities, or we'll have to find alternative sources, or we'll have to cut some things permanently," DuBois said. "We should be clear with people: If this transfer ends, it's going to have some real impacts."

In the coming weeks, the council's Finance Committee and the full council will determine what exactly those impacts would be. On Thursday, Shikada and Nose both went over some of the proposals in the budget for fiscal year 2022, which begins on July 1. These include keeping the Downtown, Children's and College Terrace libraries closed, while stationing vending machines at each branch to allow residents to pick up books. They also propose cutting popular programs at the Palo Alto Art Center, reducing city support for Children's Theatre, adopting a "brownout" model at Fire Station 2, which would keep the College Terrace station closed any time the department isn't fully staffed.

"This is a really difficult conversation," Shikada told the roughly 30 participants at the Thursday town hall. "We recognize community members are all coming through more than a year of really difficult conditions and are hopefully and in many ways anxious to be returning to civic life. We would like to do that as much as we can and certainly support the services provided to the community."

On Thursday, some residents questioned the planned budget cuts, including a proposal to cut the number of school crossing guards in two. Eileen Kim noted that the city is reducing crossing guards just as children throughout the city are preparing to resume biking to schools — and often crossing dangerous thoroughfares such as Embarcadero and Middlefield roads and El Camino Real.

"I just don't understand how it's possible to reduce crossing guards and be safe," Kim said. "What are the liabilities that the city has if there's an accident when there's no crossing guard?"

Police Chief Robert Jonsen assured attendees that his department and contractors will continue to enforce traffic near schools, though he said the city will have to reduce the number of intersections where crossing guards are stationed.

"We're still going to make sure high-traffic intersections have crossing guards available," Jonsen said. "It's just we're not going to be able to provide services for every intersection currently on the contract."

Shikada underscored Thursday, as he had in prior discussions, that the resource allocations in his proposed budget are not sustainable but "reflect the necessity for the city to live within our means … and ensure that our expenses do not exceed expected revenues." He also indicated that the city will soon resume exploration of a major new revenue source that the council has been discussing for years: a business tax. The council was preparing to place a business tax on the November 2020 ballot but scrapped that plan once the pandemic upended the local business climate.

Shikada said that barring declaration of a fiscal emergency, which would require a unanimous council vote, the earliest time that the city can bring a tax measure to the voters is during the next council election, which will take place in November 2022. He said the council is scheduled to discuss the business tax next month.

Comments

Online Name
Registered user
Embarcadero Oaks/Leland
on May 7, 2021 at 10:30 am
Online Name, Embarcadero Oaks/Leland
Registered user
on May 7, 2021 at 10:30 am

"The logic behind the transfers is simple: just as investor-owned utilities like PG&E profit from their operations, the city should be able to make money from the investment it made in municipal utilities over a century ago."

Investor-owned?? Presumably that's all of us. But I don't recall ever getting my dividend checks or being able to sell my CPAU stock.

That's some justification for their continued theft of OUR money. Too bad our city "manager:" hasn't thought of other ways to fill that budget hole -- LIKE BUSINESS TAXES and cutting the consultant gravy train for Fiber-To-The Home and single-handedly stopping climate change!


peppered
Registered user
Community Center
on May 7, 2021 at 10:32 am
peppered, Community Center
Registered user
on May 7, 2021 at 10:32 am

The rates and fees in excess of costs were a tax.
The utilities transfers to the general fund were simply a way to get around Prop 13.
The charade has finally ended. Time to pay the piper.


Barron Parker Too
Registered user
Barron Park
on May 7, 2021 at 11:11 am
Barron Parker Too, Barron Park
Registered user
on May 7, 2021 at 11:11 am

This is a continuation of a 20+ year train-wreck, where Shikada has continued in the tradition of previous city manager Frank Benest to generate yet more unfunded pension liabilities.

