Lecture 9 Budget Execution

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Lecture 9Budget Execution

• EDA 757/PPA 730
• Fall 2002

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Lecture 9 Outline

• Objectives of budget execution system
• Tools to avoid overspending (balance the budget).
• Mid-year adjustments to balance the budget.
• Tools to assure financial control.
• Other control systems.

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Objectives of Budget Execution Control System

• Budget execution involves managing the budget
  during the fiscal year to
• Adjust budget to changing circumstances that
  affect revenues and expenditures.
• Prevent over spending to assure that the budget
  is roughly balanced at the end of the fiscal
  year.
• Assure control of where the money is spent
  (financial control) to avoid unethical or illegal
  financial decisions, and assure that budget
  decisions of the Board are honored.

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Tools for Assuring Balanced Budget

• No board of education shall incur a district
  liability in excess of the amount appropriated by
  district meeting unless such board is
  specifically authorized by law(Education Law,
  1718).
• Allotments
• Encumbrances
• Contingencies/ reserves
• Revenue reports
• Cash flow analysis
• Other mid-year adjustments

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Allotments

• Allotments represent allocations of the budget
  over the course of the year. For example, an
  appropriation of 1m might be allotted in
  quarters or months to a department in the
  following fashion
• Q1 300k, Q2 250k, Q3 250k, Q4 200k
• Allotments should be distributed to reflect the
  timing of spending by the department.
• Objectives of allotments are to
• To limit possibility of overspending,
• To hold back money in case of financial emergency.

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Spending Definitions

• Appropriations Spending approved by the Board of
  Education and voters (if required).
• Encumbrance Funds set aside to pay expenditure
  commitments (purchase orders, salaries,
  contracts), but the dollar amount is not known
  with certainty.
• Expenditure (obligations) When contracts are
  signed and commitments are known exactly, they
  are recorded as expenditures.
• Outlays (cash) When cash is spent (checks are
  sent to employees and suppliers).
• Cost (expense) When resources are actually
  consumed or services provided by employees.

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Figure 9-1 Spending Definitions and the Flow of
Funds

The Flow of Funds


Encumbrance


Appropriation

Expenditure


Outlay


Cost

Funds committed


Agency budget

Funds legally


Cash paid


Material used

but not known with certainty


Approved.


committed.


to suppliers.


to produce service.

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Encumbrance

• Setting aside funds to pay expenditure
  commitments (purchase orders, salaries,
  contracts). In accounting terms, encumbrances
  are use when commitments are made, but the dollar
  amount is not known with certainty.
• The encumbering process is intended to guard
  against the creation of liabilities in excess of
  approved appropriations.(School Business
  Management Evaluation Checklist, p.46
  http//www.emsc.nysed.gov/mgtserv/checklst.pdf)
• See following example to illustrate spending
  concepts.
• A SBO should encumber at the beginning of the
  fiscal year all of the known expenditure
  commitments.

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Encumbrance Example

• July 1 Appropriations for textbooks 25,000
• Aug 15 Encumbrance recorded--Selection of 1st
  textbook and supplier, purchase order
  issued 15,000
• Oct 10 Encumbrance recordedSelection of 2nd
  textbook and supplier, purchase order
  issued 10,000
• Dec 10 Expenditure recorded
• contract signed for 1st textbook 14,500
• encumbrance for 15,000 is cancelled
• May 22 Expenditure recorded
• contract signed for 2nd textbook 10,500
• encumbrance for 10,000 is cancelled
• June 30 Expenditure on textbook 25,000
• Encumbrance 0

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Contingencies (Reserves)

• Governments should prepare for possible financial
  emergencies (recession, loss of manufacturing
  plant).
• The best preparation is to maintain a savings
  account to use on rainy days. A tool
  frequently used by state governments is budget
  stabilization funds (rainy day funds).
• Other alternatives include (more on this in
  Lecture 10)
• Unreserved general fund balance
• Reserves
• Contingency accounts (where a portion of budget
  is set aside at beginning of year as a safeguard.
  Money is typically released in the 3rd and 4th
  quarters when more is known about revenue
  projections).

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Revenue Status Report

• A monthly or quarterly report prepared by the SBO
  (or treasurer), which lists the estimated
  revenues, revenues received to date, and
  cumulative revenues received during fiscal year.
  (see Figure 9-2 for example for special aid fund
  in NY)
• The objective is to anticipated variation between
  anticipated and actual revenues so that
  adjustments can be made. For example, in the
  following table, the aid received to date for
  ESEA I is 16,000 less than expected.

