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Home My WebLink AboutFinancial Analysis & Management Considerations Report 12/31/1997CITY OF LINO LAKES, MINNESOTA FINANCIAL ANALYSIS AND MANAGEMENT CONSIDERATIONS REPORT DECEMBER 31, 1997 City of Lino Lakes, Minnesota Financial Analysis and Management Considerations Table of Contents Transmittal Letter 1 Executive Summary 2 — Combined Financial Statement Analysis 4 Individual Fund and Fund Type Analysis: General Fund 13 Special Revenue Funds 26 Debt Service Funds 28 Capital Project Funds 31 Enterprise Funds 55 Agency Funds 62 Other Compliance and Control Issues 63 Other Matters 66 Government Accounting Standards Update 71 State Legislative Summary Appendix A HLB Tautges Redpath, Ltd. Certified Public Accountants and Consultants To the Honorable Mayor and Members of the City Council City of Lino Lakes, Minnesota We have completed the 1997 audit of the City of Lino Lakes and have issued our report thereon. Our Independent Auditor's Report is included in the City's Comprehensive Annual Financial Report. Additionally, we have issued a required report on compliance and internal control over financial reporting and a state legal compliance report. This Financial Analysis and Management Considerations Report is prepared to offer the City an independent review of: • Comparisons and trend analysis of financial results. • Benchmarking to State and National statistics and trends. • Available strategies to address long -term financial planning. • Policies, procedures and systems. • Outside factors influencing the City such as State funding and changes in financial accounting and reporting standards. This report is intended to supplement the City's strategic planning efforts with our views on the financial position of the City and to discuss outside factors we believe will affect the City in fulfilling its mission. Following this introduction letter is an Executive Summary with page references to the areas discussed. Thank you for the opportunity to serve the City. We are available to discuss this report with you. Respectfully submitted, lz4 ice,%•- �-�'�v HLB TAUTGES REDPATH, LTD. Certified Public Accountants June 16, 1998 4810 White Bear Parkway, White Bear Lake, Minnesota 55110, USA Telephone: 612 426 7000 Fax: 612 426 5004 HLB Tautges Redpath, Ltd is a member of ® International A world -wide organization of accounting firms and business advisers. City of Lino Lakes, Minnesota Management Report Executive Summary EXECUTIVE SUMMARY Throughout this report various topics are tagged for easier reference as follows: Ea State statute or federal legislation. Financial comparison or trend analysis. Impact of accounting and reporting standards of the Governmental Accounting Standards Board. <4> Options to continue improvement in policies, procedures, systems and/or long -range planning. O City's accomplishments. Several areas highlighted for your reference include the following: ® The City has established an investment policy to minimize risk to market and to manage other aspects of investing including maximizing yield. Interest on investments increased by $181,000 in 1997. page 4 GAB Effective for 1998, the City will be required to report investments at fair value in the financial statements. Page 7 O The City has a solid property tax collection rate. Page 9 ili q Oversight of tax increment was transferred to the Office of the State Auditor (OSA). Increased compliance reporting has occured. Failure to comply with the reporting requirements can cause a wihholding of tax increment revenues. We recommend careful compliance with all tax increment laws. Pages 10 -11 ® The City has an excellent special assessment collection rate. Page 12 The City's General Fund relies significantly on property taxes and state aids (72% for 1997 and 75% budgeted for 1998). Page 13 © Page 2 City of Lino Lakes, Minnesota Management Report Executive Summary Page 3 Other revenue sources of the General Fund decreased primarily because of less license and permit revenue. Page 14 IN O The City has adopted a General Fund reserve policy and has $3 million of reserves designated at December 31, 1997. Pages 22 -24 Cg> We recommend that the financial position of each Debt Service Fund be evaluated at least annually. Page 29 C> We recommend that the City continue efforts to monitor area and connection charges compared to debt service requirements. Page 34 <:› We recommend that the City improve contract management systems. Pages 44 -45 a Determine a funding source for the deficit of the 1994 Construction Fund and close the fund upon completion of costs. Page 48 QC* Research TIF compliance relative to the transfer of remaining amounts to the Town Center (or Town Center Infrastructure) Fund. Page 50 <g> Consider closing the Gas Utility Fund. Page 59 C4> Consider amending either the City charter or City practices with respect to modern financial management concepts for cities. Page 63 > Consider adopting a formal purchasing policy. Page 63 O The City received the Certificate of Achievement for Excellence in Financial Reporting. Page 65 Ct. Monitor efforts to assure 2000 compliance. Page 66 p Consider a re- evaluation of systems to prevent fraud. Page 66 q Consider a re- evaluation of pricing services. Page 69 Page 3 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis COMBINED FINANCIAL STATEMENT ANALYSIS The combined financial statements of the City of Lino Lakes are presented in Statements 1 through 5 of the 1997 Annual Financial Report. The following comments relate to the Combined Balance Sheet - All Funds (Statement 1). Cash and Investments Cash and investments were as follows at December 31, 1996 and 1997: Description Treasurer's balance - checking Petty cash Investments: Certificates of deposit Commercial paper Mutual funds U.S. government and agency securities Municipal bond Certificate of Indebtedness Totals December 31, Increase 1996 1997 (Decrease) $460,307 $93,344 ($366,963) 400 760 360 710,515 940,515 230,000 5,137,749 2,925,926 (2,211,823) 1,364,249 1,261,881 (102,368) 7,187,380 9,688,224 2,500,844 300,000 300,000 - 313,000 375,000 62,000 $15,473,600 $15,585,650 $112,050 O Interest on investments totaled $766,675 in 1997 and $584,838 in 1996. The increase was due primarily to increased average cash and investment balances. During 1997, the City amended its investment policy. The amended policy essentially follows state statutes except that derivative investments allowed by statute are not permitted by the City's revised policy. The above investments are in compliance with State statutes and the City's investment policy. Page 4 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis A schedule of cash and investment balances by fund type (as adjusted for interfund payables /receivables) is as follows: Fund December 31, Increase 1996 1997 (Decrease) General $2,671,992 $3,045,734 $373,742 Special Revenue 21,653 32,712 11,059 Debt Service 246,555 910,323 663,768 Capital Project 10,434,809 10,415,147 (19,662) Enterprise 1,984,735 900,497 (1,084,238) Agency 113,856 281,237 167,381 Total $15,473,600 $15,585,650 $112,050 Cash balances of Minnesota cities are commonly restricted by statutory requirements and long -range financial planning objectives. For the City of Lino Lakes the following illustrates such cash restrictions /designations: General Fund. The General Fund is supported significantly by property taxes and State revenues. These amounts are received by the City primarily in June and December. Working capital designations are needed to provide adequate cash flow throughout the first six months of the ensuing year. The City has established this designation (see later discussion - General Fund). Page 5 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis Vow Special Revenue Funds. The City maintains several Special Revenue Funds which match specific purpose revenues with expenditures. The City has cash balances restricted for such special purposes as follows: Economic Development Authority $0 Community Development Block Grant (6,282) Program Recreation 32,712 Total $26,430 Debt Service Funds. Minnesota statutes restrict the use of Debt Service Funds for payment of principal and interest on debt. These balances are restricted until full payment of the outstanding debt is made. Capital Project Funds. The primary funding sources for these funds are bond proceeds, tax increment revenue, State aids, grants and other revenues dedicated to construction and acquisition of major capital facilities. law Enterprise Funds. Cash balances of the Enterprise Funds are partially restricted for bond covenants to assure adequate cash to retire revenue bonds. Enterprise Funds also have cash requirements for working capital purposes, such as sufficient cash for operations prior to collection of accounts receivable. Enterprise Funds also tend to require cash reserves for unexpected major repairs vital to system operations, as well as planned system expansion and repairs. Agency Funds. Cash balances of the Agency Funds consist primarily of deposits due to contractors and related to pending assessments. The City's pooled investments are also accounted for in an Agency Fund. Page 6 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis Accounting Standards GAB The Governmental Accounting Standards Board (GASB) issued in March, 1997, a final statement on accounting and financial reporting for certain investments (Statement No. 31). This statement is required to be implemented in 1998. Essentially, this statement will require the City to record virtually all investments at fair value. Currently, the City's investments are recorded at amortized cost in accordance with current accounting principles. The change in fair value of investments is required to be allocated to all funds participating in the City's investment pool. This change may result in greater "swings" in investment earnings because of market changes. A summary of investment balances (excluding CD's) at December 31, 1997 is as follows: Amortized cost $14,551,032 Fair value 14,515,661 Cost over fair value $35,371 Page 7 Vilmw City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis Property Taxes Receivable The City levies property taxes in accordance with State Statutes. The property tax process has special provisions which impact the amount of taxes received by the City and the payer of those taxes as follows: Property Tax Process City determines property tax needs through budget & public hearing processes. 1 Levy is certified to the County. The County determines property owners share of property tax through jhe statutorily defined class rate process. Total tax capacities determined by statute, for example: Residential: 1% of the 1st $75,000 of market value plus 1.85% of values in excess of $75,000 Com/1nd: 2.7% of the 1st $150,000 of market value plus 4.0% of values in excess of $150,000 1998 - $9,679,139 1997 - $8,807,254 60% of Com/1nd tax capacity values are contributed to the 7 County Metro area Fiscal Disparities Pool. The City is distributed an equalized share from the pool 1998 - Contribution: ($358,998) Distribution: $1,395,540 1997 - Contribution: ($367,350) Distribution: $1,370,726 Tax capacity values of tax increment properties which meet the captured tax capacity criteria are excluded from the valuation base. These values are taxed for the City's tax increment program. 