The basic idea is a Ponzi scheme, where SEIU pension obligations that we incur today are assumed to be paid for by Palo residents 20, 30, 40 years from now. The unfunded liabilities are huge, perhaps $50K per household by now. Every time there is an economic downturn, the pension investments lose money which Palo Alto is obliged to top up, at the same time that city revenues are down. The result is ever more painful budget squeezes. And that means curtailing services, because the pensions must be paid.

As has been pointed out many times previously, the only way out of this mess is to stop making further pension promises, and instead fund employee retirement accounts by matching funds to IRAs, just as employers do in the real world of commerce.


neighbor of PA
Registered user
Menlo Park
on May 7, 2021 at 11:24 am
neighbor of PA, Menlo Park
Registered user
on May 7, 2021 at 11:24 am

“The logic behind the transfers is simple: just as investor-owned utilities like PG&E profit from their operations, the city should be able to make money from the investment it made in municipal utilities over a century ago.”

Not really. PG&E makes capital investments each year that are authorized a rate of return. It’s the Utilities Dept (aka ratepayers)—and not the General Fund—that make the annual capital investments, but the General Fund gets this “rate of return”. This makes no logical sense.

The benefits of having a municipal utility are plenty (e.g. low rates and local control), but the City should stop this practice of using the utility as the cash cow—unless the voters specifically agree.


Consider Your Options.
Registered user
Another Palo Alto neighborhood
on May 7, 2021 at 1:45 pm
Consider Your Options. , Another Palo Alto neighborhood
Registered user
on May 7, 2021 at 1:45 pm

1). But voters did agree.
2). I'd vote for it again if, and only if, staff and Council put forward and approve a business tax. Businesses are not paying their fair share as they do in other Bay Area cities, but they create a lot of the impacts on our streets and other infrastructure. It's time to fix that inequity.


Bill Ross
Registered user
College Terrace
on May 7, 2021 at 1:50 pm
Bill Ross, College Terrace
Registered user
on May 7, 2021 at 1:50 pm

If the City were to file for bankruptcy the enterprise funds (the utility funds) would not be subject to the bankruptcy proceeding. This exclusion supports the law applicable to those funds. Transfers from utility funds to the General fund are, and have been justified legally as in lieu property taxes. Among the first charter cities to do so was the City of Los Angeles with respect to its Department of Water and Power. However, there is no obligation for the general fund to enterprise funds to make them whole. Those funds should be adequately insured to cover their loses or liabilities. The real question is WHY were the particular decisions which have resulted in liability made? Here is where is only comparison to PG&E can be made which is partial. As the PG&E ratepayers have to pay for the conduct of its Managment resulting in felony convictions, we as ratepayers have to pay for bad decisions of the City Utility Manager’s. Stated plainly someone like the Council must hold Management accountable.


Marianne Mueller
Registered user
Professorville
on May 7, 2021 at 2:03 pm
Marianne Mueller, Professorville
Registered user
on May 7, 2021 at 2:03 pm

Is Palo Alto eligible for any of the funds in Biden’s rescue act?


Barron Parker Too
Registered user
Barron Park
on May 7, 2021 at 2:21 pm
Barron Parker Too, Barron Park
Registered user
on May 7, 2021 at 2:21 pm

You might have asked: how does the pension situation relate to transfers of money from Palo Alto Utilities to the general fund?

The city has for many years been over-charging on utilities and using the excess to reduce the city budget deficit. That deficit is structural and unsustainable -- and due to the pension liabilities.

The underlying problem is those pension liabilities. It becomes much more visible and acute if the transfers from PA Utilities are prevented. I don't have an opinion on the legality of the transfers, but the availability of those excess funds for general expenses has allowed us to dig ourselves deeper into the pension debt hole that we are in.


chris
Registered user
University South
on May 7, 2021 at 9:56 pm
chris, University South
Registered user
on May 7, 2021 at 9:56 pm

Marianne,

Palo Alto is expected to get $12.5M in Biden money.

The council will debate how much to spend in each of the two years.


