Review of the Four-year Financial Plan for the City of New York

Fiscal Years 2000 Through 2003

H. Carl McCall

State Comptroller


Office of the State Deputy Comptroller for the City of New York

Report 10-2000

Contents

I. Executive Summary

II. Fiscal Year 2000

    A. Revenue Estimates

       1. Tax Reduction Program

        2. Taxes

    B. Expenditure Estimates 

        1. Municipal Labor Contracts 

        2. Staffing Levels  

        3. Pension Contributions  

        4. Debt Service 

        5. Public Assistance  

        6. Medical Assistance

        7. Board of Education  

        8. Sports Stadia Funding  

III. Out-year Budget Gaps

I. Executive Summary

New York City's fiscal condition has benefited greatly over the past few years from the Wall Street boom. Last year, the City had an unprecedented budget surplus of more than $2.6 billion, and it had record surpluses in each of the two prior years. For FY 2000, the City projects a surplus of $833 million, but that could end up being substantially larger.

The City still faces large out-year budget gaps (see Table 1) because it has not taken advantage of the surplus to restructure its budget. Instead, the City has used the surplus to support a level of spending and tax cuts that it could not otherwise afford. For example, City-funded spending is growing by 9.3 percent in FY 2000, three and a half times the projected inflation rate, yet revenues are projected to decline slightly from last year's level. The City plans to use the FY 2000 surplus to help support next year's budget (see Table 2).

While the outlook for the current fiscal year is very good, the out-year budget gaps could approach $3.1 billion by FY 2003--substantially larger than forecast by the City (see Table 2). In estimating the gaps, the City makes no provision for wage increases after the expiration of current municipal labor agreements; moreover, wage increases even at the projected inflation rate would widen the City-projected gaps by $1.2 billion by FY 2003. The City Actuary also may propose changes in the actuarial assumptions and methodologies used to calculate City pension contributions. If the Actuary's recommendations are adopted, such changes could produce substantial savings this year and next but would widen the budget gap for FY 2003.

The City also faces long-term challenges financing its capital program. Debt service costs will consume 19 percent of City tax revenues by FY 2002, a 25 percent increase over the FY 1999 level. Moreover, the City has not yet developed a permanent solution to the problems related to the State Constitutional debt limit and will need additional financing capacity by FY 2002. The State Comptroller believes that the City should consider funding a portion of its capital program with pay-as-you-go capital financing.

In the months ahead, the State will begin debate on a number of issues important to the City, including a successor to the State's hospital reimbursement system, education aid to localities, a $17.5 billion capital program for the regional mass transit system, and pension benefits for State and City workers. Finally, while the City reports that critical computer systems are Year 2000 compliant, attention will be focused on the City's preparedness to respond to any disruptions.

Table 1

Four-year Financial Plan Revenues and Expenditures

($millions)

Data Source: N.Y.C. Office of Management and Budget

Table 2

OSDC Evaluation of the Four-year Financial Plan

($millions)

Better/(Worse)

II. Fiscal Year 2000

The City currently projects a budget surplus of $833 million in FY 2000, and that estimate is likely to grow as the year progresses. As part of the budget adopted last June, the City deposited $429 million of the FY 1999 surplus in the FY 2000 Budget Stabilization Account. The City made another deposit, of $404 million, in November, bringing the total in the account to $833 million. Most of these resources, including those that were deposited at the beginning of the fiscal year, result from higher-than-anticipated tax revenues (see Table 3). The City has already indicated that it intends to use these resources to help balance the FY 2001 budget if not needed in the current fiscal year to maintain budget balance.

Table 3

Changes Since the Adopted Budget

($millions)

Better/(Worse)

Last year, the City ended the fiscal year with a budget surplus of more than $2.6 billion, unprecedented in both absolute terms and as a percentage of City fund revenues (see Graph 1). The FY 1999 surplus followed record surpluses of almost $2.1 billion in FY 1998 and $1.4 billion in FY 1997. These extraordinary surpluses result mostly from unanticipated tax revenues and extraordinary pension fund investment earnings generated by the Wall Street boom.⁽²⁾

Our review concludes that the FY 2000 surplus could be substantially larger than forecast by the City, since tax revenues are likely to be $150 million higher and the Plan includes a reserve of $200 million, which is not likely to be needed in the current year. In addition, the City could realize $150 million in savings from overestimating prior years' expenses, and changes in actuarial assumptions and methodologies used to calculate City pension contributions could produce substantial short-term savings even though such costs could be higher than forecast by the City for FY 2003.