1998 - ($555,547) 1997 - ($410,724) The remaining tax capacity values, after adjusting for the tax increment exclusion, are subject to an allocated share of the property taxes levied by the City. 1998 - $10,160,139 1997 - $9,399,906 The above illustration indicates that the City of Lino Lakes is a net "gainer" with respect to the fiscal disparities statute which spreads the benefit of commercial/industrial properties across the seven county metropolitan area. Page 8 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis Q The 1997 and 1998 legislature lowered tax capacity rates for residential, commercial/industrial and several other property classes. Because most property classes were lowered, even level property tax levies will result in higher tax capacity rates. The City of Lino Lakes has a growing tax capacity base which mitigates the impact of lower tax capacity statutory formulas. Delinquent taxes receivable were as follows for the past several years: 1994 1995 1996 1997 Delinquent balance - January 1 $29,534 $27,804 $22,367 $22,490 Current levy (1) 1,841,666 2,199,426 2,624,043 2,927,509 Total receivable 1,871,200 2,227,230 2,646,410 2,949,999 Receipts: Current 1,815,761 2,178,795 2,595,960 2,894,535 Delinquent 15,014 21,206 15,641 23,962 Total receipts 1,830,775 2,200,001 2,611,601 2,918,497 Unadjusted balance Adjust to County Delinquent balance 40,425 27,229 34,809 31,502 (12,621) (4,862) (12,319) 1,096 $27,804 $22,367 $22,490 $32,598 Total collections as a percent of current levy 99% 100% 100% 100% (1) exludes HACA The City has experienced a solid tax collection rate over the past four years. The adjustments represent amounts provided by Anoka County for abatements and other adjustments to the delinquent balances. Page 9 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis Tax Increment Receivable The City had delinquent tax increments in the amount of $2,726 at December 31, 1997 as follows: 1996 1997 Delinquent balance - January 1 $2,640 $1 Current levy 377,093 501,181 Total receviable 379,733 501,182 Receipts: Current 375,669 498,470 Delinquent 2,638 59 Total receipts 378,307 498,529 Unadjusted balance 1,426 2,653 Adjustments: Net adjustments (1,425) 73 Delinquent balance - December 31 $1 $2,726 The City is required by statute to expend tax increment revenues exclusively for qualified purposes. In 1995, legislation was passed transferring the oversight of tax increment compliance from the Commissioner of Revenue to the Office of the State Auditor (OSA). Increased compliance reporting was one of the first actions taken. The City of Lino Lakes completed the 1996 reporting forms in May, 1997. City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis The OSA has several staff assigned to monitor submitted reporting forms and to perform a more detailed audit of various districts. Lino Lakes has not been selected for an audit of its tax increment transactions. LI The OSA pursued legislation to withhold increment from cities that fail to submit their TIF reporting forms. The legislation also extended the reporting deadling from July 1 to August 1, and allows withholding 25% percent of the December tax increment distribution for failure to comply. Cq We recommend that the City carefully comply with all tax increment laws including reporting requirements. Special Assessments Receivable Special assessments receivable consisted of the following amounts at December 31, 1996 and 1997: December 31, Increase 1996 1997 (Decrease) Delinquent $21,040 $6,689 ($14,351) Deferred 4,785,037 5,827,397 1,042,360 Due from County 2,926 4,077 1,151 Totals $4,809,003 $5,838,163 $1,029,160 Delinquent assessments receivable consist of amounts collectible in 1997 and prior years which the City has not yet received. Deferred assessments consist of amounts certified which will become collectible in future years. Page 11 City of Lino Lakes, Minnesota Management Report Combined Financial Statement Analysis w New Vapor A summary of assessment collections for the past four years is as follows: Delinquent balance - January 1 1994 1995 1996 1997 $43,036 $36,497 $37,341 $21,040 Add: Current installment 387,200 394,770 366,146 614,537 Amount collectible 430,236 431,267 403,487 635,577 Less: Current collections 355,543 353,424 355,609 608,744 Delinquent collections 32,743 26,051 26,831 20,332 Total collections 388,286 379,475 382,440 629,076 Adjustments (5,453) (14,451) (7) 188 Delinquent balance - December 31 $36,497 $37,341 $21,040 $6,689 Current collection rate 92% 90% 97% 99% Total collections as a percent of current levy 100% 96% 104% 102% As shown above, the City continues to experience an excellent collection rate. Page 12 i City of Lino Lakes, Minnesota Management Report General Fund GENERAL FUND The general fund of the City is maintained to account for the current operating and capital outlay expenditures common to all cities. These basic services include general government, public safety, public works and parks, recreation and forestry. State aids (including local government aid, HACA and other state aids) and local property taxes represent approximately 72% of revenue sources of the general fund for 1997 and 75% of budgeted revenue sources for 1998. A schedule of these revenue sources of the general fund is as follows: State Aids Property Taxes All Other Total Year Amount Percent Amount Percent Amount Percent Amount Percent 1990 $600,419 26.2% $994,399 43.3% $699,831 30.5% $2,294,649 100.0% 1991 452,364 18.7% 1,179,087 48.7% 790,083 32.6% 2,421,534 100.0% 1992 564,514 20.9% 1,206,998 44.6% 934,282 34.5% 2,705,794 100.0% 1993 628,790 19.8% 1,420,369 44.7% 1,128,503 35.5% 3,177,662 100.0% 1994 651,370 19.8% 1,597,542 48.5% 1,046,486 31.8% 3,295,398 100.0% 1995 674,079 17.9% 1,941,415 51.5% 1,156,841 30.7% 3,772,335 100.0% 1996 722,246 15.6% 2,327,048 50.3% 1,578,238 34.1% 4,627,532 100.0% 1997 752,646 15.8% 2,658,485 56.0% 1,338,843 28.2% 4,749,974 100.0% 1998* 751,710 15.4% 2,914,630 59.9% 1,199,760 24.7% 4,866,100 100.0% * Budgeted Page 13 City of Lino Lakes, Minnesota Management Report General Fund WNW NNW El All other revenue consists of the following as of December 31, 1996 and 1997: December 31, Increase 1996 1997 (Decrease) Licenses and permits $788,480 $566,561 ($221,919) Federal aid 58,047 94,813 36,766 County aid 36,501 34,000 (2,501) Charges for services 308,262 291,090 (17,172) Fines and forfeits 86,158 99,390 13,232 Interest on investments 86,615 108,212 21,597 Refunds and reimbursements 57,549 54,688 (2,861) Gas franchise fees 41,726 42,495 769 Cable TV 48,437 17,926 (30,511) Miscellaneous 66,463 29,668 (36,795) Total $1,578,238 $1,338,843 ($239,395) The decrease in licenses and permits is due to 1996 being a year of exceptionally high development. 1997 licenses and permits were consistent with the 1997 budget. The decrease in miscellaneous is primarily due to cable tv franchise fees decreasing approximately $30,000. City management indicated that this is the result of Coon Rapids dropping out of the cable agreement. Page 14 City of Lino Lakes, Minnesota Management Report General Fund State aids for the General Fund have consisted of the following amounts from 1992 through 1997 actual and 1998 budgeted: 1998 State Aids 1992 1993 1994 1995 1996 1997 Budgeted Local GovemmentAid $94,960 $90,138 $145,445 $149,372 $155,212 $150,167 $144,100 Local Performance Aid - 14,767 18,230 Homestead Credit 290,428 356,182 368,324 380,335 367,492 381,338 384,900 Equalization aid 45,547 42,854 - Police Aid 44,692 47,253 43,622 56,817 89,984 66,058 80,000 MSA - Streets 81,232 86,246 85,187 77,945 102,820 108,886 105,000 Other Aids 7,655 6,117 8 792 9,610 6,738 31,430 19,480 Totals $564,514 $628,790 $651,370 $674,079 $722,246 $752,646 $751,710 Percent change 24.79% 11.39% 3.59% 3.49% 7.15% 4.21% (0.12)% Lino Lakes state aids compared to statewide totals for all cities is as follows: $800,000 - $700,000 - $600,000 - $500,000 - $400,000 - $300,000 - $200,000 - $100,000 - $- 1993 1994 1995 1996 1997 1998 $800,000 State Aids Comparison (State totals in $1,000) $600,000 MEE City of Lino Lakes $400,000 -4- State Totals - All Cities $200,000 $- Page 15 City of Lino Lakes, Minnesota Management Report General Fund The previous graph indicates that 1) State aids to cities have been relatively flat since 1993; and 2) that the City of Lino Lakes gained on State averages in 1993 through 1997. If State aids do not keep pace with inflation and other service cost increases of growing cities, Minnesota cities will require careful analysis of service levels that they can fund. This is particularly the case in light of tax levy limits imposed by the 1997 State legislature. The LGA formula is quite complex. However, an analysis of the components of the formula provides an understanding. The following illustration identifies the components of the LGA formula: Ilmor ti roar City Base Aid 1993 LGA City Formula Aid Tax Increment Penalty LGA Price Index Change Since 1993 x City Revenue Need City Population City Tax Capacity x Average Tax Rate For all Cities City revenue need is equal to the sum of the following items: 3.462312 x Pre -1940 housing percentage + 2.093826 x Commercial industrial percentage + 6.862552 x Population decline percentage + 0.00026 x City population + 152.0141 = Subtotal x Price index change = City revenue need Page 16 City of Lino Lakes, Minnesota Management Report General Fund For 1998, the City's LGA is as follows: City base aid $140,181 City formula aid 19,908 Subtotal 160,089 Less reduction for State costs (212) Less reduction for TIF (15,782) 1998 LGA $144,095 Page 17 Immo tow City of Lino Lakes, Minnesota Management Report General Fund Revenue of the general fund for the past two years has been as follows: Property taxes Licenses and permits Intergovernmental revenue: Federal State County Charges for services Fines and forfeits Interest on investments Other Totals 1996 1997 Increase Amount Percent Amount Percent (Decrease) $2,327,048 50.3% $2,658,485 56.0% $331,437 788,480 17.0% 566,561 11.9% (221,919) 58,047 1.3% 94,813 2.0% 36,766 722,246 15.6% 752,646 15.8% 30,400 36,501 0.8% 34,000 0.7% (2,501) 308,262 6.7% 291,090 6.1% (17,172) 86,158 1.9% 99,390 2.1% 13,232 86,615 1.9% 108,212 2.3% 21,597 214,175 4.5% 144,777 3.1% (69,398) $4,627,532 100.0% $4,749,974 100.0% $122,442 Detail of the above revenue is presented in Statement 7 of the 1997 Annual Financial Report. General Fund 1997 Revenue By Source Fines and Forfeits 2.1% Charges for Services 6.1% Intergovernmental 18.5% Interest and All Other 5.4% Licenses and Permits 11.9% Property Taxes 56.0% Page 18 City of Lino Lakes, Minnesota Management Report General Fund Expenditures of the general fund for the past two years are as follows: 1996 1997 Increase Amount Percent Amount Percent (Decrease) Current: General government $1,233,867 31.1% $1,312,066 29.8% $78,199 Public safety 1,438,478 36.3% 1,661,090 37.8% 222,612 Public works 670,786 16.9% 727,019 16.5% 56,233 Parks, recreation and forestry 442,554 11.2% 498,166 11.3% 55,612 Capital outlay 181,053 4.5% 201,746 4.6% 20,693 Totals $3,966,738 100.0% $4,400,087 100.0% $433,349 Details of the above expenditures are presented in Statement 7 of the 1997 Annual Financial Report. Public Works 16.5% Parks, Recreation & Forestry 11.3% General Fund 1997 Expenditures By Category Capital Outlay 4.6% General Government 29.8% Public Safety 37.8% Page 19 r -. Oft IIIIMP City of Lino Lakes, Minnesota Management Report General Fund The fund balance of the general fund increased by $334,887 in 1997 as follows: Budgeted increase in fund balance $87,900 Actual revenues over (under) budgeted revenues: Property taxes $375 Licenses and permits 18,291 Intergovernmental revenue 36,479 Charges for services 2,140 Fines and forfeits 4,390 Interest on investment 48,212 Refunds and reimbursements 12,688 Miscellaneous 1,589 Net revenue over budget Actual expenditures under (over) budgeted expenditures: General government 66,004 Public safety 11,720 Public works 36,331 Parks, recreation and forestry 8,824 Capital outlay (56) Net expenditures under budget 124,164 122,823 Total increase in fund balance $334,887 Detail of the preceding budget variances are presented in Statement 7 of the 1997 Annual — Financial Report. 