Palo Alto native
Registered user
Old Palo Alto
on May 8, 2021 at 8:47 pm
Palo Alto native, Old Palo Alto
Registered user
on May 8, 2021 at 8:47 pm

Thank you Miriam Green for this lawsuit. . I was wondering after all these increases of water utilities and gas why they just kept going up every two years. I thought that because the city runs their own utility company that historically we were supposed to have lower rates. Well maybe they did 15 years ago but the last but the last 8 to 10 years they’ve just been going up and up and up. I don’t agree with many of the expenditures that our city spends on so many different things. They always seem to have money and get matching grants for so many different programs, but not necessarily in the best interest of running a fiscally sound city. It’s time to look at how Mountain View and other wwell run cities balance their budgets and stop raiding the utility company which is supposed to have lower rates than all the other cities nearby that do not have city run utilities. Can we start lowering utility rates to their actual TRUE cost? Also, our pension woes need a strong hand to change what has been going on for years!


Annette
Registered user
College Terrace
on May 9, 2021 at 1:51 pm
Annette, College Terrace
Registered user
on May 9, 2021 at 1:51 pm

Thank you, Baron Parker Too for pointing out the pension elephant
that has been in the room for at least the last 10 years.

I think everyone gets that City Hall wants residents to believe that the utility law suit is a primary contributor to current budget woes. That is unfair to Ms. Green who brought the suit that challenged the calculation method the City used to determine rates. Had CPAU done things properly in the first place, there wouldn't have been a law suit. And had the suit not been filed – and won – the wrongful practice might still be continuing. As is, we rate payers are paying for the City's error in multiple ways: in the rates charged, in the cost to defend the lawsuit and appeal, in attorneys’ fees for the other side if we lose the appeal, in the refunds, in the resulting reduction in City services, and ultimately in higher rates. All because of wrong calculations. No blame is on Ms. Green. Had past CC majorities managed former City Managers more closely instead of essentially letting them manage w/o much accountability, we probably would not have this problem, and the resulting budget issues, to solve. And our unfunded pension liability likely would not have grown into the black hole that it is.

I will add that it is galling to hear the City’s team tell us how difficult this is for them and how they wish they had a different budget to present. Please! So much of this dilemma is the result of City actions and, importantly, inaction with respect to at least two major issues: fees related to essential City services that should have been required on new development and the business tax. I don’t doubt that the process is difficult, but just like the jobs:housing imbalance, we teed ourselves up for this.

I am hopeful that this CC will right the ship and usher in an era of transparency and the effective Council-led management we so badly need.


Judith Schwartz
Registered user
Old Palo Alto
on May 14, 2021 at 4:59 pm
Judith Schwartz, Old Palo Alto
Registered user
on May 14, 2021 at 4:59 pm

Miriam Greene and the other Palo Altans who support her lawsuit are misguided. Municipal utilities routinely provide contributions to their cities' general funds in lieu of taxes. It is standard practice. The recent City Managers did not set this arrangement up. If the utility does not make the contribution, it will have to pay taxes and even more programs and services that residents love will have to be cut. Not everything is a conspiracy.

Web Link

Public power supports strong local economies.
Public power utilities generate more than $60 billion in annual revenue and invest more than $2 billion annually directly back into the community.
Public power utilities invest this revenue back into their communities through:
• Payments in lieu of taxes
• Providing hometown jobs
• Offering free or reduced cost electric services
• Supporting local causes and charities

Check out the APPA website link to read more about how public power gives back to communities.


Online Name
Registered user
Embarcadero Oaks/Leland
on May 14, 2021 at 5:20 pm
Online Name, Embarcadero Oaks/Leland
Registered user
on May 14, 2021 at 5:20 pm

"If the utility does not make the contribution, it will have to pay taxes and even more programs and services that residents love will have to be cut."

The city will have to cut fewer programs and services if it finally institutes a business tax, does some sensible cost-cutting and effective management.

As just one example, why pay $500,500+ for a big pr/communications staff that can't be bothered to notify us about the duration of power outages or respond to media inquiries and instead sends us recipes in the Covid newsletter?


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