A. Revenue Estimates

For the past few years, City fund revenues have greatly exceeded the City's expectations, and FY 2000 is on a similar course. In the November Plan, the City raised its forecast for total tax revenues by $585 million, with higher collections now expected from almost all the nonproperty taxes. Overall, the Plan projects that City fund revenues will decline slightly in FY 2000 (see Graph 2), falling by $69 million, or 0.3 percent, reflecting new tax cuts and the expanded value of earlier tax cuts.⁽³⁾ Tax revenues, the largest component of City fund revenues, are expected to decline by $315 million, or 1.5 percent.

The increase in the revenue forecast since June reflects the City's improved outlook for both the national and the local economies. At a national level, the economic expansion is expected to continue, with growth in gross domestic product now anticipated to reach 3.9 percent in 1999 and 2.7 percent in 2000. Growth in 1999 has been driven by strong consumption spending, while business inventories have been contracting and manufacturing demand has remained strong. Corporate profits are now forecast to rise by 8.2 percent in 1999, a sharp contrast to the 1 percent decline expected last June. At the same time, it is anticipated that the Federal Reserve's three interest rate increases this year will help keep inflation at bay and prolong the national expansion.

Given the stronger outlook for the national economy, the City has raised its expectations for the local economy. For 1999, the gross city product (GCP) is now expected to rise by 6.6 percent, employment to rise by almost 83,000 jobs, and personal income to rise by 6.3 percent. The employment outlook is considerably stronger than it was in June, when 70,000 jobs were forecast to be added to the local economy. The current forecast, if accurate, would be the second-highest employment gain on record, outpaced only by the record set in 1998.

The City's 1999 outlook for securities profits, which is crucial to revenue projections, has been raised considerably, to $12 billion, from $8 billion last June. This compares to profits of $9.7 billion in 1998, $12.2 billion in 1997, and $11.3 billion in 1996, the three highest years on record for securities industry profits. For the first three quarters of 1999, industry profits totaled $9.5 billion.

The City is now expecting the economy to slow in the next two years, with the GCP forecast to show no increase in 2001, while employment growth for that year would slow to only 22,000 jobs and personal income would increase by 2.9 percent. Wall Street profits, according to the City's projections, would fall to $5 billion annually in 2000 and 2001. The local economy, but not Wall Street profits, would then rebound in subsequent years.

1. Tax Reduction Program

Since June, several changes to the tax reductions included in the FY 2000 budget have occurred (see Table 4). The largest change affects the repeal of the tax on nonresident earnings (the "commuter tax"). The State Legislature repealed the tax for commuters who live in New York State, effective July 1, 1999. Subsequent to the repeal, out-of-state commuters filed lawsuits with several courts to have the repeal extended to them; thus far, the courts have ruled in their favor. The City had originally estimated the impact of the repeal for both in-state and out-of-state commuters to be $360 million. However, the Plan now shows the FY 2000 value to be $529 million. The higher value reflects primarily one-time refunds to return the significant over-withholding the City has found among commuters. The City attributes this over-withholding to either a choice by commuters to overpay or mistakes in the handling of the commuter tax by employers.

Table 4

FY 2000 Tax Reduction Program

($millions)

Data Source: N.Y.C. Office of Management and Budget

The earned income tax credit initially included in the adopted budget has been dropped because the federal Temporary Assistance to Needy Families (TANF) surplus funds originally expected to offset most of the credit's cost were not made available by the State. In addition, the State Legislature moved the start date of the repeal of the sales tax on clothing items costing less than $110 from December 1, 1999, to March 1, 2000. To compensate for the later start date, they added a sales tax free week for clothing costing less than $500 in January 2000. As a result, the City expects to recapture $37 million in FY 2000. Finally, as part of the State budget adoption process, the 14 percent surcharge on personal income taxes was extended for two years, with expiration now scheduled for December 31, 2001.