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Figure 9-2 Revenue Status Report Example New
York
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Revenue Status Report

• Ideally the district would also track anticipated
  revenue by month compared to actual receipts up
  to this point. Anticipated revenue by month
  should be based on historical monthly patterns (
  of revenue received) modified by anticipated
  changes in timing of state or federal aid.
• In Figure 9-3 and Figure 9-4, information on
  estimated and actual monthly revenue is reported.
  In this case, actual revenue is consistently
  below anticipated. At the end of six months,
  revenue is 10 below estimated. Given the
  consistent and sizeable revenue shortfalls, the
  district will probably need to make significant
  budget adjustments.

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Cash Flow Reports

• All bills ultimately have to be paid in cash.
  Understanding the cash flow in a district is an
  important part of assessing the financial
  condition of the district.
• A cash flow forecast involves forecasting receipt
  of revenues in cash and cash outlays. See Figure
  9-5.
• A monthly cash report examines the actual cash
  position of the district during the year. See
  Figure 9-6.
• Generally revenue are more lumpy than
  expenditures. Property taxes are often received
  quarterly. Aid may be received monthly or
  quarterly.
• When revenue exceeds expenditures (surplus) ?
  invest.
• When expenditures exceed revenue (deficit) ?
  borrow.

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Mid-year Adjustments to Balance the Budget

• Budget deficits can emerge for several reasons
• Shortfall in revenue collection
• Unanticipated expenditures
• Poor revenue and expenditure forecasting.
• Depending on the size of the budget deficit the
  district may have to make minor or major
  adjustments in the budget.
• Minor adjustments
• One-time revenues Increase the use of reserves
  or balances from previous year, sell property,
  charge temporary fee for some services (e.g., use
  of school buildings).
• Minor budget reductions Cut some spending on
  maintenance, supplies, extracurricular
  activities, professional development.

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Mid-year Adjustments to Balance the Budget

• Major adjustments If the budget deficit is large
  enough to require major actions, typically the
  school board will need to become involved.
• Possible major adjustments
• Hiring freezes, allow attrition to take
  placeusually implies increased class sizes.
  Early retirement plans are another option, but
  one that should be examined carefully, because of
  loss of experienced teachers.
• Across the board cuts in each school and
  department.
• Selective cuts in non-essential services
  extracurricular activities, maintenance, some
  elective courses (accompanying staff reductions).

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Dealing with a Structural Deficit

• A structural deficit is defined as a long- term
  situation where expenditures exceed revenues
  rather than a temporary shortfall.
• In the next lecture we will discuss ways to
  identify a structural deficit.
• Coping with a structural deficit implies changing
  business as usual.
• Choices include
• Significant increases in tax revenue, or use of
  new revenue sources, such as charging for use of
  some facilities, commercial contracts, etc.
• Efficiency improvements
• Reductions in level of services provided.

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Efficiency Improvements

• Price reductions One way to reduce costs is to
  reduce the price paid for school resources
  including
• Staff salaries or fringe benefitsreduce growth
  in salaries.
• Cost of supplies or equipment through bulk
  purchases, or competitive bidding.
• Searching for better rates for services
  (financial services, legal services, insurance
  services).
• Privatization (contracting out) transportation,
  services for special needs students, food
  service, professional services, computer
  (technology) maintenance.

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Efficiency Improvements

• Quantity reductions Reduce the quantity of
  inputs by improving productivity, such as
• Use of energy efficient technology,
• Use of risk management methods to reduce
  insurance costs, legal costs, and replacement of
  equipment.
• Improved maintenance methods and scheduling of
  repair vs. replacement.
• Increased use of facilities by changing
  scheduling.
• Sharing use of athletic facilities with other
  local governments.

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Reductions in Service

• Under extreme circumstances, the district may be
  forced to make significant reductions in service,
  such as
• Transportation provided students (to legal
  minimum).
• Extracurricular activities.
• Reduce the range of courses offered (e.g., only 2
  foreign languages) to minimum to meet state
  standards.
• Serious budget cuts will eventually have to
  involve staff. Who should be laid off is a major
  policy decision of the district that will be
  impacted by need and contract provisions.