4 4 Page 20 City of Lino Lakes, Minnesota Management Report General Fund The City's December 31, 1997 fund balance totaled $3,057,912. The City's General Fund balance has been as follows for the past ten years: Fund Balance Reserved/ December 31, Designated Undesignated Total Increase 1988 $96,626 $747,836 $844,462 N/A 1989 53,290 976,763 1,030,053 $185,591 1990 1,169,624 - 1,169,624 139,571 1991 1,265,236 1,265,236 95,612 1992 1,406,296 1,406,296 141,060 1993 1,673,039 83,620 1,756,659 350,363 1994 1,870,934 - 1,870,934 114,275 1995 2,086,231 2,086,231 215,297 1996 2,723,025 2,723,025 636,794 1997 3,057,912 3,057,912 334,887 Intergovernmental Revenue Cutbacks Need For Reserve Balances Cash Flow Timing Difference Capital Outlay Replacement Emergency or Unanticipated Expenditures Special Projects Page 21 City of Lino Lakes, Minnesota Management Report General Fund O The 1990 increase in designated fund balance reflects the City's adoption of a reserve policy pursuant to resolution 91 -3. The reserve policy addresses three areas: 1) Cash flow requirements, 2) Contingent employee benefits, and 3) General contingencies. Cash Flow Reserve. As previously stated, property taxes and related state aids account for over 75% of budget 1998 revenue sources of the General Fund. This revenue is not received until July and December of each year (the second half of the year). As a result, the City is required to have sufficient reserves at the beginning of the year to fund operations of the first half of the year. The City's cash flow reserve requirement is computed as follows: 1998 Budgeted Levy $2,889,626 1998 Anticipated HACA 384,900 1998 Anticipated Local Government Aid 144,100 1998 Anticipated Local Performance Aid 18,230 Total $3,436,856 Cash -Flow Reserve (50% of total) $1,718,428 City of Lino Lakes, Minnesota Management Report General Fund The following graph of monthly General Fund cash balances illustrates the impact of receiving property taxes and State aids in the second half of the year. $3,000,000 $2,500,000 $2,000,000 $1,500,000 $1,000,000 $500,000 Monthly General Fund Cash Balances $0 I I I I I I I I I I I 1 o� o' o' o' a' ON ON ON a\ 9' o' a' A ti w Q ti ¢ Cn z As indicated above the General Fund's cash balance decreased approximately $1,300,000 between January and July. This graphic illustration emphasizes the importance of the City's cash flow reserve. General Contingency Reserve. The general contingency reserve is equal to 15% of the City's general fund expenditure budget for the ensuing year as follows: 1998 budgeted expenditures $4,866,100 Applicable percentage 15% General contingency reserve $729,915 Page 23 City of Lino Lakes, Minnesota Management Report General Fund Employee Benefits Reserve. The employee benefits reserve is computed based upon accrued, but unpaid, employee benefits as follows: Employee Benefit Amount Vacation leave $114,649 Severance 87,796 Total $202,445 A summary of these reserves is as follows: Reserve/Designation Amount Prepaid items $99,820 Cash flow 1,718,428 General contingency 729,915 Employee benefits 202,445 Finance computer equipment 73,750 Parks playground equipment 153,652 Road reconstruction 30,730 Personnel/contingency 49,172 Totals $3,057,912 © The City of Lino Lakes has improved the financial position of its General Fund over the past several years. We commend the City for these actions and encourage the City to continue to monitor this reserve balance. An adequate reserve structure will enable the City to retain its financial independence and integrity during adverse economic conditions. Page 24 City of Lino Lakes, Minnesota Management Report General Fund G The City Charter could pose an obstacle in the event the City ever needed to access these reserves. Charter sections 7.07 and 7.08 prevent making expenditures in excess of appropriations and also prevents amendments which increase appropriations unless revenues are also increased. Therefore, even though reserves are established, the Charter's budget restrictions could possibly prevent the City from expending them if the needed expenditures were unbudgeted. See comments on Page 63 regarding Charter issues. A summary of the purposes and benefits of general fund reserve balances is as follows: ` Favorable bond rating indicator Provides resources for minor projects or feasibility reports Benefits of Reserves Supplements revenues with investment income Provides the City greater options to deal with unexpected events Avoids temporary overdrafts prior to major receipts Avoids overburdening of annual budgets for certain capital outlay I Page 25 Y UMW City of Lino Lakes, Minnesota Management Report Special Revenue Funds SPECIAL REVENUE FUNDS The financial statements for the City's special revenue funds are presented in Statements 8 through 10 of the 1997 Annual Financial Report. Special revenue funds are a type of governmental fund to account for the proceeds of specific revenue sources (other than expendable trusts or for major capital projects) that are restricted to expenditures for specified purposes. The City maintained the following special revenue funds in 1996 and 1997: Fund Fund Balance December 31, Increase 1996 1997 (Decrease) Economic Development Authority $ - $ - $ - Community Development Block Grant 166 7,975 7,809 Program Recreation 22,312 30,148 7,836 Total $22,478 $38,123 $15,645 Economic Development Authority During 1990, the City adopted Resolution 33 -90 which authorized the City to establish an Economic Development Authority (EDA) pursuant to Minnesota Statutes sections 469.00 through 469.108. The EDA was established with specific powers and obligations to promote and to provide incentives for economic development within the City of Lino Lakes. The financial activity of the EDA has been reported in the City's Annual Financial Report in accordance with the Governmental Accounting Standard Board (GASB) Statement No. 14 the financial reporting entity. Page 26 City of Lino Lakes, Minnesota Management Report Special Revenue Funds Community Development Block Grant The Community Development Block Grant (CDBG) Fund was established in 1982 to account for the financial activity related to the projects to be funded by the CDBG program. The City entered into a subgrantee agreement with Anoka County to receive CDBG funds. The City of Lino Lakes is required to comply with the provisions of the grant agreement. The City established the compliance procedures that are required to be documented in City records. Proper documentation with the grant agreement has aided the City in receiving the monies applied for regarding the reimbursement of City expenditures. Program Recreation This fund was established in 1993 to account for direct costs of self - supporting recreation programs. A summary of 1997 financial activity is as follows: Revenue: Recreation fees $93,081 Interest 1,538 Total revenue 94,619 Expenditures: Personal services 42,960 Supplies 38,366 Other services and charges 1,129 Contractual services 1,209 Capital outlay 3,119 Total expenditures 86,783 Revenue over expenditures $7,836 Page 27 IMEND City of Lino Lakes, Minnesota Management Report Debt Service Funds DEBT SERVICE FUNDS The combining financial statements for the debt service funds are presented in Statements 11 and 12 of the 1997 Annual Financial Report. Debt service funds are a type of governmental fund to account for the accumulation of resources for the payment of interest and principal on debt (other than enterprise fund debt). Debt service funds may have one or a combination of revenue sources pledged to retire debt including property taxes, tax increments, special assessments and area and unit charges. The diverse nature of the type of debt included in the same fund type requires careful analysis to determine the adequacy of the fund balance and projected fund balance. The following schedule extracts information from several sections of the 1997 Annual Financial Report to assist in this analysis. The following schedule compares outstanding debt with assets pledged for debt retirement. This comparison provides a means to judge (on a preliminary basis) the financial position of each debt service fund. December 31, 1997 Scheduled Final Fund Deferred Outstanding Property Maturity Fund Description Balance Revenue Total Debt Taxes Date General Debt: 1996 Certificates of Indebtedness $5,533 $1,079 $6,612 $150,000 $157,138 12/31/99 1997 Certificates of Indebtedness - - - 225,000 265,124 12/31/00 Public Project Revenue Bonds of 1990A 205,753 1,149 206,902 1,040,000 1,569,250 2/1/10 Total general debt 211,286 2,228 213,514 1,415,000 1,991,512 Special Assessment Debt: Improvement Bonds of 1992A 11,065 77,801 88,866 2,770,000 2,789,127 2/1/06 Improvement Bonds of 1996A 787,161 1,814,248 2,601,409 4,685,000 - 2/1/07 Total special assessment debt 798,226 1,892,049 2,690,275 7,455,000 2,789,127 Total - All Debt Service Funds $1,009,512 $1,894,277 $2,903,789 $8,870,000 $4,780,639 City of Lino Lakes, Minnesota Management Report Debt Service Funds The following decision chart prompts questions to further evaluate a funds financial position: Condition A Fund balance plus deferred revenue meets or exceeds bonds payable. Cautions 4. Is the City experiencing favorable collection rates for special assess- ments? 2. Are anticipated investment interest rates earned on prepayments ade- quate to replace assessment interest? 3. Is the timing of receipts sufficient to meet bonded debt payments as they become due? 4. Are significant portions of assess- ments not scheduled for collection (green acres, tax forfeit, etc.)? 5. Is arbitrage or negative arbitrage an issue? The debt service fund is clearly adequately funded. Plan for eventual use of surplus. Conclusion 1 Condition B Fund balance plus deferred revenue is less than bonds payable. Questions 1. Are sufficient future assets scheduled (such as property taxes) to meet bonded debt payments? 2. Are cash assets sufficient to generate investment earnings? 3. Are transfers or other funding sources available? 4. Are there future assets to pledge such as assessments, MSA allot- ments, etc.? The debt service fund is clearly not adequately funded. Plan for altern- ative funding (taxes, transfers, other sources). Conclusion 2 Variables and possible outcomes are too diverse. Prepare projections to analyze possible scenarios and options. Conclusion 3 <g> We recommend that all Debt Service Funds of the City be reviewed at least annually by applying the above criteria. Page 29 IMP Vow Vmmo WENN City of Lino Lakes, Minnesota Management Report Debt Service Funds 1990A Public Project Revenue Bonds These bonds were issued by the City's Economic Development Authority for the construction of a fire station and the purchase of related equipment. These bonds are obligations of the EDA and will be payable solely from revenues received from the City pursuant to an Installment Purchase Contract. The City will levy taxes for payment of the installment contract. Improvement Bonds of 1992A The City issued these bonds to retire the 1989 Temporary Improvement Bonds and provide additional financing for projects originally financed by the 1989 Bonds. Improvement Bonds of 1996A The City issued these bonds to provide financing for the following projects: • 4th Avenue trunk utilities • Cedar Street lift station • Trapper's Crossing improvements • Marshan condominiums • Centennial School • Pheasant Hills 7th Addition This bond issue will be retired by a combination of special assessments and area and unit charges. The City adopted assessments for the Trapper's Crossing and Marshan Lake condominium projects in 1996. Assessments for the Centennial School and Pheasant Hills 7th addition projects were adopted in 1997. The 4th Avenue trunk utility and Cedar Street lift station projects will be repaid exclusively through area and unit charges. Page 30 City of Lino Lakes, Minnesota Management Report Capital Project Funds CAPITAL PROJECT FUNDS The financial statements for the capital project funds are presented in Statements 13 and 14 of the 1997 Annual Financial Report. The fund balances (deficits) of the Capital Project Funds at December 31, 1996 and 1997 are as follows. Fund Capital Improvement Projects Closed Bond Fund Dedicated Park Area and Unit Charge Surface Water Management Interim construction MSA construction Sealcoating Street reconstruction SAC revolving 1994 construction 1995 construction 1996 construction 1997 construction 1998 construction Apollo Business Park Apollo Drive construction Town Center Project Civic Center Project Town Center Infrastructure Tax Increment #1-1 Tax Increment #1 -2 Tax Increment #1-4 Tax Increment #1-5 Tax Increment #1-6 Tax Increment #1-7 Tax Increment #1 -8 Tax Increment #3 -1 Totals Fund Balance (Deficit) December 31, Increase 1996 1997 (Decrease) $37,276 ($22,358) ($59,634) 912,241 1,098,099 185,858 280,067 309,982 29,915 5,580,993 6,515,713 934,720 735,432 1,076,237 340,805 16,223 17,370 1,147 54,798 (24,618) (79,416) 272,725 277,203 4,478 20,435 68,643 48,208 524,555 551,956 27,401 (17,760) (66,298) (48,538) 10,674 8,738 (1,936) 1,882,897 638,519 (1,244,378) (122,853) (321,817) (198,964) (103,010) (103,010) 191,557 480,258 288,701 117,150 337,336 220,186 (36,536) 394,793 431,329 (143,878) (143,878) 630,330 630,330 347,899 (347,899) 150,269 (150,269) (4,460) 40,992 45,452 (1,771) 850 2,621 (27,578) (34,203) (6,625) (179,910) (436,760) (256,850) (3,799) (3,799) (3,991) (357,006) (353,015) $10,740,332 $10,933,272 $192,940 Page 31 City of Lino Lakes, Minnesota Management Report Capital Project Funds Closed Bond Fund During 1996 the City reclassified the Closed Bond Fund from a Debt Service Fund to a Capital Project Fund type. The Closed Bond Fund accounts for excess funds from matured bond issues. Dedicated Parks This fund was established to account for dedicated park fees. The City uses the Dedicated Parks Fund to collect ordinance restricted fees and donations from various groups. This fund collected $42,560 and $71,081 of park dedication fees in 1996 and 1997, respectively. The fund balance of $309,982 at December 31, 1997 is available for expenditures by the City to fund capital outlay and maintenance of dedicated park lands. Capital Improvement Projects