From 1995 through 2000, San Carlos realized the full, positive impact of being part of the Silicon Valley economic boom.As the City benefited from the tremendous growth in the technology sector, so has the City suffered from that sector's dramatic retreat.Office vacancies soared several years ago and, while they have begun to recover slightly, are still too high to support present commercial property values. From 2003 through 2007 economic indicators within San Carlos and the region showed modest growth which was well below the State and national economic growth levels.Economic indicators now point to a national, State and local economy teetering on the edge of a recession. The most current sales tax data shows that retailers during the forth quarter of 2007 did not receive the anticipated growth in sales of 3 – 4% but rather experienced a 2 – 3% loss.This data combined with national and State projections on hyper inflated energy costs, a weak US Dollar, rising food prices and other inflationary indicators points to an economy that experts feel at the very best will remain flat for the next 18 to 24 months.

Despite the City’s limited financial resources and its continued need to reduce operational costs, the City was able to address the following funding objectives during the 2007-2008 fiscal year:

Council Strategic Planning – In 2007-2008 the City Council and Executive Management staff continued the Strategic Planning Process begun in 2005-2006. The process resulted in the review of the City’s three-year goals and the creation of numerous accompanying six-month implementation objectives.Numerous objectives from this strategic planning process were funded and completed in the 2007-2008 budget. The strategic planning process has been funded, along with its current six-month objectives, and will continue in 2008-2009.

Fire Department Restructuring & Funding

The City Council and City staff worked with the Fire JPA Board and the Belmont Fire Protection District Board to reinvent the Fire JPA formerly known as the South County Fire Protection District, now known as the Belmont-San Carlos Fire Department.After the failure of a Fire Assessment in both San Carlos and Belmont in that same year, a new JPA agreement was written and approved by the City and the Fire District to save the joint fire department from dissolution. This agreement contains a new funding formula that continues in this year’s budget, comprised of several calculation variables including population, service calls, property valuation, and staffing levels.  In fiscal year 2007-2008 the funding formula stipulates that San Carlos will pay for approximately 53% of the joint fire costs.

Measure G – Measure G is a parcel tax approved by the voters on November 2, 1999 to raise money for future improvements/acquisition of parks and recreation improvements/facilities. The City matches the tax receipts with a contribution from the General Fund. Annual receipts average just over $60,000 and FY 2007-2008 was the first year in which these funds could be used.Measure G funding has been budgeted to finance a portion of the costs for the construction of new playgrounds at Burton Park.

CIP Projects – Capital projects that were completed or initiated during the year include:Sewer System Rehabilitation, Storm Drain Improvements, Street Resurfacing, Burton Park Playground, Citizen Relationship Management System (CRM), 2^nd Floor remodel, Financial and Human Resources Software (ERP) enhancements, San Carlos Ave. traffic signal, General Plan Update and Sidewalk Reconstruction.

NPDES Fund Balancing – In 2006-2007, the General Fund made a transfer in the form of a loan to NPDES in the amount of $500,000 to balance this Fund.  In fiscal year 2007-2008, the General Fund made an additional loan of $110,000 to NPDES to bring the Fund into balance.Until NPDES charges are raised in San Carlos the General Fund will continue to subsidize this Fund either through future loans, the inability of the NPDES Fund to repay the existing loan or staff time subsidy to support the necessary NPDES related services.NPDES fees can only be raised through 2/3 voter approval.

Gas Tax Fund Balancing – In fiscal year 2005-2006, the General Fund made a transfer in the form of a loan to the Gas Tax Fund in the amount of $500,000 to bring this Fund into balance.This Fund remains balanced.

Equipment Replacement Fund – In fiscal year 2006-2007, the City re-established, as part of the budget, the equipment replacement fund.Funding for the year was approximately $788,000 from General Fund and non-General Fund sources. Of the total funding, $600,000 was consolidated from various Department budgets and additional funding was allocated from the General Fund Balance (so called “one-time savings”). Funding in 2006-2007 was approximately $75,000 short to meet the existing equipment replacement needs as identified on the replacement schedule.In the current fiscal year (2007-2008) following the end of the previous fiscal year (2006-2007), Council approved $600,000 funding from the General Fund savings achieved during 2006-2007 (“one-time savings”). Currently, the proposed 2008-2009 budget is approximately $250,000 short of the funding necessary to meet the City’s scheduled replacement needs for the coming year.

