Budget Forecasting - Revenue projections not always that easy to develop
September 16, 2014
by
Toni Nelson
Category:
Budgets and Budgeting
It is budget time again and most of you are working on revenue forecasts that will be used to develop the budget for the next fiscal period. Accurate revenue forecasts are essential to budget execution. If the forecast grossly overestimates the amount of future revenues, the end result will be a deficit and the potential for mid-year spending cuts. On the other hand, if the revenue forecast is too conservative it forces a reduction in spending on government services and produces a budget surplus that the citizens may have preferred to have been used for the very services that were cut and/or modified.
It is important that revenue forecasts be reasonably accurate. A major hurdle to accuracy is the intricacy and judgmental nature of the forecasting process. For example, the forecasting of state shared revenues. Every other year the State legislature adopts its biennial budget and the past several biennium’s there has been an impact on the revenues for local government. In my mind, this year seems to be particularly perplexing as there are some significant unknowns. The largest of which “what will happen during the next legislature session?”
The State legislature has a tough job ahead and some are forecasting that the regular session will not be long enough to complete all of the work. The reason for this? The legislature will be adopting (we hope) the budget for the next biennium (2015-2017). In light of the Mc Cleary decision, the legislature will find itself struggling with ways to comply with the Supreme Court order to fully fund basic education and juggle the impacts that will be felt in the other areas of the state budget. Among those budget areas are the “state shared” revenues.
States Shared Revenue - Liquor excise tax – diversions/changes
Local Government has felt the impact of decisions made by the State Legislature in the past. During the 2012 session, ESHB 2823 diverted all liquor excise tax revenues that would normally have been distributed to cities and counties to the State General Fund for one year. In addition, it provided for a permanent diversion of $2.5 million a quarter from the Liquor Excise Tax fund to the State General Fund beginning with the October 2013 distribution. The 2013-2015 budget (3ESSB 5034), passed by the 2013 legislature contained a provision that increased the state share of liquor taxes from 65 percent to 82.5 percent, then the 2014 legislative session passed ESSB 6002 which returned a small portion of the distribution and changed the state share of liquor taxes to 77.5 percent.
As you can see from this synopsis, the changes in state shared revenue for the Liquor Excise tax have made the forecasting of this revenue stream a bit difficult to predict. With legislative changes each year how should we forecast state shared revenues for 2015 and beyond? Will the legislature return the shared revenue percentage on liquor excise tax for cities and counties back to the original 35 percent distribution or will the amended percent of 17.5 percent become the new norm? These are valid considerations when trying to forecast this revenue source and others for the forthcoming budget period.
Managing the uncertainties of revenue forecasting
Revenue forecasting is part statistical analysis and part human judgment. How do we manage the uncertainties of forecasting? An important component of forecasting is the documentation of the methodologies used. When preparing your revenue forecasts consider:
Incorporating a methodology in the forecasting process that will address these issues and perhaps some others that are specific to your entity, will provide the budget makers with the information needed to draft a preliminary budget proposal that meets the goals and objectives of your entity.
Revenue forecasting is crucial to developing a sound budget, the National Advisory Council on State and Local Budgeting (NACSLB) has developed best practices for revenue forecasting and budget development. If your entity has not implemented any of these best practices into the budget process, this may be a good year to start. If you are a smaller jurisdiction or this is your first year to be involved in the budget development process don’t hesitate to send me an email at tnelson@mrsc.org . Revenue forecasting is much like the chicken and egg theory. What comes first? I would propose that it’s accurate revenue forecasts that will lead to a balanced budget.
It is important that revenue forecasts be reasonably accurate. A major hurdle to accuracy is the intricacy and judgmental nature of the forecasting process. For example, the forecasting of state shared revenues. Every other year the State legislature adopts its biennial budget and the past several biennium’s there has been an impact on the revenues for local government. In my mind, this year seems to be particularly perplexing as there are some significant unknowns. The largest of which “what will happen during the next legislature session?”
The State legislature has a tough job ahead and some are forecasting that the regular session will not be long enough to complete all of the work. The reason for this? The legislature will be adopting (we hope) the budget for the next biennium (2015-2017). In light of the Mc Cleary decision, the legislature will find itself struggling with ways to comply with the Supreme Court order to fully fund basic education and juggle the impacts that will be felt in the other areas of the state budget. Among those budget areas are the “state shared” revenues.
States Shared Revenue - Liquor excise tax – diversions/changes
Local Government has felt the impact of decisions made by the State Legislature in the past. During the 2012 session, ESHB 2823 diverted all liquor excise tax revenues that would normally have been distributed to cities and counties to the State General Fund for one year. In addition, it provided for a permanent diversion of $2.5 million a quarter from the Liquor Excise Tax fund to the State General Fund beginning with the October 2013 distribution. The 2013-2015 budget (3ESSB 5034), passed by the 2013 legislature contained a provision that increased the state share of liquor taxes from 65 percent to 82.5 percent, then the 2014 legislative session passed ESSB 6002 which returned a small portion of the distribution and changed the state share of liquor taxes to 77.5 percent.
As you can see from this synopsis, the changes in state shared revenue for the Liquor Excise tax have made the forecasting of this revenue stream a bit difficult to predict. With legislative changes each year how should we forecast state shared revenues for 2015 and beyond? Will the legislature return the shared revenue percentage on liquor excise tax for cities and counties back to the original 35 percent distribution or will the amended percent of 17.5 percent become the new norm? These are valid considerations when trying to forecast this revenue source and others for the forthcoming budget period.
Managing the uncertainties of revenue forecasting
Revenue forecasting is part statistical analysis and part human judgment. How do we manage the uncertainties of forecasting? An important component of forecasting is the documentation of the methodologies used. When preparing your revenue forecasts consider:
- Does the revenue source fund a crucial program or service?
- What will be the effects of potential changes or loss of the revenue source?
- Will the reduction and/or loss have a significant impact on the overall budget?
Incorporating a methodology in the forecasting process that will address these issues and perhaps some others that are specific to your entity, will provide the budget makers with the information needed to draft a preliminary budget proposal that meets the goals and objectives of your entity.
Revenue forecasting is crucial to developing a sound budget, the National Advisory Council on State and Local Budgeting (NACSLB) has developed best practices for revenue forecasting and budget development. If your entity has not implemented any of these best practices into the budget process, this may be a good year to start. If you are a smaller jurisdiction or this is your first year to be involved in the budget development process don’t hesitate to send me an email at tnelson@mrsc.org . Revenue forecasting is much like the chicken and egg theory. What comes first? I would propose that it’s accurate revenue forecasts that will lead to a balanced budget.
MRSC is a private nonprofit organization serving local governments in Washington State. Eligible government agencies in Washington State may use our free, one-on-one Ask MRSC service to get answers to legal, policy, or financial questions.
About Toni Nelson
Toni worked with many local governments and authored numerous MRSC publications on budgeting, cash basis accounting and reporting, and the application of Washington State B.A.R.S. requirements. During her time at MRSC, she also conducted multiple trainings annually on similar subjects and was consider an expert in small city finance issues. She retired in 2020.