Fund This fund accounts for the proceeds of Equipment Certificates and, beginning in 1997, antenna rentals. The following schedule summarizes the activity of this fund through December 31, 1997: Prior Years 1997 Total Revenue and other sources: Proceeds from equipment certificates $1,797,822 $225,000 $2,022,822 Interest earnings 86,481 8,410 94,891 Property taxes 14,560 - 14,560 Intergovernmental 4,944 44,720 49,664 Antenna rentals - 55,250 55,250 Donations 18,686 - 18,686 Miscellaneous 1,840 8,000 9,840 Transfer from General Fund 24,000 - 24,000 Transfer from Agency fund 20,156 20,156 Transfer from Debt Service fund 2,390 2,390 Total $1,970,879 $341,380 2,312,259 Expenditures: Current, capital outlay and construction $1,933,603 $401,014 2,334,617 Fund balance (deficit) - December 31, 1997 ($22,358) Page 32 City of Lino Lakes, Minnesota Management Report Capital Project Funds Detail of the 1997 expenditures is as follows: Budget Actual Variance Audit costs $ - $1,361 ($1,361) Cable TV purchase 24,000 (24,000) Fire miscellaneous 64,400 64,400 Laptops (police) - 44,720 (44,720) 4 x 4 truck (engineering) 20,000 20,700 (700) Fuel tank replacement - 9,290 (9,290) Heated storage garage 103,800 194,668 (90,868) Computers 6,750 8,322 (1,572) 1 ton pickup (streets) 30,050 33,553 (3,503) Total expenditures $225,000 $401,014 ($176,014) The police laptops were financed with a federal grant. The storage garage variance is being financed with antenna rentals. Area and Unit Charge Fund a On January 11, 1988 the City Council approved Resolution 1 -88 which established the Area and Unit Charge Fund for the City. The purpose of this fund is to collect various area and unit charges to be used to meet debt payments. Before October 1 of each year, the City estimates the required transfer needed to meet debt payments for the subsequent year. In December, these estimated amounts are transferred to the various debt funds. We recommend the City continue to monitor actual versus projected area and unit assessment collections to assure that debt payment requirements will be met. A schedule of transactions of the Area and Unit Charge Fund from inception is as follows: Page 33 City of Lino Lakes, Minnesota .. Management Report Isms Imir ■ Wow low Capital Project Funds Prior Years 1997 Total Revenue and other sources: Area and unit charges $7,697,791 $1,336,241 $9,034,032 Interest on investments 1,066,333 324,581 1,390,914 MSA 241,855 (7,177) 234,678 Bond proceeds 910,938 910,938 Utility charges 239,142 213,642 452,784 Miscellaneous - 625 625 Transfer from Tax Increment #1 -1 1,097,491 1,097,491 Transfer from Tax Increment #1-2 512,196 512,196 Transfer from 1989 construction 29,842 29,842 Transfer from Water Fund 724,489 724,489 Total $12,520,077 $1,867,912 14,387,989 Expenditures and other uses: Professional services $167,504 $8,448 175,952 Contractual services 456,481 37,573 494,054 Construction: Miscellaneous 13,885 21,738 35,623 Ware Road Utility Improvements 121,751 - 121,751 Well #3 99,613 99,613 Well #4 438,266 16,754 455,020 Blackduck lift station 34,294 - 34,294 Fourth Avenue trunk utilities 410,899 7,872 418,771 Cedar Street lift station 204,274 87,209 291,483 35W/TH49 trunk utilities 20,070 361,913 381,983 35E main/trunk 1,764 - 1,764 Lilac Street utilities - 17,083 17,083 Laurene Avenue lift station 24,141 24,141 Centennial School - reimburse escrow fund 93,461 93,461 Transfer to Interim Construction 73,183 73,183 Transfer to 1991 Construction 388,965 388,965 Debt Service: Transfer to Temp Bonds of 1990B 665,232 665,232 Transfer to Temp Bonds of 1991A 1,698,510 1,698,510 Transfer to Temp Bonds of 1994A 1,858,933 1,858,933 Transfer to Water Fund (1992B Bonds) 285,460 285,460 Transfer to Improvement Bonds of 1992A - 257,000 257,000 Total $6,939,084 $933,192 7,872,276 Fund balance - December 31, 1997 $6,515,713 Page 34 City of Lino Lakes, Minnesota Management Report Capital Project Funds The transfers from the tax increment funds represent partial reimbursement for cost of the West Central Trunk sewer main which serves Rice Lake Estates (TIF 1 -1) and Sunrise Meadows (TIF 1 -2). Designations of balances required for debt service is necessary to define discretionary construction balances available to the City. The financing plan for the following bond issues have pledged area and unit charges for the repayment of debt service: Improvement Bonds of 1992A Improvement Bonds of 1996A Water Revenue Bonds of 1992B Water Revenue Bonds of 1996B The Improvement Bonds of 1992A have future scheduled property tax levies totaling $2,510,930. However, the City charter prohibits the City from making a levy on this bond issue. The City has used area and unit charges in lieu of tax levy to repay these bonds. The Water Revenue Bonds of 1992B have future debt service requirements totaling $1,265,741 (principal and interest). The City annually transfers amounts from the Area and Unit Charge Fund to the Water Fund sufficient to cover the debt services of The Bonds of 1992B. During 1997 revenues were sufficient in the Water Fund to cover the debt service requirements and a transfer was not required. It is the City's intention to repay the Water Revenue Bonds of 1992B and 1996B with revenues of the Water Fund. If revenues are not sufficient to meet the debt requirements funds will be transferred from the Area and Unit Charge Fund. Page 35 MIME City of Lino Lakes, Minnesota Management Report Capital Project Funds The assessment portion which relates directly to current construction costs (lateral assessment charges) is pledged directly to the related debt service fund to retire outstanding bonds. The area and unit charge portion of the assessment roll, however, is governed by the City's policy which was established by Resolution #1 -88. Such area and unit charges are contingently pledged to the related debt service fund in accordance with this policy. These amounts are to be segregated to the Area and Unit Charge Fund and such amounts are transferred on an as needed basis to the related debt service fund. Any surplus accruing above the amount required to retire bonds will be available for expansion of the core water and sewer systems of the City. The 1996 bond proceeds are related to the 4th Avenue trunk utilities and the Cedar Street lift station projects. The MSA revenue is related to the TH49 and Lake Drive project which was financed by the Temporary Bonds of 1994. During 1996, the City implemented a new utility billing system which allows the area and unit charge to be recorded directly to the Area and Unit Fund. Prior to 1996, the charge was recorded in the Water Fund and transferred to the Area and Unit Fund. During 1989 the City amended its procedure relative to adoption of assessment rolls. The amended procedure requires that the City split assessment rolls between the Area and Unit Charge Fund and the related Debt Service Fund. Page 36 City of Lino Lakes, Minnesota Management Report Capital Project Funds Contract Management The City of Lino Lakes collected connection charges from an area of the City which used the infrastructure of a bordering City. A 1987 agreement (and two subsequent amendments) required payment of specified charges to the bordering City. The City of Lino Lakes neglected to make the payments as required and the border City was apparently unaware of their contractual rights. On May 1, 1998, the Cities began negotiating a settlement of past charges due. The 1997 financial statements reflect a net liability of $390,683 based on the amounts negotiated as follows: Area and Sewer Unit Charge Utility Fund (406) Fund (602) Total Area and unit charges $297,790 $ - $297,790 Sewer usage charges (107,691) (107,691) Lost interest/penalty 200,584 200,584 Totals $498,374 ($107,691) $390,683 The adjustment to the Sewer Utility Fund was the result of determining that a number of accounts were no longer using the sewer infrastructure of the neighboring City. The net amount due of $390,683 was paid in May, 1998. The obligation to pay connection charges was defined in the 1987 "Sanitary Sewer and Watennain Extensions and Service Agreement, Shoreview - Lino Lakes Baldwin Lake Area" (the Agreement) and two subsequent amendments to the Agreement. A summary of key provisions of the Agreement is as follows: 1) Area of service defined as County Road J between Highway 49 and the western border of Lino Lakes (II). Page 37 City of Lino Lakes, Minnesota Management Report Capital Project Funds 2) Sanitary sewer and water services to be provided by Shoreview to single family residential dwelling (II). 3) Lino Lakes responsible for constructing facilities in the area in accordance with plans and specifications which have been approved by the Shoreview engineer (IIIA). 4) All direct or indirect connections must be approved by the Shoreview engineer (IIIA5). 5) Prior to connection, connection charges, as computed by the Shoreview engineer, shall be paid to Shoreview, including area charges and front footage charges (IIIB) 6) Lino Lakes is responsible for installing and reading meters to accommodate Shoreview's billing for user charges (IIIC). 7) Violation of terms entitled Shoreview to $75 per day damages (IIIF). 8) Amendment No. 1 dated May 4, 1987 eliminated the sewer front foot charge for a specified area in which Lino Lakes was to construct sewer services. 9) Amendment No. 2 dated June 19, 1989, reduced certain charges based on a sunset provision whereby it was anticipated that Lino Lakes would construct watermain facilities within three years to provide water to the defined area. Although user charges have been paid from the inception of the Agreement, connection charge payments had not been made. Since April 24, 1997 our office has expanded audit and other procedures with the following objectives: 1. To obtain additional audit evidential support to conclude that the 1997 financial statements are free of material misstatements, and 2. To gain an understanding of the events which resulted in contractual non - compliance in order to communicate our results to the City Council and to advise the City regarding improved controls. City of Lino Lakes, Minnesota Management Report Capital Project Funds th regard to the first item, we have expanded audit procedures to allow for the issuance of an unqualified opinion on the 1997 financial statements of the City. Expanded procedures included the following: • Analysis of the 1987 Sanitary Sewer and Water Main Extension and Service Agreement and amendments thereto • Meetings with City representatives regarding calculating and recording of liability relative to the Agreement contract • Expanded confirmation procedures • Financial statement modifications The earliest years of the agreement reflected relatively minimal activity. In the first three years in which the agreement was in effect, a total of $18,927 of connection charge liability accrued. A summary of connection charges due the neighboring city from the inception of the agreement is as follows: Connection Charges Annual Cumulative 12/31/87 $6,204 $6,204 12/31/88 - 6,204 12/31/89 12,723 18,927 12/31/90 26,890 45,817 12/31/91 44,242 90,059 12/31/92 26,785 116,844 12/31/93 36,569 153,413 12/31/94 37,438 190,851 12/31/95 50,280 241,131 12/31/96 33,767 274,898 12/31/97 18,482 293,380 5/1/98 4,410 297,790 With respect to the events which resulted in contract noncompliance, the City's internal control failed regarding follow -up procedures to comply with an identified contractual noncompliance issue. Page 39 City of Lino Lakes, Minnesota Management Report Capital Project Funds As the connection charge liability reached significant levels, internal City correspondence indicates that the City's internal control system identified the need to comply with the terms of the agreement. Identification of contract compliance issues is an important first step in an effective contract compliance control structure. The second step after identification is to follow through with required compliance. The City's internal control failed this important second step. In the minutes of a project management meeting on January 20, 1993, as provided to our office, the connection charge liability was discussed as follows: III. C. Sewer/water payments - Shoreview - It was determined that payments would be submitted upon receipt of proper billing. The above position did not acknowledge that payment was a prerequisite to connection to the Shoreview system. The compliance sequence as outlined in the agreement was as follows: Proposed connections subject to Shoreview Engineer calculation of charges Payment of obligation to Shoreview Connection