Technology Replacement Reserve – In fiscal year 2006-2007, the City created, as part of the budget, a technology replacement fund.Most of the funding was consolidated from various Department budgets into one centralized location. A replacement schedule and procedures have been created.Additional funding, necessary to keep pace with replacement needs, was added to the budget in 2006-2007 and 2007-2008.This funding is now part of the base budget for the technology replacement fund in 2008-2009. This replacement fund is currently fully funded.

GASB 45 Reserve

In 2004, the Government Accounting Standards Board issued Statement No. 45, Accounting and Financial Reporting by Employers for Post-Employment Benefits Other Than Pensions, which requires public agencies to report their costs and obligations for post-employment healthcare and other post employment benefits. In 2006-2007 an actuarial study was performed to determine the City’s GASB 45 liability. In addition, the 2006-2007 budget also included $500,000 from the City’s Unappropriated Fund Balance (“one-time savings”) to establish a GASB 45 reserve.An additional $375,000 was added to this fund in fiscal year 2007-2008 and the proposed Fiscal Year 2008-2009 budget will add an additional $250,000. It is anticipated that this $1.125 million reserve will be paid into a trust in the next fiscal year.

Building & Library Facility Reserves – The Restricted General Fund Building Reserve account balance is approximately $318,350 after funding the remodel of the 1^st and 2^nd floors of City Hall.No additional contributions are budgeted in the coming year.

Economic Uncertainties Reserve - Ten years ago this reserve's balance of $2.5 million was committed to completion of the San Carlos Library. The Council then directed that this reserve be rebuilt, and in 2001-2002 the City was able to complete that commitment - returning the Reserve for Economic Uncertainties balance to $2.5 million. The Fiscal Year 2008-09 Budget proposes increasing this reserve by $500,000 to bring it closer to 10% of the General Fund expenditure budget as per the City’s Financial Policy. The Economic Uncertainties Reserve is the only non-dedicated formal General Fund reserve in the City’s budget.A fund balance equivalent of 10% of the City’s General Fund expenditures should be viewed as the minimal level for this type of fund with a funding goal closer to 20% being highly desirable.

IMPACT OF STATE AND FEDERAL BUDGETS AND LEGISLATION

As in the past, State and Federal budgets and mandates continue to impact the City budget.Since 1991-92, the cumulative net impact of State cuts on City revenues and fees is projected to be over $15 million by the end of fiscal year 2007-2008. In 2002-2003, Redevelopment Agencies statewide were hit by another State grab, this one totaling $75 million. In 2003-2004, that grab was increased statewide to $235 million.This most recent State takeaway reduces the economic development funds the City has available to stimulate the local economy and help local businesses.

In 2004, the League of California Cities, together with a broad coalition of County and Special District Associations, the Governor, State Legislature, and individuals throughout our community and the State were successful in passing Proposition 1A. As part of an agreement with the Governor, local governments agreed to allow the State to take additional contributions from Cities in FY 2003-2004 & 2004-2005 to once again help bail the State out of its endemic financial troubles. As a result, San Carlos has seen additional annual funding of approximately $500,000 from the General Fund and $400,000 from the San Carlos Redevelopment Agency diverted to the State.In 2005-2006, the State repaid the amount taken in 2003-04 from the promised Vehicle License Fee backfill ($507,000) and in 2006-2007 began a five-year repayment of unfunded mandates (estimated to be approximately $240,000 per year). This measure now constitutionally protects the remaining sources of local government revenues from being taken by the State except in extreme financial conditions where the State may “borrow” local government revenue with provisions for future repayment with interest.Proposition 1A passed with 83.7% voter approval, a record high level of voter support for a California Ballot Measure.

While the State is considering a number of measures to address its current estimates $17 billion budget deficit (as discussed below), which will have negative financial impacts for the City, the State has not, as of yet, enacted the provisions necessary under 1A to “borrow” local revenues.So far, 1A has proven to be a very effective measure in helping to wean the State off of its habitual desire to divert local taxes to fund State programs and services as opposed to living within its own means.

During the past 6 months, we have seen some of the most serious problems with the State Budget in years.This included an $8 Billion State Budget Shortfall in late 2007 which was addressed by borrowing the final $3 Billion in State Prop 57 and 58 Bonds, delaying $2 Billion in State Bond Payments and delaying the payment of City and County Gas Tax Funds for a 6 month period to enable the State to meet its cash flow needs.

