American Rescue Plan Act of 2021 (ARP): Local Government Expenditures of ARP funds for General Government Purposes

Published for Coates' Canons on June 29, 2021.

As some local governments have received, and many will shortly receive, their first tranche distribution of ARP funds (also referred to as Coronavirus State and Local Fiscal Recovery Funds, Fiscal Recovery Funds, or CLFRF), local officials are trying to understand all their expenditure options. I have received several questions from local officials about the legality of using ARP funds for everything from buying police vehicles, to doing minor construction projects, to acquiring land, to providing general salary bonuses, to spearheading economic development projects, to hiring new employees, to upgrading software systems, to giving a rebate to taxpayers, to installing new playground equipment, and beyond. In short, local government officials want to know whether, and to what extent, ARP funds may be used for general government projects, services, and activities that do not directly relate to the pandemic (collectively general government purposes).

The short answer to this question is that although most of the authorized expenditures for ARP funds relate to addressing the public health and financial impacts of the pandemic, there is authority to spend at least a portion of ARP monies for general government purposes. A detailed analysis, however, finds that this authority is more limited than it might first appear. A local government may use ARP monies to fund (most) government services, to the extent that the local government experiences a reduction in general revenue during the pandemic, according to a specified formula. Additionally, a local government may spend ARP monies for certain necessary public enterprise infrastructure projects. Finally, there is authority to spend a small portion of ARP monies (and investment proceeds of ARP monies) for general government purposes. More on each below.

ARP Expenditure Authority Overview

As detailed here, the US Treasury has adopted an Interim Final Rule, interpreting the ARP and fleshing out allowable ARP expenditures by local governments. (US Treasury explains many of the details of the Interim Final Rule in this FAQ.) The Interim Final Rule groups allowable expenditure into 5 categories:

  1. Support public health expenditures, by funding COVID-19 mitigation efforts, medical expenses, behavioral healthcare, and certain public health and safety staff;
  2. Address negative economic impacts caused by the public health emergency, including economic harms to workers, households, small businesses, impacted industries, and the public sector;
  3. Replace lost public sector revenue, using this funding to provide government services to the extent of the reduction in revenue experienced due to the pandemic;
  4. Provide premium pay for essential workers, offering additional support to those who have borne and will bear the greatest health risks because of their service in critical infrastructure sectors; and
  5. Invest in water, sewer, and broadband infrastructure, making necessary investments to improve access to clean drinking water, support vital wastewater and stormwater infrastructure, and to expand access to broadband internet.

Allowable ARP General Government Expenditures

Within these categories are a few potential options to spend ARP funds for general government purposes:

  • Lost Revenue General Government Expenditures
  • Necessary Water, Wastewater, Stormwater Infrastructure
  • Replenish Local Government Staff
  • Reimbursements
  • Investment Proceeds
  • Supplant General Revenue Expenditures for Pandemic Purposes

Before turning to the specifics, though, it is important to note that US Treasury is still refining its guidance on allowable expenditures. Local units should always check the latest guidance and compliance requirements before making specific expenditures decisions. (US Treasury will adopt its Final Rule on allowable expenditures sometime after the July 16, 2021 deadline for receiving comments on the Interim Final Rule.)

Lost Revenue General Government Expenditures

The ARP allows a local government to use ARP monies to fund (most) government services, to the extent that the local government experiences a reduction in general revenue during the pandemic. This category provides the broadest general expenditure authority for local governments, but it is limited to only a certain portion of a unit’s ARP funds, as determined by a “lost revenue” formula.

Lost Revenue Formula

The lost revenue formula measures a local government’s reduction in general revenue, as defined by the Interim Final Rule, relative to the revenue collected in the most recent full fiscal year prior to the pandemic. It provides an inflationary formula to approximate what the local government’s expected general revenue would have been had the pandemic not occurred. There are four parts to calculating lost revenue – (1) determining the base year general revenue; (2) determining actual general revenue at designated points in time; (3) applying an inflationary factor to the base year general revenue at each point in time; (4) comparing actual general revenue to the inflated base general revenue to determine lost revenue. This calculation will be performed four times—for December 31, 2020, December 31, 2021, December 31, 2022, and December 31, 2023. See Interim Final Rule pages 54-59.The resulting lost revenue, if any, may be expended for most general government purposes, as detailed below.

