Scottsdale expects record levels of sales-tax collections in the fiscal year 2018 budget, which begins July 1, yet city officials are taking a hard look at raising taxes.

The proposed budget forecasts pre-recession levels of sales tax revenue, but a five-year forecast predicts millions in deficits unless city leaders can bridge the gap.

Three of the next five years project an operating deficit, which has some leaders calling for an increase in sales tax, property tax or both.

City revenues are growing each year, but are steadily being outpaced by expenses. By fiscal year 2019, Scottsdale would be about $4 million in the red. City bookkeepers show the deficit continuing until 2022.

Cities are required to approve balanced budgets.

“The time to act on problems of the future is now,” Councilman David Smith said.

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What city leaders propose

Councilwoman Kathy Littlefield said she is willing to take a look at raising sales or property taxes, but first she wants the city to tighten spending.

Giving pay raises to city workers, especially when there isn’t an accompanying surge in revenues, is the root of the problem, she said.

“We can’t continue to give a 3 percent annual increase (in wages and benefits) to our employees if we don’t have a 3 percent annual increase in revenues,” she said.

City employee salaries were frozen during the Great Recession, but kicked in again with a 2.5 percent, merit-based raise five years ago. The city has offered as much as a 3 percent, merit-based raise to non-public-safety employees most years since then, according to city spokesman Kelly Corsette.

Raises for non-public-safety employees will cost the city an estimated $3.2 million in fiscal year 2018, Corsette said, plus an additional $2.5 million for increases to public-safety employee salaries.

Smith said the city could increase revenue by hiking property taxes.

Every year, the council has the opportunity to increase its primary property tax levy by 2 percent. Smith said the city has for years opted not to increase the taxes, though they could do so to adjust for inflation without voter approval.

While not increasing property taxes to account for inflation protects Scottsdale homeowners from higher property taxes, Smith said the city is losing $500,000 in potential revenue and doing more harm than good in the long run.

Scottsdale levies about $25 million in property tax, and the 2 percent hike would bring in an additional $500,000, Smith said. The additional annual costs for a homeowner would be about $3.50 because businesses pay about half of Scottsdale’s property taxes, he said.

“They’re not doing the citizens a favor by doing this because a large portion of the property taxes are being paid by the businesses here,” Smith said. “Year after year, they’re giving businesses a tax break with little benefit to the citizens.”

“The effect on citizens is almost negligible,” he said. “But it’s terribly important for the city because you can’t run a city with the inflation in costs without asking for the citizens to give you inflation in the property tax.”

Councilwoman Virginia Korte does not want a sales-tax increase to cover operating costs, but she does favor the 2 percent raise in property taxes.

“At some point, we need to look at raising property taxes, or cut services,” she said. “And that (cutting services) is something our citizenry does not want.” 

Tax increases would help the city’s finances, but they’re not a perfect solution, Mayor Jim Lane said. He said taking steps to increase taxable activity will benefit the city more in the long run.

“That’s something we can’t leave off the table,” he said. “We can’t just keep going back to increasing taxes, but it does mean that that may be a component of it.”

Vice Mayor Suzanne Klapp appeared to favor Lane’s approach.

Councilwoman Linda Milhaven could not be reached for comment.

Deficits in a time of record tax revenues

Two of the factors putting pressure on the operating budget include:

• $7.8 million in impending public-safety pension payouts.
• Reallocation of food-tax collections that are being phased out of the general fund, the city’s primary bucket of operating funds. 

Under the five-year forecast, the deficits will begin in fiscal year 2019 — the final year of a reallocation for the city’s sales tax on food.

Food taxes, which used to go into the general fund, are being phased over three years into the city’s Capital Improvement Plan. In the upcoming fiscal year, which is the second year of the three-year process, $5 million in food taxes are expected to go into the capital fund.

Reallocating food taxes has increased the disparity between expenses and revenue, Budget Director Judy Doyle said.

After the food tax is fully phased into the bucket for capital projects, it will equate to $7.8 million not flowing into the general fund, she said. The council voted 5-2 in 2016 to do this as a way to cover capital costs as bond requests have been a tough sell with Scottsdale voters.

“We don’t have enough resources to do everything that we want to do or have to do,” Doyle said. “We need to look at a long-term, sustainable form of funding for our infrastructure.”

Pension payouts coming out of savings

City staff recommend using money in an undesignated, unreserved fund to pay the $7.8 million in public-safety pension costs next fiscal year. The cost stems from an Arizona Supreme Court ruling last fall that a pension-reform law was unconstitutional. The 2011 state law had increased the percentage that public-safety employees had to contribute to their pensions. With the high court’s ruling, employee contributions revert to the former level and cities must repay affected employees.

The payment is a one-time cost and doesn’t include regularly scheduled pension payments.

The fund, which covers one-time expenses, is projected to be largely depleted after this payout. This year, the fund sat at just less than $20 million. Next year, it’s projected to sink to $11.5 million and is projected to reach a low point of $1.7 million in fiscal year 2021.

Since the court ruling in November, city officials haven’t taken steps to address the impending cost, Doyle said.

“It’s something that we know is out there, but we haven’t really taken strides to address it yet,” she said.

Councilman Smith objected to the plan to use unreserved funds. Smith said using the fund to pay off public-safety pensions is only a short-term fix.

“I don’t want to communicate to anybody that we are subscribing to the fact that we’ll be somehow covered by the savings account,” he said. “Because I’m not going to vote for it and I don’t think anyone up here is going to vote for it.”

Smith said the undesignated, unreserved fund shouldn’t be used to make up the difference in an operating budget shortfall.

Rather, the city should address the issues and set up a more sustainable model for its revenue to meet or exceed its expenses, he said.

“If your income does not equal your operating your expenses in any given year, you don’t dip into savings,” Smith said. “You need to increase your revenue or cut your expenses. If there’s a shortfall in the future, you don’t use savings and you don’t just ignore it even though it’s in the out years.”

Although Smith said cutting expenses is an option to balance budgets, he said he hasn’t identified any spending that should be cut.

Councilman Guy Phillips said it isn’t cause for alarm, because it will come up in scheduled capital improvement plan subcommittee meetings.

“I think Councilman Smith’s comments can be debatable,” he said at the meeting. “This will be coming up in the future and we’ll look at ways we can come up with better funding sources and better policies for our budget.”

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