At the present time, the State is facing an estimated $15 Billion budget shortfall.As noted earlier, the passage of Proposition 1A has ended the past practice of diverting City and County Property Tax and Sales Tax funds to “bail out” the State when it has a deficit.Prop 1A allows a one-time emergency transfer of up to 8% countywide of such funds in any year. The Proposition then requires these funds to be paid back over the following 3 years with interest.This mechanism provides an option for the State in a true emergency but discourages the past practice of continual raids of local money.

With the repayment of City and County Gas Tax funds due in September, most experts anticipate that the State will adopt a budget before that time to insure that the City and County repayments can be done.The potential risk for the City this year is in the area of several Public Safety payments that the State made to Cities and Counties as an offset to the so-called “ERAF” (Education Revenue Augmentation Fund) program of the 1990s. The payments in play include:

• “COPS” Funds ($100,000 per year) – used for Police Department technology, equipment and staffing.
• Proposition 172 Sales Tax Funds ($113,451 per year) – approved by the voters during a prior State Budget deficit to pay for local Police and Fire costs.
• Booking Fees ($39,406 per year) – approved by the Legislature and Governor to offset County invoicing of Cities when arrests are made and individuals are booked into County Jail.
• VLF Transfer ($125,754 per year) – a proposal by the Legislative Analyst to shift City Vehicle License Fees to Counties so that these funds can be used to cover County Parole costs rather than City Services.

At the present time, the Governor has proposed to take 10% of the COPS and Booking Fees money from cities and counties.This would be a loss of $13,940 per year to San Carlos. The State Senate has proposed taking the COPS, Proposition 172 and Booking Fees payments in total from cities – a loss of $252,857 per year to San Carlos.The Legislative Analyst has proposed taking all four items from cities – a loss of $378,611 per year to San Carlos. The City’s budget does not attempt to predict the State’s budget action due to the wide range of uncertainties and potential impacts ($13,940 to $378,611 per year). Staff will track the situation and report back to Council when the State budget process ends.Any significant impacts of the State budget on the City’s budget will be addressed during the mid-year budget review process.

Pending Legislation & Regulations

Several pieces of pending legislation and State regulations have the potential of significantly impacting the City Budget as well.

Climate Change: Over 100 bills have been introduced dealing with the topics of Climate Change and implementing various aspects of AB 32, the State’s landmark legislation in this area. While AB 32 does not directly impact the City of San Carlos, some of these follow-on bills may.Similarly, State regulations dealing with how to calculate the 1990 levels of Greenhouse Gas Emissions and what role cities and their legislative, land use and other powers may have in the Climate Change arena also have the potential to impact the City budget.For example, the Air Resources Board is looking at a list of over 120 potential programs to address just the Land Use aspect of Climate Change alone.We expect to have more clarity on what is to come in this area in the fall.

NPDES Permit: The Regional Water Control Board (RWCB) is currently reviewing a new NPDES permit for cities in San Mateo County.This new permit would dramatically expand the scope (and cost) of complying with the Federal and State Regulations in NPDES. While the City is hopeful that the new NPDES permit will be less onerous than the first draft, staff anticipates higher costs to comply with newly adopted rules in fiscal year 2010.

Flood Maps and Drainage:Other impacts to the City include new FEMA Flood Maps which are likely to cover a larger portion of the City than in the past. This will result in higher flood insurance costs for some and new flood insurance costs for other property owners in San Carlos.Similarly, we are awaiting new creek and drainage requirements from the State which will impact both the City and property owners that own land adjacent to creeks and local waterways.

COST CUTTING AND REVENUE GENERATING EFFORTS – FY 2001/2002 – 2008/2009

For several years, staff has been working to streamline operations and bring down the cost of running the City, as well as finding new ways to fund City programs.In 2001-2002, expenditures were cut by $2.5 Million to meet the slumping economy. City departments trimmed an additional $2.2 million in the 2002-2004 budget.Again in February 2004, the Council adjusted mid-year revenues and expenditures by $754,000.In 2005-2006 City Council adjusted revenues and expenditures by approximately $1.3 million. In the 2006-2007 Budget there were an additional $2.5 million of adjustments to revenues and expenditures designed to address the City’s on-going structural budget deficit.In the 2007-2008 Budget Council approved an additional $108,000 in structural adjustments. In the proposed 2008-2009 Budget, Council tentatively included approximately $530,000 in program additions, $279,000 in revenue adjustments, approximately $1.1 million in reductions and proposed approximately $1.0 million of one-time funding from unallocated fund balances.The result of these changes is reflected in the Work Program and throughout the 2008-2009 Proposed Annual Operating Budget.