2. Taxes

The Plan now forecasts nonproperty tax collections of $13.4 billion--a decline of $410 million, or 3 percent, from FY 1999 levels. This forecast is nearly $600 million higher than that made in June, reflecting the City's improved outlook for the local economy and Wall Street profits.

Strong employment and wage gains have led the City to make a substantial upward revision in its underlying forecast of personal income tax collections. Had the State Legislature not repealed the City's tax on commuter income, the City's new forecast would amount to an increase of $336 million in collections for FY 2000 over the amount projected in June. Adjusting for that tax repeal and other recent changes in the tax's rate and base results in a forecast growth in collections of 8.1 percent over last year's level. However, factoring in the repeal of the commuter tax, a rise in the value of the School Tax Relief program rate cut, and the full impact of the expiration of the 12.5 percent surcharge on personal income taxes has instead resulted in a projected decline of 13.6 percent in personal income tax collections in FY 2000, to $4.7 billion.

The City's forecast for higher incomes also helps boost collections of the sales tax, which are expected to grow by 4.9 percent to $3.4 billion, despite the repeal of the tax on clothing items costing less than $110. The sales tax forecast is $84 million higher than in June, with $37 million coming from the delay of the cut in the sales tax on clothing.

Collections from the general corporation, banking, and unincorporated business taxes are expected to total $2.9 billion, basically unchanged from their FY 1999 level but $194 million more than was projected in June because of increased Wall Street profits. The forecast for the real property transfer and mortgage recording taxes was raised by $88 million, to $760 million; this still, however, represents a decline of 9.1 percent from FY 1999 levels.

The real property tax revenue forecast is little changed from June, with revenues expected to rise in FY 2000 by $95 million, or 1.3 percent, to $7.7 billion. Revenues from higher billable assessed values in FY 2000 will be partially offset by increased refunds and lower proceeds from the sale of tax liens.

Actual collections thus far in FY 2000 have been even stronger than indicated by the City's upward revisions. For the first five months of FY 2000, personal income tax collections were up 20.2 percent, boosted by higher estimated payments and increased State/City offset payments, which reflect corrections for prior distributional errors. Business tax collections were down only 2.4 percent for the first four months of the fiscal year, while sales tax collections were up 8 percent. Based on year-to-date collection trends, coupled with our analysis of the City's tax yield relative to its economic forecasts, we expect tax revenues to be higher than forecast by the City by $150 million in FY 2000, $100 million in FY 2001, and $75 million in each of fiscal years 2002 and 2003.

B. Expenditure Estimates

The Plan shows that City-funded spending is projected to total nearly $24.7 billion in FY 2000, $56 million less than the FY 1999 level. In our view, the City's practice of transferring the budget surplus by prepaying a portion of the following year's expenses distorts spending patterns.⁽⁴⁾ In addition, the City's financial plan excludes debt service for the Transitional Finance Authority and debt backed by tobacco settlement proceeds.

According to the methodology we use to discern spending patterns, City-funded spending would grow by $2.3 billion in FY 2000, or 9.3 percent--far faster than the projected inflation rate (see Graph 3). During fiscal years 1997 through 1999, spending grew at an average annual rate of 4.9 percent, twice the inflation rate and in sharp contrast to the constraint shown during fiscal years 1995 and 1996. Even excluding the $200 million general reserve and taking into account the potential for savings in prior years' expenses, City-funded spending would rise in FY 2000 by about 7.9 percent. Such a rate of growth would still be three times the projected local inflation rate.

The growth in City spending is driven by costs associated with current labor agreements; higher spending in the mayoral agencies for criminal justice, closing the Fresh Kills landfill,⁽⁵⁾ and children's and other social services; higher costs for education and municipal health insurance; and funding for new sports stadia. These costs are partly offset by savings from initiatives to be implemented by City agencies (i.e., the FY 2000 agency gap-closing program) and by lower pension costs owing to continued exceptional investment performance of the City's five actuarial pension funds.

The agency gap-closing program is expected to produce budgetary savings of $415 million in FY 2000,⁽⁶⁾ a net increase of $53 million over the amount included in the adopted budget. However, the recurring value of the FY 2000 agency program is far less--$246 million in FY 2001 and $239 million in subsequent years--because the FY 2000 program includes many actions that produce only one-time benefits. The agency program includes initiatives that would shift funding from the City to other levels of government ($121 million); produce savings by cutting subsidies, re-estimating the cost of providing municipal services, or delaying expenditures ($116 million); and reduce or eliminate City services ($68 million).