to system The above illustration is based on the defined terms of the agreement as follows: "Prior to the connection of the buildings to the Shoreview watermain [sanitary sewer facilities] or to extensions of such watermain the total of the following connection charges, as computed by the Shoreview engineer, shall be paid to Shoreview by Lino Lakes:" The above terms clearly prohibit connection to the system prior to payment of connection charges. The City's position to wait for "receipt of proper billing" before making payment to the City of Shoreview should have been more closely analyzed. The agreement apparently anticipated the importance of Lino Lakes voluntary compliance with the terms of the agreement. The remedies section (F) of the agreement defined damages of $75 per day "If Lino Lakes violates any of the terms of this agreement." Page 40 City of Lino Lakes, Minnesota Management Report Capital Project Funds In addition to identifying the contract noncompliance and following through to achieve compliance, it is the City's responsibility to report liabilities in the City's financial statements. Audit procedures include a requirement that the auditor obtain from responsible City officials representations that, to the best of their knowledge, the financial statements are presented fairly. The representations are included in a letter each year upon conclusion of the annual financial audit. Our firm received written representation from responsible City officials at the conclusion of each annual audit. Included in those representations were the following: "There are no material liabilities or gain or loss contingencies that are required to be accrued or disclosed..." and "There are no material transactions that have not been properly recorded in the accounting records or related data underlying the financial statements" and "The City has complied with all aspects of contractual agreements that would have a material effect on the financial statements in the event of noncompliance." Internal correspondence indicates that City officials who signed the letters of representation at some point over the past ten years had knowledge of noncompliance with the Agreement and that a liability existed. The effects of the misrepresentations include an understatement of liabilities or lack of disclosure thereof. Additionally, the misrepresentation precluded the inclusion of a management comment regarding the contractual obligation to comply with the terms of the Agreement. Page 41 City of Lino Lakes, Minnesota Management Report Capital Project Funds To the City of Lino Lakes credit, swift action has been taken since the notification to our office on April 23, 1998 of the contract noncompliance including the following: • Negotiation of a settlement with the City of Shoreview. • Correction of accounting records and 1997 financial statements to reflect the liability _ and disclose the nature of the prior period adjustments. • Authorization of extended audit procedures in light of the internal control failure with respect to this agreement. • The hiring of an attorney to conduct an independent analysis of the cause of the system failure and to recommend improvements. Our firm works extensively with cities. The challenges facing cities with respect to designing adequate controls is complicated by: ✓ The diverse business activities carried out. Most private companies have one or two core business activities (ex: manufacture tools or sell and service products). This contrasts with cities which have extremely diverse business activities (ex: recreation, fire protection, street maintenance, land development, water and sewer enterprises, etc.). ✓ Each of the diverse business activities has distinct compliance regulations, contractual rights and obligations and often unique accounting and other control requirements. ✓ The diversity of business activities requires de- centralized "specialists" within the City to operate each activity with some degree of autonomy while still coordinating with central control functions such as finance and administration. Page 42 City of Lino Lakes, Minnesota Management Report Capital Project Funds Although the environment poses obstacles to establishing efficient controls, understanding those obstacles improves the likelihood of creating a reliable control environment. Additionally, in many, if not most, circumstances there are built -in mechanisms designed to detect errors or irregularities on a timely basis. Examples of this concept are as follows: Potential Error or Irregularity Systems to Detect Failure to adopt an assessment roll Projected cash position of bonded debt fund would likely reflect a shortage. This would prompt a comparison of the anticipated amounts with actual. Failure to collect a connection charge Permit process requires collection of required, pre- defined fees, prior to issuance of the building permit. Vendor submits invoice twice for payment Department head approval process, accounting system double payment detection procedures and possibly budget variance analysis. Failure to process scheduled bonded debt payment Either a notification from the paying agent or a year end confirmation difference q We recommend that the City of Lino Lakes consider adopting improved contract management controls as follows: ✓ Assign a responsible position in each impacted department to monitor compliance with contract provisions. In this case, public works position would be responsible for the engineering aspects of the agreement. A finance department position would be responsible for payments due. ✓ Anticipate interdepartmental coordination needed for efficient control procedures. In this circumstance, finance would require notification from public works that connections were forthcoming and that specific dollar amounts would be billed to Lino Lakes from the neighboring City. This coordination may occur throughout the year if connection transactions are occurring or alternatively, would require periodic scheduled coordination efforts, such as at year -end in conjunction with the year -end closing process. Page 43 City of Lino Lakes, Minnesota Management Report Capital Project Funds ✓ Classify contracts as follows: • Routine, short-term contracts • Long -term contracts, particularly those with delayed rights or obligations _ ✓ Include staff turnover procedures to improve communication of long -term contract responsibilities. ✓ Establish a central repository for all long -term contracts. Include a cover sheet which WeNN summarizes key provisions and staff position responsibilities for compliance. Maintain summaries in a database (Access, Word or Excel) to allow for on -line look -up by date, key word or staff responsibility. ✓ Expand year -end confirmation procedures to verify the contractual obligations and rights with border communities and if applicable, other local units of government. b The above controls may have prevented the nondisclosure of noncompliance with the Agreement. It is important to understand, however, that if there is collusion to hide information the effectiveness of any internal control procedure will be compromised. There are additional procedures discussed later in this report relative to fraud prevention. We recommend that the City also consider adopting the recommendations in that section. b Beyond internal control and contract compliance systems, there is also an issue of business ethics. There is a place for firm negotiations between cities and there will most likely always be border disputes over a variety of issues. Once an agreement is reached, however, both parties have an obligation to comply with the terms defined in the agreement. An apparent oversight by a neighboring city regarding their contractual rights should not be viewed as an open invitation to take advantage of the circumstances. This is especially the case when taking such advantage requires repeated instances of violations of the terms of the agreement. Adopting a code of conduct policy may help define the City of Lino Lakes' position regarding business ethics which impacts the City's reputation in the business community. We understand that the City is currently in the process of developing such a policy. We concur with this action. MSA Construction The MSA Construction Fund was established in 1990 to account for the collection of assessments on MSA projects in accordance with the City's Public Improvement Financing Policy. This fund had a deficit of $24,618 at December 31, 1997. Page 44 City of Lino Lakes, Minnesota Management Report Capital Project Funds Surface Water Management Fund This fund was established in 1989 to account for the financing of surface water management planning and storm sewer trunk lines. During 1990, the City levied its first assessments for surface water management charges. The cost of the plan will be financed by developer charges. The City is in the process of implementing items identified by the Surface Water Management Plan. Interim Construction The Interim Construction Fund was established in 1985 to account for the preliminary construction costs prior to permanent bonding or other financing determination. The fund balance of this fund was $17,370 at December 31, 1997. Sealcoating This fund was established in 1991 to account for money received from private developers for future sealcoating in new housing developments. A summary of transactions of this fund is as follows: Prior Years 1997 Total Revenue and other sources: Special assessments $391,238 $59,222 $450,460 Interest earnings 33,664 14,837 48,501 Refunds and reimbursements 98,296 116,903 215,199 Intergovernmental - 16,000 16,000 Total $523,198 $206,962 730,160 Expenditures $250,473 $202,484 452,957 Fund balance - December 31, 1997 $277,203 Page 45 City of Lino Lakes, Minnesota Management Report Capital Project Funds SAC Revolving The SAC Revolving Fund was established in 1990 to account for a refund from the MCES (formerly MWCC) of past SAC charges which were paid by residents that had not hooked up to the sewer system. A summary of financial activity of this fund is as follows: Prior Years 1997 Total Revenue SAC refund $365,175 $ - $365,175 Interest earning 159,380 27,401 186,781 Total revenue $524,555 $27,401 551,956 Expenditures $ - $ - Fund Balance - December 31, 1997 $551,956 The City is allowing the current homeowners to request a refund with 4% interest. If refunds and claims are not submitted, the City will pay the full SAC charge from this fund at the time of hook -up. This policy may require a supplemental future revenue source if such future charges exceed available balances. Vow Street Reconstruction This fund was established in 1996 to account for revenue received from developers for future street reconstruction. This fund had a fund balance of $68,643 at December 31, 1997. City of Lino Lakes, Minnesota Management Report Capital Project Funds 1994 Construction This fund was established to account for the various projects financed by the Temporary Improvement Bonds of 1994A. A summary of the financial activity of this fund since inception is as follows: Budget Actual Variance Financing sources: Bond proceeds - net $2,054,350 $1,903,614 ($150,736) MN DOT Reimbursement 713,989 613,806 (100,183) Anoka County 583,917 658,323 74,406 Circle Pines - 1,628 1,628 Interest earnings 34,944 34,944 Other 9,357 9,357 Total sources $3,352,256 3,221,672 ($130,584) Financing uses: Construction costs: Country Lake Estates $636,750 918,192 $281,442 Highway 49 and Lake Drive 1,988,400 2,072,555 84,155 Hodgson Road watermain 200,200 297,223 97,023 Total uses $2,825,350 3,287,970 $462,620 Fund balance (deficit) - December 31, 1997 ($66,298) .44> The remaining MN DOT reimbursement was coded to the Area and Unit Charge Fund since the Temporary Improvement Bonds of 1994A were called early using Area and Unit Funds. We recommend the City determine a funding source for the fund deficit and close this fund once the projects are completed. 1995 Construction This fund was established to account for the construction costs related to the Woods of Baldwin Lake II. The project costs totaled $141,274 through December 31, 1997. The construction costs were financed by the City (i.e., no bonding). This project was assessed in 1995 in the amount of $146,304. Page 47 low Vow MO City of Lino Lakes, Minnesota Management Report Capital Project Funds 1996 Construction This fund was established to account for projects financed by the Improvement Bonds of 1996A. A summary of the financial activity of this fund since inception is as follows: Bond Construction Proceeds Costs Variance Trapper's Crossings $954,581 $898,030 $56,551 Marshan condominiums 753,617 671,077 82,540 Centennial School 1,607,716 1,351,049 256,667 Pheasant Hills 7th addition 401,929 228,485 173,444 12th Avenue and Holly Drive - 2,201 (2,201) Total $3,717,843 $3,150,842 567,001 Interest earnings 71,518 Fund balance - December 31, 1997 $638,519 The Trapper's Crossing and Marshan condominium projects were assessed during 1996. Centennial School and Pheasant Hills 7th Addition were assessed in 1997. 