Interfund Loans: Can We Really Borrow Money from Ourselves?

As you are preparing to close out one year and move into the next, it is an ideal time to review both this and next years’ budgets and cash statements to determine whether it is necessary or advisable to utilize interfund loans.

For those unfamiliar with this financing tool, it is a loan granted by one fund within an entity (for example, the water fund) to provide temporary financial assistance to another fund within the same entity (for example, the street fund).

When might an entity want to make use of an interfund loan? In this blog, I’ll discuss three instances where I've seen local governments use them successfully:

• To cushion a fund with a recurring cash flow issue
• To remediate limited resources prior to grant reimbursements
• To pay out of a limited fund for new equipment

To Cushion a Fund with a Recurring Cash Flow Issue

As an example, say you have a fund with persistent cash flow problems. Perhaps this fund is reliant primarily on property taxes, with most of its revenue coming in twice a year. Cash gets very tight right before taxes are due, and there is always a risk of deficit spending.

In this case, like in the example provided above, your agency could provide short term loans to offer a cushion against deficit spending with the loans being repaid once those tax dollars are received.

To Remediate Limited Resources Prior to Grant Reimbursements

Let’s imagine that your agency has been awarded a project grant. However, this project will be processed through a fund that has limited resources to pay expenses prior to receiving grant reimbursements. In this case, a loan could be executed to provide funding during the entirety of the project, thus enabling invoices to be paid on time. Later, the loan could be repaid once grant funds are received.

To Pay Out of a Limited Fund for New Equipment

To illustrate this last scenario, imagine an agency that has been putting money into a fund to purchase a new piece of equipment. A used piece of equipment has been located at a very favorable price, but the fund for purchasing equipment does not yet have enough saved to make the purchase.

In this case, an interfund loan could be utilized to secure the balance of funding needed. The fund that was setting money aside can then use the future set-aside money to make interfund loan payments.

Using Interfund Lending or Borrowing at Your Agency

If interfund lending/borrowing sounds like something that could work for your agency, here are a couple of questions to ask/answer first.

• Do you have a fund with enough idle, unrestricted cash to provide a loan for the period of time needed? 
• Does the borrowing fund have the capability to repay a loan, including interest?

If you answered yes to both questions, you may want to consider interfund borrowing.

The next step is to consider the stipulations and requirements for this type of loan, some (but not all, since they are extensive) of which I’ll cover here:

• The loan must be authorized via ordinance or resolution.
• Interest must be charged (exceptions apply).
• The borrowing fund must have the ability to repay the debt to the lending fund (again, exceptions apply).
• These loans are generally considered short-term in nature (i.e. not intended to fund your 15-year capital project).
• There are reporting requirements.

There are no requirements specified in the BARS manual as to payment structure (i.e. monthly, semi-annual, annual payments), interest rate (although the lending fund should be getting an interest rate comparable to what it would get if investing those funds), or maximum loan term (although loans over three years are scrutinized by the Wasington State Auditor’s Office, SAO, for a permanent diversion of monies).

So, while there can be a lot of flexibility in these loans, it is also important to keep accurate records of loan payments made and received by the funds involved.

Next Steps

If you think this financing tool might be a fit for your agency or if you just want to learn more, visit Section 3.9.8.10 or Section 3.9.1.10 of the BARS manual. (The links go to the BARS cash manual, but there are identical sections in the GAAP manual.) As always, you can also Ask MRSC with any questions.

And, as you probably know by now, the answer to my question in the title is, "Yes. An entity can borrow from itself."