Our review finds that overtime costs in the uniformed agencies could be higher than forecast by the City by $35 million in FY 2000 and by slightly greater amounts in subsequent years. In addition, the City faces a potential liability of $33 million in unpaid prior year State education aid in FY 2000 and larger amounts in fiscal years 2002 and 2003.

1. Municipal Labor Contracts

The labor agreements with the municipal unions representing City employees will begin expiring during FY 2000.⁽⁷⁾ Over the past 20 years, municipal labor settlements have been largely determined by pattern bargaining, where the City reaches a settlement with a single union, or a coalition of unions, that sets the pattern for the remaining unions. The City plans to continue this practice, but union leaders intend to follow a new approach by which they would present a "common front" in negotiations with the City while seeking to address the needs of individual unions. The unions representing teachers and police officers may try to reach agreement with the City first, since these unions stand the best chance of winning large settlements from the City.

Union leaders have stated that they will seek from the City substantial increases in wages and improvements in pension, health, and welfare benefits to compensate for concessions made by the unions during the mid-1990s, when the City was having serious difficulties balancing its budget. To help the City, the unions participated in a series of staff-reduction initiatives, accepted a two-year wage freeze, and negotiated a transitional labor savings agreement that produced $1.2 billion in budget relief.

The Plan currently provides no funding for new labor settlements, with the Mayor claiming that wage increases must be tied to productivity improvements--a position that has been been rejected by the unions. Should wages grow at the projected rate of inflation, City costs would increase by $35 million in FY 2000, $365 million in FY 2001, $775 million in FY 2002, and about $1.2 billion in FY 2003.⁽⁸⁾

2. Staffing Levels

From December 31, 1993, to June 30, 1997, the City-funded workforce declined by more than 22,000 full-time employees as part of an effort to bring spending in line with projected revenues. Since then, the City has been adding employees and funding this addition largely with revenues generated by the Wall Street boom. During fiscal years 1998 and 1999, the City added 11,800 employees, and it plans to add another 1,200 employees during FY 2000 (see Graph 4). The City has also increased spending on non-full-time employees by 40 percent since June 1996--the equivalent of about 11,500 full-time employees. The combined effect has been to more than offset the reductions achieved in prior years.

Of the full-time employees added during fiscal years 1998 through 2000, nearly 90 percent have been police officers and teachers. In FY 2000, the Police Department intends to add 1,350 employees, mostly police officers, and the Board of Education intends to add nearly 400 teachers funded entirely by the City. The Board also plans to add another 3,200 teachers with funding provided by the Federal and State governments. More than half of the new teachers will help reduce class sizes or improve student-teacher ratios in overcrowded districts where new classroom space is not available. The balance of the new teachers will be used to staff other educational initiatives, such as ending social promotion and expanding the universal prekindergarten program, and to add new classes to accommodate growth in student enrollment.

3. Pension Contributions

The Plan assumes that City-funded pension contributions will total $1.2 billion in FY 2000 and then decline to $1.1 billion in FY 2001, $845 million in FY 2002, and $660 million in FY 2003, reflecting savings from extraordinary earnings in recent years on the investments of the City's five actuarial pension funds.

With the exception of FY 1994, the return on investments has exceeded the actuarial assumed rate of return each year since FY 1991, owing to the booming stock and bond markets (see Graph 5). In fact, the pension funds earned about 16 percent annually on their investments during this period, almost twice the current assumed rate of return of 8.75 percent. As shown in the same graph, these extraordinary earnings produced cumulative budgetary savings in FY 2000 of almost $1.4 billion, rising to $2.5 billion by FY 2003.⁽⁹⁾ A portion of these resources have been used in the past to provide general budgetary relief, supplement the benefits of retirees, and fund pension costs associated with wage increases provided to municipal employees under current labor agreements.