1997 Construction This fund was established to account for projects to be financed by the 1997 Bonds. During 1996, preliminary costs were incurred on the Otter Lake Road realignment, Otter Lake Service Road, and Trapper's Crossing II projects. The projects will be bonded in 1997. Apollo Business Park This fund was established in 1992 to account for construction costs in developing the City's industrial park. This fund had a fund balance of $480,258 at December 31, 1997. Apollo Drive Construction This fund was established in 1992 to account for improvements to Apollo Drive. The fund balance of this fund was $337,336 at December 31, 1997. City of Lino Lakes, Minnesota Management Report Capital Project Funds Town Center Project This fund was established in 1996 to account for costs associated with the construction of the City Town Center project. This fund had a fund balance of $394,793 at December 31, 1997. This fund acquired land for the project and to resell for economic development. This land held for resale totaled $989,506 at December 31, 1997. Town Center Infrastructure The City approved a transfer of residual tax increment fund amounts from TIF #1 -1 and #1- 2 pursuant to Resolutions 97 -140 and 141 (as amended). The actual transfers are presented in a related Capital Project Fund - Town Center Infrastructure. Q > TIF Districts #1 -1 and #1 -2 were decertified effective the same date of the transfer (December 31, 1997). We recommend that the transfer of proceeds be researched to verify that the intended use satisfies all existing tax increment laws and that procedures are in place to assure continued compliance regarding: 1) Expenditure of tax increments after decertification of the Districts. 2) Use of tax increments for acquisition of a building to be used regularly for conducting the business of a municipality. 3) Authorized use consistent with original budget and amendments thereto. 4) Other applicable statutes. Civic Center Project This fund had a deficit of $143,878 at December 31, 1997. The deficit is anticipated to be funded through the proceeds of the 1998 Lease Revenue Bonds issued by the City's EDA. Page 49 City of Lino Lakes, Minnesota Management Report Capital Project Funds Tax Increment Financing #1-1 On January 26, 1987 the City established the Economic Development District #1. Within the District, the City established Housing District #1-1. The housing plan calls for adequate numbers of low to moderate housing units pursuant to MS 273.73 subd. 11. Financial activity of this fund from inception is as follows: Prior Years 1997 Total Revenue and other sources: Tax increments $1,479,596 $242,345 $1,721,941 HACA 8,683 8,683 Interest on investments 220,066 5,039 225,105 Total revenue and other sources $1,708,345 $247,384 1,955,729 Expenditures and other uses: Transfer to TIF 1-3 $9,484 $ - 9,484 Transfer to TIF 1-4 22,122 22,122 Administrative fee 41,093 41,093 Developer assistance 170,350 170,350 Professional services 16,795 2,087 18,882 Transfer to Area and Unit Fund 1,097,491 - 1,097,491 Transfer to Special Revenue Fund 3,111 3,111 Total expenditures and other uses $1,360,446 $2,087 1,362,533 Residual equity transfer - Town Center Infrastrucutre (593,196) Fund balance - December 31, 1997 $0 The developer assistance consisted of payments to developers for pending improvements. The transfer to the Area and Unit Charge Fund represents a partial reimbursement for the West Central Trunk sewer main related to Rice Lake Estates. This District was decertified in 1997. The remaining funds were transferred to the Town Center Infrastructure Fund. Page 50 City of Lino Lakes, Minnesota Management Report Capital Project Funds Tax Increment Financing #1 -2 The City established Tax Increment Financing District #1 -2. This district qualifies as a Economic Development TIF district pursuant to Minnesota Statutes 469.174, subdivision 12. Financial activity of this fund from inception is as follows: Prior Years 1997 Total Revenue and other sources: Tax increments $675,454 $122,111 $797,565 Interest on investments 59,424 2,178 61,602 Total revenue and other sources 734,878 124,289 859,167 Expenditures and other uses: Administrative $59,017 59,017 Professional services 802 1,584 2,386 Capital outlay 39,202 39,202 Transfer to Area and Unit Charge Fund 512,196 - 512,196 Transfers to other funds 12,594 12,594 Total expenditures and other uses $584,609 $40,786 625,395 Residual equity transfer - Town Center Infrastrucutre (233,772) Fund balance - December 31, 1997 $ - Included in administrative expenses is an administrative fee of $18,500. The transfer to the Area and Unit Charge Fund represents a reimbursement for costs of the West Central Trunk sewer main related to Sunrise Meadows. This District was decertified in 1997. The remaining funds were transferred to the Town Center Infrastructure Fund. Tax Increment Financing #1-4 The City established Tax Increment District #1 -4 during 1990 by resolution 10 -90. District #1 -4 is an Economic Development District. The duration of the district is eight years from the date of the receipt of the first increment or ten years from the date of approval of the TIF plan. At December 31, 1997 this fund had a deficit balance of $40,992. Page 51 City of Lino Lakes, Minnesota Management Report Capital Project Funds Tax Increment Financing #1 -5 The City established Tax Increment District #1 -5 pursuant to MS 469.174 Subdivision 11 which qualifies it as a Housing District. The duration of the District is twenty-five years from the date of the first increment. The plan for District #1 -5 was approved and adopted on December 14, 1992. Tax Increment Financing #1 -6 District #1 -6 is an Economic Development district and was established in August, 1994. The duration of the district is 10 years. Tax Increment Financing #1 -7 District #1 -7 is an Economic Development district and was established in May, 1995. A •- schedule of budgeted and actual transactions for this district is as follows: Amended Budget Actual Revenue: Tax increments $1,511,700 $56,008 Refunds - 15,900 Total revenue $1,511,700 71,908 Expenditures: Land acquisition $964,300 204,758 Public improvements 465,400 181,475 Administrative 82,000 122,435 Total expenditures $1,511,700 508,668 Fund balance (deficit) - December 31, 1997 ($436,760) Tax Increment Financing #1 -8 District #1 -8 is an Economic Development district established in September, 1997. The duration of the district is 25 years. City of Lino Lakes, Minnesota Management Report Capital Project Funds Tax Increment Financing #3 -1 District #3 -1 is an Economic Development district and was established in June, 1995. The duration of the district is 11 years. This district includes the Clearwater Creek Development Center. A summary of budgeted financial activity from inception for this district is as follows: Amended Budget Actual Revenue: Tax increments $1,750,000 $5,942 Administrative charge - 10,500 Total revenue $1,750,000 16,442 Expenditures: Land acquisition $1,067,700 40,000 Public improvements 557,300 238,868 Administrative 125,000 94,580 Total expenditures $1,750,000 373,448 Fund balance (deficit) - December 31, 1997 ($357,006) Page 53 vow viwir City of Lino Lakes, Minnesota Management Report Enterprise (Utility) Fund ENTERPRISE (UTILITY) FUND The City maintains three enterprise operating funds. The financial statements for these funds are presented in Statements 15 through 17 of the 1997 Annual Financial Report. Statements of income and expense for 1997 (excluding depreciation on contributed assets) for the water and sewer utility fund are shown in the following schedule: Water 1996 1997 Sewer 1996 1997 Operating revenue: Charges for services $377,764 $430,938 $508,407 $585,149 Other 53,233 55,449 42,057 43,387 Total operating revenue 430,997 486,387 550,464 628,536 Operating expenses: Personal services 73,337 75,257 71,844 79,130 Materials and supplies 40,019 90,795 2,267 7,626 Contractual services 47,619 28,423 17,828 45,621 Repair and maintenance 6,351 24,813 2,225 17,918 MCES sewer charges - 260,421 297,202 Depreciation 25,618 26,527 3,932 5,241 Other 43,452 52,287 44,071 46,722 Total operating expenses 236,396 298,102 402,588 499,460 Income from operations 194,601 188,285 147,876 129,076 Other income (expense): Interest on investments 35,313 35,387 11,480 18,437 Maintenance agreement - MCES - - - Area and unit charges - Bond interest and paying agent fees (170,881) (229,900) - Special assessments - 329,399 6 Total other income (135,568) 134,886 11,480 18,443 Net increase in retained earnings 59,033 323,171 159,356 147,519 Retained earnings - January 1 455,351 514,384 363,024 522,380 Retained earnings - December 31 $514,384 $837,555 $522,380 $669,899 Page 54 City of Lino Lakes, Minnesota Management Report Enterprise (Utility) Fund As shown on the previous page, both the water and sewer funds experienced net increases in retained earnings for 1996 and 1997. Also as shown above, the single largest expense of the sewer fund is MCES sewer charges. The MCES bills the City annually on an estimated basis. These billings are adjusted at a later date and the City is billed the additional amount or given a refund. The MCES billings for calendar years 1988 through 1997 have been as follows: Billings from MCES Estimated Final Percent Percent Year Amount Change Amount Change 1988 $41,351 $40,197 1989 52,098 25.99% 48,521 20.71% 1990 67,232 29.05% 70,243 44.77% 1991 78,048 16.09% 96,542 37.44% 1992 104,090 33.37% 131,251 35.95% 1993 141,730 36.16% 167,079 27.30% 1994 198,918 40.35% 205,452 22.97% 1995 229,851 15.55% 239,841 16.74% 1996 250,435 8.96% 272,155 13.47% 1997 275,479 10.00% N/A N/A Page 55 City of Lino Lakes, Minnesota Management Report Enterprise (Utility) Fund $300,000 $250,000 $200,000 $150,000 $100,000 $50,000 $0 MCES Billings 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 ® Estimated Billings El Actual Billings There are two basic factors which contribute to increased billings from the MCES: 1. Changes in use of the system. The 1997 estimated flow for the City of Lino Lakes increased by 10% over 1996. 2. Increased cost to process sewage. The MCES's estimated cost to process (per million gallons) for 1997 remained unchanged from 1996. However, this processing cost had increased in prior years. Beginning in 1998, the MCES has changed its funding method to be based on actual consumption of prior quarters from the estimated billing method used through 1997. During 1988 the City adopted a policy of charging a water user fee for core system improvements. The add -on charge is calculated based on a fixed amount per quarter. Prior to 1996, this charge was collected as revenue of the water enterprise fund along with normal charges. Such amounts were then transferred to the Area and Unit Charge Fund which financed (or will finance) such improvements. During 1996 the City implemented a new utility software system which allows the water user fee to be recorded directly to the Area and Unit Charge Fund. Page 56 City of Lino Lakes, Minnesota Management Report Enterprise (Utility) Fund The water and sewer operations reflect retained earnings of $837,555 and $669,899, respectively. Retained earnings should not be equated with fund balance. The Utility operations are financed by user fees which are billed and collected only after the services are provided. This creates a timing difference between payment of expenses and collection of service charges (i.e., accounts receivable). Additionally, certain costs are paid in advance (prepaid expenses) and/or supply items are purchased in advance (i.e., inventories). These items create a timing difference between payment of expenses and cost recovery through service changes. Those items (commonly referred to as Working Capital needs) are noncash assets. In addition, the Retained Earnings of the Utility Operation include the fixed assets of such operations which are depreciated and charged (annually) against income. Such undepreciated fixed assets are also a noncash asset. The following schedule has been prepared to illustrate the effects of working capital needs and fixed assets upon the