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Financial Control System

• Objective is to hold the district personnel
  accountable to the school board for their
  spending decisions. Are the agencies complying
  with legal restrictions and school board intent.
  Traditional financial control systems typically
  include 3 components
• Ex-ante controls Restrictions on where and when
  money can be spent.
• Monitoring of district spending during the year.
• Ex-post controls Financial audit of the district
  after the fiscal year.

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Ex-ante Financial Controls

• One of the major objective of budget execution is
  financial control. There are a number of
  mechanisms which can be used to assure financial
  accountability, including
• pre-audit requiring pre-approval before making
  major purchases
• position controls which require agencies to get
  prior approval for filling vacancies or new
  positions.
• travel controls which require approval prior to
  business travel (travel vouchers).
• transfer controls which prevent an agency from
  transferring money from one object or function,
  without approval.
• Reprogramming controls which prevent agencies
  from moving money between programs (or
  departments) without prior approval.

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Transfer Restrictions in NY

• The board of education has the power to make
  transfers between and within functional unit
  appropriations for teachers' salaries and
  ordinary, contingent expenditures. Though
  transfers are for contingent items, they may not
  cause the administrative or overall contingent
  budget caps to be exceeded. Boards of education
  may, by resolution, authorize the chief school
  officer to make transfers within the limits as
  established by the board. 170.2(1) of the
  Commissioner's Regulations allows transfers
  "between and within a functional unit
  appropriation for teacher's salaries and ordinary
  contingent expenditures" as follows
• Transfers to be made between contingent
  expenditure codes.
• Transfers to be made from a non-contingent
  expenditure code to a contingent expenditure
  code.
• This regulation does not allow
• Transfers to be made from contingent
  expenditure codes to non-contingent expenditure
  codes.
• Transfers to be made between non-contingent
  expenditure codes.
• Source SED, Budgeting Handbook 3, II. Legal
  Aspects

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Monitoring Budget Execution During the Year

• Another control option is to request monthly (or
  quarterly) reports from district personnel on
  budgeted versus actual expenditures. This helps
  to identify departments or objects of
  expenditures that are consistently overspending
  (or underspending). Commonly called a variance
  report
• New York requires quarterly Budget Status
  Reports for appropriation accounts for original
  appropriations, transfers and adjustments,
  revised appropriations, expenditures to date,
  outstanding encumbrances, and unencumbered
  balances. (see attached.)

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Financial Audits

• At the end of the fiscal year, school districts
  are required to get an independent audit of its
  finances.
• The auditor examines the general accounting
  practices of the district, and the specific
  accounting transactions used to create financial
  statements.
• We will examine this in more depth in Lecture 10.

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Other Control Systems

• While traditional financial control systems are
  the most common control system (and are required
  by state law), other control system choices do
  exist. Differences include
• What is controlled (expenditures, price,
  performance).
• How much flexibility are provided managers.
• Rewards and punishments (incentives) used to
  maintain control.

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Characteristics of Services to Consider in
Selecting Control System

• Is output/activity of relatively homogeneous
  quality?
• Can the quantity and quality of the service be
  measured fairly accurately?
• Do external factors (outside agency control) have
  a large influence on output or outcome levels?
• Public good Can the service be charged for? (Is
  it feasible to exclude someone from receiving the
  service?)

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Traditional Control System

• Components
• Ex ante control system (transfer controls)
• Ex post financial audits.
• Characteristics of service
• Heterogeneous output that is difficult to measure
• Significant impact of external factors
• Difficult to charge for the service.
• Example regular instruction.

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Unit Price Contracts

• Components
• Control price per unitnegotiate price up front.
• Monitor quality (ex post control)
• Require minimum capacity to meet quantity
  requirements.
• Characteristics of service
• Homogenous output with regular demand for
  services.
• Measurable output quantity and service quality.
• Not a large influence of the environment on
  quantity or quality (or it can be readily
  controlled for in the contract).
• Service can be charged for.
• Example transportation, food service, drivers
  education.

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Performance Contracts

• Components
• Specification of performance quantity and
  quality (ex ante)
• Fixed budget (maybe with some contingency funds
  or allowances for emergencies)
• Incentives for good performance (or poor
  performance)
• Monitoring of contract compliance (ex post)
• Characteristics of service
• Homogeneous or heterogeneous output.
• If homogeneous then can measure output, if
  heterogeneous then can measure quality.
• Difficult to game the system or change the
  numbers.
• Not a large influence of the environment on
  quantity or quality (or it can be readily
  controlled for in the contract).
• Example dropout prevention program, GED program,
  vocational education.