As a result of exceptional investment performance, lower-cost pension plans for new employees, and more diversified investments, pension costs as a percentage of salary and wages have declined since FY 1982 (see Graph 6). From FY 1982 to FY 1999, pension costs as a percentage of salary and wages declined from 30 percent to 10 percent, and the Plan assumes that pension costs will represent only 3 percent of salary and wage costs by FY 2003.⁽¹⁰⁾

Last year, the pension funds earned about 13 percent on their investments, but the City chose not to reflect the associated savings in the Plan because recommendations made by an independent actuarial consulting firm could significantly increase City pension contributions. For example, the consultant recommended lowering the investment earnings assumption based on a revised inflation outlook. Lowering the investment earnings assumption, and other changes that might be suggested by the City Actuary, could increase annual pension costs by about $700 million annually. When faced with a similar situation in FY 1995, the City's five actuarial pension systems accelerated the recognition of extraordinary investment gains (i.e., market value restart), rather than phasing in the gains over a five-year period, to help mitigate the budgetary impact of implementing changes in actuarial assumptions and methods. Such an approach is again under consideration.

Resources already set aside by the City for this purpose, combined with market value restart, would further mitigate the budget impact of such changes, especially during the next three years. In fact, the City could realize savings of about $500 million in FY 2000, $300 million in FY 2001, and $50 million in FY 2002. In FY 2003, however, such costs could exceed the current level of funding in the Plan by $200 million.

The State Comptroller has made a number of recommendations to enhance the pension benefits of members of the State retirement systems. For example, the State Comptroller has proposed an automatic cost-of-living adjustment for retirees' benefits, rather than the ad hoc adjustments made in the past. In June 1999, the Governor announced the creation of a task force to study the financial condition of State and City retirement systems and to compare private sector and public sector pension benefits. The task force was directed to offer its recommendations by April 1, 2000, but the 15 members of the task force have not been appointed and no meetings have been held.

4. Debt Service

Debt service costs are projected to total $3.5 billion in FY 2000, an increase of $138 million, or 4.1 percent, over FY 1999. The rate of growth is less than the average annual growth rate of nearly 9 percent during the FY 1997-1999 period, owing largely to savings from City debt refundings and surplus resources made available by the Municipal Assistance Corporation. Nonetheless, debt service costs are projected to grow by an annual average rate of nearly 8 percent during the FY 2000-2003 period. We also estimate that the City's debt service burden⁽¹¹⁾ will rise from the FY 1999 level of 15.5 percent to 16.6 percent in FY 2000, 18.4 percent in FY 2001, and over 19 percent by FY 2002.

In FY 1998 and again in FY 2000, the State Constitutional debt limit would have prevented the City from entering into new capital contracts. To prevent these disruptions in the capital program, two entities were created to issue debt to augment the City's capital financing capacity: the State Legislature created the New York City Transitional Finance Authority (TFA) in FY 1997, and last year, the City created the Tobacco Settlement Asset Securitization Corporation (TSASC).⁽¹²⁾ Despite these actions, the City, in order to continue its capital program, will need additional financing capacity in FY 2001 or will have to postpone a substantial portion of its capital program to FY 2002. Additional financing capacity could be provided through increasing the borrowing authority of the TFA or, in FY 2002, amending the State Constitutional debt limit.⁽¹³⁾ We believe the City, rather than continuing to rely almost entirely on debt, should finance a portion of its capital program on a pay-as-you-go basis, especially in light of the growing debt burden and unprecedented budget surpluses.

5. Public Assistance

The Public Assistance (PA) caseload has declined by more than 515,000 persons, or 44 percent, since the caseload reached an all-time high of nearly 1.2 million in March 1995 (see Graph 7). The Plan anticipates a further reduction of 24,000 persons by June 2000. City-funded PA costs are expected to total $426 million in FY 2000, less than half the amount spent in FY 1994. The City expects that by the end of FY 2001 the caseload will have declined by another 5 percent, but it anticipates no further reductions during the balance of the Plan period. The decline results from Federal and State welfare reform, City efforts to encourage work, and a strong local economy. In FY 2002, the Federal five-year lifetime cap on welfare benefits will take effect and tens of thousands of people will lose Federal benefits. While those losing Federal benefits will be eligible to participate in the State's Safety Net Assistance program, the cost to the City for these cases could double since the Federal government will not share in the cost.