2008-2009 BUDGET OVERVIEW

The economic downturn, beginning March 2001, significantly impacted several of the City’s major General Fund revenue sources, such as Sales Tax, Transient Occupancy Tax (TOT), and Investment Earnings. Sales Tax revenue, TOT and Investment Earnings have all since stabilized and exhibited varying levels of moderate to healthy growth over the past few years.On the expenditure side, certain costs continue to increase faster than corresponding revenues – employee and retiree medical insurance premiums, California Public Employees Retirement System (PERS) employer contributions, Cost of Living Adjustments (COLAs), GASB 45 unfunded valuations, SBSA sewer charges, and utility & fuel costs.

Since personnel salary and benefit costs comprise the majority of local government expenses, even small percentage increases in salary and benefit costs have a significant impact on the City’s expenses.Medical and PERS costs will continue to be a significant expense in 2008-2009, with medical benefit cost increases expected to slow from the 10% level, of the past few years, to 2 – 5% and PERS retirement costs to the City reaching approximately 37% of salary for safety employees and 18% for miscellaneous employees.In 2008-2009 expenditure growth is expected to continue to outpace corresponding revenue growth by 2 – 4%. It is anticipated that the City will need to make additional program, service or cost reductions in future years to ensure the budget remains in balance.

The Proposed 2008-2009 operating budget expenditures for the General Fund are up $1.2 million over the 2007-2008 mid-year estimate. This is primarily due to salary and benefit cost increases, including PERS retirement, active and retiree medical cost premium increases and increased funding for GASB 45 – Post Employment Retiree Medical unfunded benefit liabilities.General Fund revenues are expected to grow $1.2 million over the 2007-2008 Amended Budget resulting from growth in the levels of sales tax, vehicle in-lieu, TOT, current fees for services and investment earnings primarily achieved in fiscal year 2006-2007 which offset a reduction in budgeted property tax revenues which would result if the City were to lose the ERAF rebate we have received from San Mateo County for the past several years, a rebate the County has warned should not be counted upon in future years. Sewer revenues are projected to increase by $800,000 from 2007-2008 amended levels; however this revenue increase is offset by increasing expenditures attributable to contractual increases for SBSA treatment charges, inclusion of City overhead charges to the Sewer Fund and sewer system capital improvement projects.

Citywide Budget - All Funds ($ Millions)

	2007-08 Amended	2007-08 Estimated	2008-09 Budget
Revenues	2.2	2.2	2.2
Operating Expenditures	1.9	1.9	2.1
Net Transfers	(0.0)	(0.0)	(0.1)
Net Change	0.2	0.2	0.1

In 2005, the City refinanced the General Obligation bonds that were used to finance the San Carlos library construction. This fund is used to account for the accumulation of annual tax levies earmarked for payment of principal and interest on the 2005 GO Bonds.A complete debt repayment schedule is included in the Debt Service section of this budget.

Actual Worker’s Compensation premiums charged in the current year were less than budgeted, and are expected to decline further in the next fiscal year. This was the result of several factors: Statewide Worker’s Compensation reform, reduced City Worker’s Compensation claims, and the completion of payments to the City’s worker’s compensation insurance pool to correct past undercharge errors to all of its member cities.

General Liability Fund expenditures have decreased significantly, with projected actual claim losses falling under projections made in 2007-2008. Liability costs are allocated to the Operating Funds’ budgets based on claims experience; therefore, the Sewer Fund (06), which is responsible for most of the claims (and in this case the reduction in claims), will receive most of the savings.The City's proposed 2008-2009 Sewer Reconstruction Project is directly associated with providing greater control of these claims/costs in future years.

1.CAPITAL IMPROVEMENT BUDGET

The capital improvement budget funds major one-time and on-going infrastructure improvement needs such as road projects, traffic safety improvements, park construction and improvements, sidewalk and street work, sewer system reconstruction, facility improvements, and enterprise technology projects. Funds are often accumulated in this budget over a period of years and then are spent when a sufficient amount of revenue is available to pay for desired projects.

2008-09 Capital Fund Budget ($ Millions)