total equity of the City's water and sewer operations: Water Sewer Cash and investments $536,402 $364,095 Working capital needs: Accounts receivable 445,928 274,172 Prepaid expenses 1,422 31,174 Payables (315,543) (39,483) Long -term payable - bonds (4,165,000) Purchased fixed assets - net 4,334,346 39,941 Retained earnings $837,555 $669,899 Page 57 a City of Lino Lakes, Minnesota Management Report Gas Utility ••• GAS UTILITY Portions of the City of Lino Lakes have gas service through a franchise agreement between the City of Circle Pines and the City of Lino Lakes. The City of Circle Pines operates the gas utility. We have reviewed the initial distribution of gas franchise profits received by the City of Lino Lakes under the terms of the franchise agreement. The revenue was calculated on the following basis: 1996 1997 Residential and Commercial Revenue $528,030 @ 7% = $36,962 $525,966 @ 7% _ $36,818 Interruptible Service 158,455 @ 3% = 4,754 189,197 @ 3% = 5,676 Total $686,485 41,716 $715,163 42,494 Remitted by Circle Pines 41,726 42,495 Difference $10 $1 The franchise agreement allows for adjustment from gross revenue of net bad debts. The City of Lino Lakes had bad debts of $850 in 1996 and $6,777 in 1997. a The receipt of franchise fees is recorded in the City's General Fund. The Gas Utility Fund was established in anticipation of potentially establishing a gas utility. Successful negotiation of a franchise fee agreement has prompted the City to abandon plans for their own gas utility. As such, we recommend that the City consider closing the Gas Utility Fund. City of Lino Lakes, Minnesota Management Report Gas Utility Gas utility sales have been as follows: Residential Commercial Total Increase / (Decrease) Increase / (Decrease) Increase / (Decrease) Year Amount Amount Percent Amount Amount Percent Amount Amount Percent 1985 $102,156 $5,149 5.31% $29,356 $5,527 23.19% $131,512 $10,676 8.84% 1986 90,407 (11,749) (11.50)% 24,764 (4,592) (15.64)% 115,171 (16,341) (12.43)% 1987 82,787 (7,620) (8.43)% 19,866 (4,898) (19.78)% 102,653 (12,518) (10.87)% 1988 114,883 32,096 38.77% 21,845 1,979 9.96% 136,728 34,075 33.19% 1989 120,060 5,177 4.51% 21,303 (542) (2.48)% 141,363 4,635 3.39% 1990 148,802 28,742 23.94% 17,669 (3,634) (17.06)% 166,471 25,108 17.76% 1991 207,162 58,360 39.22% 20,013 2,344 13.27% 227,175 60,704 36.47% 1992 274,811 67,649 32.66% 18,092 (1,921) (9.60)% 292,903 65,728 28.93% 1993 378,573 103,762 37.76% 21,465 3,373 18.64% 400,038 107,135 36.58% 1994 359,663 (18,910) (5.00)% 17,342 (4,123) (19.21)% 377,005 (23,033) (5.76)% 1995 368,991 9,328 2.59% 21,256 3,914 22.57% 390,247 13,242 3.51% 1996 471,014 102,023 27.65% 57,866 36,610 172.23% 528,880 138,633 35.52% 1997 467,456 (3,558) (0.76)% 65,282 7,416 12.82% 532,738 3,858 0.73% Bad Debts Interruptible Sales Increase / (Decrease) Increase / (Decrease) Year Amount Amount Percent Amount Amount Percent 1985 $ - $ $ - $149,590 ($6,036) (3.88)% 1986 92,822 (56,768) (37.95)% 1987 3,334 3,334 3.25% 88,509 (4,313) (4.65)% 1988 2,757 (577) (17.31)% 83,363 (5,146) (5.81)% 1989 3,394 637 23.10% 111,977 28,614 34.32% 1990 53 (3,341) (98.44)% 108,699 (3,278) (2.93)% 1991 2,500 2,447 4616.98% 113,869 5,170 4.76% 1992 515 (1,985) (79.40)% 126,267 12,398 10.89% 1993 1,257 742 144.08% 125,360 (907) (0.72)% 1994 2,100 843 67.06% 127,204 1,844 1.47% 1995 1,830 (270) (12.86)% 109,892 (17,312) (13.61)% 1996 850 (980) (53.55)% 158,455 48,563 44.19% 1997 6,777 5,927 697.29% 189,197 30,742 19.40% Prior to 1987, bad debts were netted with sales. Page 59 VIEW City of Lino Lakes, Minnesota Management Report Gas Utility The current franchise agreement provides a revenue source to the City of Lino Lakes. Key features of the new agreement are as follows: 1. Tenn: January 1, 1987 through March 31, 2012. 2. Revenue to the City of Lino Lakes based on 7% of sales except for interruptible sales which are based on 3 %. 3. Cancelable by the City of Circle Pines commencing on January 1, 1992. The City of Lino Lakes has the right to cancel the franchise agreement through the purchase of this system beginning on January 1, 1992. 4. Right to inspect the financial/accounting records to verify revenue calculations. 5. Revenue began accruing on January 1, 1987. Revenue will be received four and one- half months after the year end (i.e., first receipt was in May, 1988). .. 6. The City has the right to purchase the system at stated terms beginning on January 1, 1992. The City received $42,495 in 1997 which represents the 1996 share of earnings. Earnings from inception of the new agreement total $269,446. Financial uncertainties facing metropolitan cities require diversity of revenue sources to assure adequate funding of operations without severe property tax increases. City of Lino Lakes, Minnesota Management Report Agency Funds AGENCY FUNDS I An Agency Fund is designed to account for transactions for other individuals, private organizations and/or other funds. During 1997, the City had four Agency Funds as follows: • Contractor's Deposits • Pending Assessments • Investment Fund • Deferred Compensation The Contractor's Deposits Fund is used to account for "pass through" types of expenditures relating to prospective developers. The City pays certain legal, engineering and planning amounts to assure compliance with various City ordinances relating to pertinent applications. The City receives deposits and/or bills the various developers for costs incurred. We recommend that the City continue to maintain detailed records of amounts due from developers and assure that adequate deposits are received prior to incurring expenses on a developer's behalf. The Pending Assessments Fund was established in 1991 to account for the prepayment of special assessments by contractors prior to the final assessment being adopted by the City Council. The Investment Fund is designed to pool all available cash balances of the City to maximize the investment efficiency of the City. Interest is allocated to funds annually based on the average cash balance of the participating funds. The Deferred Compensation Fund was established in 1987 in response to the issuance of the Governmental Accounting Standards Board (GASB) Statement No. 2. GASB Statement No. 2 requires deferred compensation plans adopted under the provisions of Internal Revenue Code Section 457 to be included in the City's Annual Financial Report. During 1997, the City's deferred compensation plan balances were removed from the City's financial statements in accordance with GASB Statement No. 32, which, for the City of Lino Lakes, was required to be implemented in 1997. Page 61 City of Lino Lakes, Minnesota Management Report Other Compliance and Control Issues OTHER COMPLIANCE AND CONTROL ISSUES During the course of the 1997 audit, several issues were noted which the City may wish to take follow-up action upon. Charter Compliance < Several of the City charter provisions (such as a requirement to budget all funds of the City and other budget provisions, including those noted previously on page 25) may be outdated with respect to modern financial management concepts for cities. Other items are unclear such as Section 7.07 which prohibits expenditures in excess of appropriations. It is unclear at which level of detail this is to be enforced, i.e., fund level, department level or line-item level. We recommend that the City consider amending either: 1) The charter; or, 2) City practices defined by the City's charter Purchasing Policy <g> The City currently has controls over the purchases by departments. Approval is required by either the department head or other designated employees. Additionally, certain purchases are governed by quote and bid statutes. The City does not, however, have a formal purchasing policy. Such a policy may be useful in defining and enforcing consistent purchasing procedures. We recommend that the City consider adopting such a policy. Page 62 City of Lino Lakes, Minnesota Management Report Other Compliance and Control Issues Conflicts of Interest The City is protected by State Statutes from entering into contracts with City officials who would personally benefit from the contract. The City requires all elected and appointed officials to sign an annual representation letter indicating that to the best of their knowledge, no such conflicts exist. We were aware of one potential conflict involving a department head's immediate family. We followed up on the issue with an interview and determined that, based on the responses, no conflict existed. Additionally, the former City Administrator did not return a signed copy of the representation letter. In accordance with auditing standards, we made an evaluation of the facts and circumstances of this omission, including additional audit procedures performed, and concluded that it did not warrant a qualificiation of the State Compliance Report. Page 63 City of Lino Lakes, Minnesota Management Report Certificate of Achievement for Excellence in Financial Reporting CERTIFICATE OF ACHIEVEMENT FOR EXCELLENCE IN FINANCIAL REPORTING 1 The City submitted the 1996 Comprehensive Annual Financial Report (CAFR) to the Government Finance Officers Association of the United States and Canada for a comprehensive review. The CAFR is reviewed by two individuals and graded in ten different categories. The CAFR must receive a unanimous approval of both reviewers. The City received the award for their 1996 CAFR. We commend the City for this achievement. Page 64 City of Lino Lakes, Minnesota Management Report Other Matters OTHER MATTERS Year 2000 Systems Issues With the year 2000 approaching, many computer systems, as well as a number of other systems, may be impacted by the change to the year 2000. The issue is based on the ability of your current systems to read a two -digit year (00) as the year 2000 as opposed to 1900. Computer programmers have historically used only two digits to designate the year within computer software. A number of systems will, therefore, read 00 as 1900. If this occurs, corrupt data may be generated inside your computer software as well as other systems (fax machines, VCRs, clocks, air conditioning units, switchboards, alarm systems, information backup systems, and e-mail just to name a few). b We recommend that 1) the City continue efforts to identify all systems impacted by the change, and 2) budget adequate resources (both staff time and, if appropriate, system replacements) to avoid any problems associated with the change to the year 2000. If unanticipated problems occur, the cost to fix the situation may far outweigh the cost, time and effort to anticipate the changes and implement them prior to the year 2000. We are available to assist the City in organizing or implementing a year 2000 compliance plan. Fraud Prevention p Fraud prevention has become a priority with a number of organizations based on increased awareness of the impact of fraud on organizations. $400 billion is lost to fraud in the U.S. annually. We are recommending that all clients re- evaluate their systems to prevent fraud. Our position has been prompted by: Page 65 City of Lino Lakes, Minnesota Management Report Other Matters • The campaign waged by our international association (HLB International) to create greater awareness globally with respect to fraud issues. • The issuance of Statement of Auditing Standards (SAS) No. 82 - Consideration of Fraud in a Financial Statement Audit, which as expanded the auditor's responsibility with respect to potential fraud within organizations. While an auditor has always been responsible for reporting any suspected fraud, it has not been a specific requirement of audit procedures to assess the risk of fraud. SAS No. 82 has changed this. It is important to understand, however, that the existence of fraud may often not be detected by existing or even expanded audit procedures within many organizations. Fraud by its nature is often undetectable by normal financial statement audit procedures. The new SAS requires the auditor to "specifically assess the risk of' misstatement due to fraud and provides categories of fraud risk factors that should be considered in the auditor's assessment. Fraud is often very difficult to detect because, to some degree, certain forms of fraud become accepted by the culture created within the working environment. Additionally, material instances may involve more than one participant (collusion) which further complicates its detection. Some common examples of fraud which many cities may be exposed to include: • Personal use of assets • Personal use of supplies • Use of City facilities without paying market rate. (For instance, a recreation department employee who allows acquaintances to use facilities at reduced or no charge.) It is important to understand that we are not suggesting that fraud is occurring at the City of Lino Lakes. This management report comment is directed to virtually all of our clients to assist Page 66 City of Lino Lakes, Minnesota Management Report Other Matters them in increasing their awareness of the potential for fraud. We specifically recommend the following steps to improve your comfort that fraud is not existing within your organization. 