6. Medical Assistance

City-funded Medicaid expenditures are projected to total nearly $3 billion in FY 2000, an increase of $136 million, or 4.8 percent, over last year's level (see Graph 8). This estimate is $147 million more than projected in the budget adopted last June because the Federal and State governments rejected certain reforms proposed by the City. The Plan assumes that, in subsequent years, Medicaid costs will grow by about 4 percent annually, largely reflecting rising medical inflation rates and greater demand for pharmaceutical services. The budgetary impact of these two factors will be mitigated by increased emphasis on lower-cost outpatient services, instead of inpatient care, and further reductions in the number of persons eligible for Medicaid reflecting the projected decline in the PA caseload. Medicaid expenditures could be affected by the outcome of negotiations under way to alter the State's hospital reimbursement system.

The New York Health Care Reform Act (HCRA) of 1996-which deregulated the inpatient hospital rates paid by private insurers--is scheduled to expire on December 31, 1999. While HCRA increased competition within the health care industry, the State ensured that certain "public goods" remained funded. These public goods, which are funded through $2.7 billion in annual surcharges paid by Medicaid and private insurers, include charity care, graduate medical education, and health insurance for children in low-income families.

The Assembly has already approved a bill that would replace HCRA, but the Governor and the State Senate have not publicly announced their intentions for revising HCRA. Current negotiations will address funding for public goods and may encompass other health care issues, including tobacco settlement monies, uninsured initiatives, drug coverage for the elderly, and Medicaid cost-containment provisions.

If the State does not extend HCRA or reach agreement on a new arrangement before December 31, 1999, hospital payments could be adversely affected as soon as February 2000. To avoid any losses in revenues from taxes on insurers, the State would have to make the provisions of any new arrangement retroactive.

7. Board of Education

The Plan includes nearly $10.5 billion for the Board of Education in FY 2000, excluding funding for pension and debt service costs--$976 million more than last year's level. The Board has not identified any major budget issues for the current fiscal year and it is premature to quantify the budgetary needs for subsequent years.

However, meeting higher standards mandated by the New York State Board of Regents and addressing other shortcomings of the New York City's public school system will place pressure on both the State and the City to provide additional resources. Additional teachers will be needed to further reduce class sizes; expand the prekindergarten program; provide remedial instruction; and replace those teachers leaving the public school system, who are in some cases the City's most experienced teachers. In total, the Board of Education estimates that it will need to hire 54,000 teachers over the next five years. Attracting and then retaining qualified teachers is a major challenge for the Board of Education, especially since it is competing with suburban school districts that pay salaries, on average, 25 percent greater than those paid by the City. New educational initiatives have also placed further strains on already overcrowded and deteriorated school buildings. For example, the absence of available classroom space in certain community school districts is preventing the Board from reducing class sizes. In such instances, the Board has placed additional teachers in existing classrooms to reduce the student-teacher ratio. While the Board of Education has begun a new five-year $7 billion capital program, which is 43 percent larger than the program concluded last June, it addresses only 25 percent of the need identified by the City Comptroller.

8. Sports Stadia Funding

The City has established the New York Sports Facilities Corporation, which would help finance, on a pay-as-you-go basis, the construction of new stadia and the renovation of existing facilities for the City's two professional major league baseball teams. The Corporation also would help finance the construction of new facilities for minor league baseball teams in Coney Island and Staten Island, and possibly other sport facilities. For such work, the Plan includes $90 million in FY 2000, $194 million in FY 2001, $289 million in FY 2002, and $303 million in FY 2003. If the City's plans change, or it chooses to issue bonds to finance the costs, these resources could become available for other purposes.

III. Out-year Budget Gaps

The City projects out-year budget gaps of about $1.5 billion in FY 2001, $2 billion in FY 2002, and $1.8 billion in FY 2003. Even though these gaps reflect tax reduction programs enacted since FY 1995 with a combined value of $2.4 billion by FY 2003, they are substantially less than the gaps projected a few years ago.

