Internet Explorer 11 is not supported

For optimal browsing, we recommend Chrome, Firefox or Safari browsers.

10 Budgeting Tips for Long-Term Financial Planning

A new report lays out several fiscal planning tools that can help officials see what's sustainable.

Writing for The New York Times recently, personal finance guru Carl Richards stressed the importance of long-term planning -- how few of us do it personally and how businesses can't thrive if they don't. To underline his point, Ricards told a story about friends of his who are third-generation Idaho potato farmers. "Whenever possible, their decisions get put in the context of whether they benefit the long-term health of the farm or require too much risk. While they have to make day-to-day decisions to keep things running, they can't afford to only think about this year's crop."

Richards' article was published the same day as the Center on Budget and Policy Priorities (CBPP) released its study on state government budgeting. The authors' opening gambit: "The spending, tax, and other policy decisions that comprise the budget have consequences for a state's fiscal and economic security that last long beyond the budget year. Often, however, policymakers focus on the immediate effects of policy decisions and fail to account for their longer-term consequences."

This appears in our free Finance e-newsletter. Not already a subscriber? Click here.

As governors, legislators and their staffs get down to the serious business of crafting their budgets, they face not only immediate political pressures -- like cutting or raising taxes, or funding or defunding programs -- but long-term fiscal questions. I talked to Elizabeth McNichols, one of authors of the CBPP report, about the hows and whys of long-term budgeting. As McNichols points out, long-term budgeting is not a partisan issue. "It doesn't lead to any particular policy solution," she says. "It helps a state project what's coming so it can thoughtfully decide what to do." What follows is a transcript of our interview, edited for clarity and length.

Why did you research and release this study now?

State economies are recovering. They're not in crisis mode. There's breathing room to look ahead. Right now state policymakers are deciding whether to restore education funding, replenish reserves or cut taxes -- decisions with long term effects. As they weigh these choices, these tools can help a state build a strong economy and weather tough economic times.

The federal government is on track to make cuts that will affect state budgets. A recent report by the National Association of State Budget Officers notes that federal money as a percent of state funding sources is dropping -- from 34.9 percent of state budgets in 2010 to 30.9 percent in 2013. That percent is not likely to rise anytime soon. What's the effect on long-term planning?

Part of what states are seeing is the end of stimulus spending. They were still getting the money in 2010 and 2011. But now, the federal pressure for deficit reduction will hit states and what it means is that states are going to have to look to their own resources to fund education and health care. In terms of long-term planning, they'll have to sit down and look at projections for spending and revenues; the portion of revenues from the feds should be included in that projection. Because of the uncertainties at the federal level, a state should get a good handle on the part of the budget it can control.

What does a state get out of using the 10 long-term planning tools listed in your report?

Businesses like to plan. They don't like to see spending programs put in place and taken away because they're not affordable or see taxes going up because the state put in place a program where it didn't project out the cost. A state can improve its business climate by making things more predictable and smooth. It also helps state agencies run more efficiently if they know the amount of funding they can afford to spend.

Some of the tools in your report -- such as rainy day funds -- are currently in widespread use. How is that working?

We're down to only four states that don't have rainy day funds. But for the states that do have the funds, they are now looking at increasing the size of those funds. I think it's the result of having two recessions in the last decade. In both of them, states had an aggregate of up to 10 percent of the budget in the funds, and they are realizing they need more than that going forward. We have seen states raise the cap on rainy day funds. Three states with 10 percent caps raised the caps to 15 percent. It's something the public understands -- you have to have a reserve.

Conversely, some of the tools in the report are used by less than half of the states, such as current services baselines and multiyear forecasts. How important are these and what are the challenges to putting them in place?

Many states do multiyear forecasts on revenues but they fall short on the spending side. It's important to do both. Maybe they haven't because it's tougher to do, but it's a question of taking that next step to look at internal analyses and put it in a form that's accessible to the public. In a number of states, individual agencies do projections but the state hasn't pulled it together in a budget document.

Current service baselines is really important. Right now, states are putting together a budget for the fiscal year that starts July 1. A state will propose a certain level of funding for, say, K-12. Some just compare the proposed spending to the prior year. But current service baseline would compare it to what it would cost to pay for the same service when adjusted for inflation and if you have more or fewer students. If you flat funded -- spent the same amount in the next year -- you could say you are not cutting spending. However, there's inflation and if the number of students goes up, you actually have fewer resources.

Is it difficult to do? Most of the information you would need for the largest programs -- K-12, higher education and health care -- is available in some form. It's not terribly hard for a state to pull it together.

Elizabeth Daigneau is GOVERNING's managing editor.
Special Projects