1. Conduct a series of interviews with each department head to determine likely areas in which fraud may occur. 2. Designate a position of authority that any City employee can confidentially approach if they observe or suspect fraud may be taking place. 3. Adopt a written policy that defines fraud within the City and specifically states the ramifications of noncompliance." 4. Require employees to read the above policy when they are hired and periodically (once a year) sign an acknowledgment that they are aware of the policy and they are in compliance with it. We are available to assist the City to increase awareness of fraud and establish policies to improve the likelihood of preventing fraud. Distortion of Subsidies Act of 1997 Federal legislation had been proposed in 1997 to effectively tax (at a federal level) subsidies provided by state and local government to private business. The purpose of the legislation is to reduce unfair competition between states to acquire businesses at the cost of increased taxes to local jurisdictions. Specifically, this Act would tax incentives provided by local government to private enterprises. This would include tax increment payments. The tax would not necessarily be a burden on the City of Lino Lakes; however, it would reduce the incentives available to private enterprise, which seeks subsidies in the form of tax increments, or other concessions from city government. The law is also directed to major sports franchises. In order for private enterprise Page 67 City of Lino Lakes, Minnesota Management Report Other Matters to receive the same net (after -tax) benefit as is currently available, significantly greater funds would need to be provided. This proposed federal legislation would not impact the City; however, it would adversely impact the recipients of future tax increment benefits because they would have an additional tax at the federal level for any such amounts received. Strategic pricing As is discussed later in this report, the Governmental Accounting Standards Board (GASB) is considering sweeping changes in the financial reporting model for cities. The changes in the financial reporting model will require the presentation on a statement of a Statement of Net Activities. This statement will eventually require the "full loading" of expenses for each activity of the City. Specifically, the additional amounts included in activity expense will be capital use charges (depreciation) to each activity of the City. The fully- loaded activity cost will then present a deduction for direct revenues generated by that activity to determine the subsidy level that the local government provides to each activity. b We believe that this type of presentation will prompt questions regarding charges for services that the City provides. Pricing within cities is often cost recovery based. We believe there can be significant benefit for local government to review prices from the standpoint of the value of the service delivered. Several points to consider when evaluating your prices would include targeting the following overall outcomes: 1. Develop an equitable approach 2. Develop a self - sustaining approach 3. Understand the role of the costs in delivering services and cost allocation systems '— within the City 4. Be able to provide better justification to constituents Vow Page 68 City of Lino Lakes, Minnesota Management Report Other Matters 5. Be able to measure service efforts and accomplishments (institute greater accountability) Evaluating pricing philosophies for services with cities may produce positive results in directing the charges for services to those who more directly benefit from each specific service. We are available to assist the City in evaluating pricing of services. Page 69 City of Lino Lakes, Minnesota Management Report Governmental Accounting Standards Update GOVERNMENTAL ACCOUNTING STANDARDS UPDATE Reporting Model The Governmental Accounting Standards Board (GASB) has issued an "exposure draft" document on issues related to the Governmental Financial Reporting Model. This document proposes significant changes in governmental accounting which will impact internal financial accounting and external financial reporting of the City. A summary of the key provisions of the exposure draft document is presented below: • Fund Perspective Financial Statements. These financial statements would be similar to current financial statements with modified accrual basis of accounting for governmental funds, accrual basis of accounting for business type activities (formerly enterprise and internal service funds). However, the GASB proposes a new definition for fiduciary funds and the elimination of the account groups. • Entity-wide Perspective Financial Statements. These financial statements include full accrual accounting for all activities. The income statement will be replaced by a statement of activities using the net program cost format. Additionally, capital use charges (depreciation) on general fixed assets and infrastructure assets will be required to be reported in the financial statements. • Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A). The MD&A letter will be similar to (although will not replace) the current letter of transmittal. Currently, Securities and Exchange Commission (SEC) regulations require private sector registrants to provide a MD&A letter discussing financial conditions, results of operations, etc. Deferred Compensation Plans The Deferred Compensation Fund was established in response to the issuance of the Governmental Accounting Standards Board (GASB) Statement No. 2. GASB Statement No. 2 requires deferred compensation plans adopted under the provisions of Internal Revenue Code Section 457 to be included in the City's Annual Financial Report because they are subject to the claims of the employer's general creditors. Page 70 City of Lino Lakes, Minnesota Management Report Governmental Accounting Standards Update In 1996, Congress adopted law changes to the provisions of Internal Revenue Code Section 457. Under the current law, 457 assets were to remain solely the property of the employer, subject to the claims of the employer's general creditors. With the new law change, all amounts deferred under a Section 457 plan must be held in trust for the exclusive benefit of plan participants and/or beneficiaries. As a result of the new law change, 457 assets are no longer the sole property of the employer or subject to the claims of the employer's general creditors. Therefore, GASB Statement No. 2 no longer applies, and 457 assets will no longer be required to be included in the City's Annual Financial Report. The City's deferred compensation plans were amended during 1997 to comply with the 1996 law changes. The Deferred Compensation Agency Fund was therefore closed during 1997. Page 71 APPENDIX A CITY OF LINO LAKES, MINNESOTA YEAR & STATUTE REFERENCE STATE LEGISLATIVE ACTION 1998 #11 Data Privacy: Effective July 1, 1998, data, notes and preliminary drafts of audit reports created, collected and maintained by cities relating to internal audit or investigation remain confidential or protected nonpublic data until final audit report published or audit or investigation concluded. 1998 #10 Property Tax Reform: Cities are authorized to create special taxing districts within tax increment financing districts to address impacts of 1997 and 1998 property tax class rate changes on existing TIF districts. 1998 #9 TIF Deadlines: Beginning in 1999, annual TIF reporting deadline is extended from July 1 to August 1. Also, if annual reports are not submitted by the third Tuesday in November, State Auditor may place a hold on tax increment distributions. For distributions made between the third Friday in November and the end of the year, 25% will be withheld, and for distributions made after January 1, 100% will be withheld. 1998 #8 Miscellaneous TIF: a. Parcels classified as green acres, open space or ag preserves can now be included in certain TIF districts. b. The terms "decertify" and "decertification" are clarified to refer to termination of a district. c. Clarifies disclosure and reporting requirements for when the requirements begin and end. d. TIF recodification task force extended to May 1, 1999. 1998 #7 TIF Enforcement: The TIF revenues deduction rate increases from .10 to .25 percent to fund the Office of the State Auditor's enforcement responsibilities. This increase will be used to employ six auditors and one clerical support staff person. 1998 #6 Audit Results: Requires Auditors to present copy of audited financial statement and any management letter or written findings to each city council member and mayor no later than 30 days after report is due to state auditor. Audit results must be presented at a scheduled city council meeting prior to October 31 each year. PREPARED BY HLB TAUTGES REDPATH, LTD. PAGE 1 OF 4 APPENDIX A CITY OF LINO LAKES, MINNESOTA YEAR & STATUTE REFERENCE STATE LEGISLATIVE ACTION 1998 #5 Class Rates: 1998 tax bill continued class rate compression begun by 1997 tax bill. Examples of changes include the following: Homestead from 1% on first $75,000 plus 2% for amounts over $75,000 to 1% on first $75,000 plus 1.85% on amounts over $75,000. Commercial Industrial from 3% on first $150,000 plus 4.6% on amounts over $150,000 to 2.7% on first $150,000 plus 4% on amounts over $150,000. 1998 #4 State Aid: In addition to current annual inflationary increase in LGA, cities will receive $3 million a year of new LGA. Jurisdictions in metropolitan area will also receive increases in HACA in year 2000 to partially offset decrease in fiscal disparities pool due to class rate compression. 1997 #3 Levy Limits: Levy limits imposed on all counties and cities with greater than 2,500 population. Debt and other special levies are exempt for 1998 the limit is calculated as follows: + Levy (net of debt and other special levies) + Add 1997 HACA, LGA and LPA = Revenue base x 102.24% (inflation x 1996 household divided by 1995 households (not less than 1) - Subtract 1998 HACA, LGA and LPA = Pay 1998 levy limit PREPARED BY HLB TAUTGES REDPATH, LTD. PAGE 2 OF 4 APPENDIX A CITY OF LINO LAKES, MINNESOTA YEAR & STATUTE REFERENCE STATE LEGISLATIVE ACTION 1997 #2 Class Rates: Changed class rates for calculating tax capacities. Examples of changes include the following: Residential Homestead from 1% on first $72,000 plus 2% for amounts over $72,000 to Sample Values 1% on first $75,000 plus 1.85% on amounts over $75,000. Tax Capacity _ Differences Before After Amount Percent $70,000 75,000 100,000 150,000 200,000 500,000 750,000 1,000,000 $700 $700 $ - 0.00% 780 750 (30) (3.85 %) 1,280 1,213 (67) (5.27 %) 2,280 2,138 (142) (6.25 %) 3,280 3,063 (217) (6.63 %) 9,280 8,613 (667) (7.19 %) 14,280 13,238 (1,042) (7.30 %) 19,280 17,863 (1,417) (7.35 %) Market Rate Apartments from 3.4% to 2.9 %. The small cities rate remained unchanged at Sample Values 2.3 %. Tax Capacity Differences Before After Amount Percent $200,000 500,000 1,000,000 5,000,000 $6,800 $5,800 ($1,000) 14.71% 17,000 14,500 (2,500) 14.71% 34,000 29,000 (5,000) 14.71% 102,000 87,000 (15,000) 14.71% PREPARED BY HLB TAUTGES REDPATH, LTD. PAGE 3 OF 4 APPENDIX A CITY OF LINO LAKES, MINNESOTA YEAR & STATUTE REFERENCE STATE LEGISLATIVE ACTION r ti PREPARED BY HLB TAUTGES REDPATH, LTD. PAGE 4 OF 4 •• Commercial Industrial from 3% on first $100,000 plus 4.6% on amounts over $100,000 to 2.7% on first $150,000 plus 4% on amounts over $150. Sample Tax Capacity Differences Values Before After Amount Percent $50,000 $1,500 $1,350 ($150) (10.00 %) 100,000 3,000 2,700 (300) (10.00 %) 150,000 5,300 4,050 (1,250) (23.58 %) 200,000 7,600 6,050 (1,550) (20.39 %) 500,000 21,400 18,050 (3,350) (15.65 %) 750,000 32,900 28,050 (4,850) (14.74 %) 1,000,000 44,400 38,050 (6,350) (14.30 %) 10,000,000 458,400 398,050 (60,350) (13.17 %) 1997 #1 Local Performance Aid: Local performance aid amounts must be spent on programs which have measurement criteria in place. r ti PREPARED BY HLB TAUTGES REDPATH, LTD. PAGE 4 OF 4 ••