The out-year gaps represent from 6 percent to 8 percent of City fund revenues--a substantial improvement compared with 9 percent to 13 percent last year--but they make no provision for wage increases after current contracts expire during the second half of FY 2000. Wage increases at the projected inflation rate would increase annual costs by about $1.2 billion by FY 2003 and would widen the budget gaps to 7.5 percent of City fund revenues in FY 2001, 10.8 percent in FY 2002, and 11.3 percent in FY 2003. In addition, City pension contributions are likely to be significantly higher than projected by the City for FY 2003 if the pension funds adopt recommendations made by an independent actuarial consultant. While the City faces a significant liability in tax certiorari cases stemming from legislation enacted in 1997 that changed the basis from which property owners could contest their assessments, it is seeking legislative relief from these provisions. The City has acted responsibly in using conservative economic assumptions to project revenues during the Plan period, but the budget is still vulnerable to an economic downturn.

Our review also highlights the following budget risks:

• The Plan assumes that the Port Authority of New York and New Jersey will increase its airport lease payments by $358 million in FY 2001, $178 million in FY 2002, and $148 million in FY 2003. The City had planned on receiving these additional payments beginning in FY 1996, but negotiations have been unsuccessful and arbitration proceedings are continuing.

• The City and the Board of Education face a potential liability of $10 million in FY 2001, $96 million in FY 2002, and $75 million in FY 2003 because the State has failed to make payment on claims for prior years' education aid, and the City Comptroller has adopted a policy of writing off unpaid claims that are at least 10 years old.

• The Plan anticipates revenues of $100 million in FY 2002 from asset sales, but the City has not identified the assets to be sold or the terms, conditions, and timing of the sales.

• The City faces a potential liability of $15 million in FY 2001, $40 million in FY 2002, and $45 million in FY 2003, owing to higher costs associated with disposing of residential waste. In anticipation of closing the Fresh Kills landfill by 2002, the City recently expanded its solid waste export program to include about 7,500 tons daily--more than half the residential waste stream. Our higher estimates assume that the cost of exporting the remaining waste will be no less than the costs incurred during the most recent expansion of this program.

• Proceeds from the City's lawsuit with the State on the settlement of foster care claims have been postponed several times in the past, making the anticipated receipt of $47 million in FY 2001 uncertain.

1. The Four-year Financial Plan includes an annual general reserve of $200 million. Return

2. See prior reports for a detailed description of the sources of the surplus. Return

3. City fund revenues are defined as locally generated tax revenues, miscellaneous revenues, and unrestricted State and Federal aid. We have adjusted City fund revenues to include the portion of the personal income tax and tobacco settlement proceeds dedicated to the Transitional Finance Authority and to tobacco bonds. Return

4. Generally accepted accounting principles (GAAP) require the budget to be balanced with current year revenues. To comply with GAAP and to take full advantage of the surplus, the City prepays certain subsequent year expenses, such as debt service and cash subsidies. This technique permits the City to effectively transfer the surplus to the following year, but it distorts expenditure patterns. Return

5. The Fresh Kills landfill, located on Staten Island, is the City's only remaining landfill and under State law is scheduled to close by December 31, 2001. Under current plans, most of the City's residential waste would be exported to landfills located outside the City and the Department of Sanitation would increase its recycling efforts. Nevertheless, the amount of residential waste to be recycled would still fall far short of the target established in Local Law 19. Return

6. The agencies are also expected to generate $164 million in revenues in FY 2000. Return

7. The agreement with District Council 37, covering the majority of non-pedagogical and non-uniformed employees, expires on March 31, 2000; the labor agreement with the Patrolmen's Benevolent Association expires on July 31, 2000; and the agreement with the United Federation of Teachers expires on November 15, 2000. Return

8. The City projects local area inflation rates of about 2.6 percent in FY 2000, 2.5 percent in fiscal years 2001 and 2002, and 2.6 percent in FY 2003. Return

9. The budgetary benefits of extraordinary investment earnings are not realized until the following fiscal year. Return

10. This estimate excludes reserves to help fund recommendations that might be approved by the trustees of the five pension funds. Return

11. Defined as debt service plus lease payments as a percentage of tax revenues and other offsetting resources. Return

12. The TSASC made its initial bond offering of $709 million in November 1999. Return

13. See our report FY 2000 Executive Budget for the City of New York, Report No. 3-2000, May 2, 1999, for a discussion of the City's problems with and solutions to the State Constitutional debt limit. Return