(1) Base Year General Revenue

The Interim Final Rule provides a definition of “general revenue” to establish a base line. The definition is based on the components reported under “General Revenue from Other Sources,” in the Census Bureaus’ Annual Survey of State and Local Government Finances, although it varies somewhat. (The Appendix to US Treasury’s FAQs provides a visualization of the Interim Final Rule’s definition of general revenue.) The purpose of the definition is to include revenues generated from a local government’s underlying economy to support government services. A local government must use this definition to calculate a base general revenue for the last full fiscal year before the pandemic. For NC local governments, that is FY 2018-2019.

For purposes of this calculation, general revenue INCLUDES the following NC local government revenue sources. The citations and brief explanations for each of these revenue sources are available here. (Note that not every local government will have all these revenue sources. Some are available only to municipalities and some only to counties. A local unit’s governing board determines its specific revenue mix from the available options.)

  • Local Government Taxes
    • Property taxes
    • Service district taxes (special taxing districts)
    • Local sales and use taxes
    • Transportation sales and use taxes
    • Motor vehicle licensing taxes
    • Beer and wine licensing taxes
    • Rental gross receipts taxes
    • Animal taxes
    • Local real estate transfer taxes
    • Occupancy taxes (?)
    • Prepared foods taxes (?)
  • General government fees, charges, payments in lieu
    • Recreation fees
    • Cultural and arts fees
    • Public health fees
    • Cemetery fees
    • Ambulance fees
    • Parking fees
    • Franchise fees
    • Library fees
    • Public record fees
    • Port or marina fees
    • Hospital revenues
    • Register of Deeds fees
    • Museum, auditorium, coliseum, convention center, stadium revenues
    • Other fees for general government programs and services
  • Licensing, inspection, permit, and other regulatory fees
  • Intergovernmental transfers between the state and local government (except pass-through funds from the federal government)
    • Powell Bill funds
    • Beer and wine taxes
    • Video programming services taxes
    • Solid waste tipping tax
    • 911 charge
    • Electric tax
    • Telecommunications tax
    • Piped natural gas tax
    • Disposal taxes
    • State real estate transfer tax
    • Public School Building Capital Fund distributions
    • Social services funding
    • Public health funding
    • State direct appropriations for general government purposes
  • Judicial system fees
  • Some public enterprise revenues
    • Wastewater revenues
    • Airport revenues
    • Off-street parking revenues
    • Solid waste revenues
    • Stormwater revenues
    • Cable television/broadband revenues
  • Special assessments and critical infrastructure assessments
  • Property rental and sale proceeds
  • Donations
  • Interest income
  • ABC revenue transfers to local government

In calculating general revenue, a local government must sum across all these revenue streams. It does not matter if revenues are reported in separate funds, even enterprise funds, the revenues should be aggregated for purposes of this calculation. It also does not matter if some or all of a revenue source is legally earmarked for a particular purpose. It still counts toward the total if it is included in the above list.

A local government should use audited data if it is available. But if audited data is not available, a local government is not required to obtain audited data if substantially accurate figures can be produced on an unaudited basis. Further, a local government should use its own data sources to calculate general revenue and need not rely on revenue data published by the Census Bureau. (As stated above, the general revenue formula is based on, but not identical to, the “General Revenue from Other Sources,” in the Census Bureaus’ Annual Survey of State and Local Government Finances.) A local government may provide data on a cash, accrual, or modified accrual basis but must be consistent across calculations.

There are many instances in which a local government levies and/or collects revenue on behalf of another local government. For example, a county levies local sales and use tax but shares a portion of the proceeds with eligible municipalities. Or a county might collect property tax revenue on behalf of a municipality. The Interim Final Rule makes clear that for “purposes of measuring loss in general revenue … and to better allow continued provision of government services, the retention and ability to use the revenue is a more critical factor.” Thus, for purposes of this calculation, the entity that receives and expends the revenue should count it toward its total, not the entity that levies and/or collects the revenue. What about a county or municipality that levies and collects a service district tax (special taxing district) and then allocates proceeds to a volunteer fire department or downtown management entity? In these cases, the county or municipality should count the service district tax proceeds in its total. It is not levying the tax on behalf of another local government but contracting with a private entity to provide services. Occupancy taxes present an interesting issue. They are levied by a county or municipality pursuant to local act authority. But most, if not all, of those local acts require the local government to remit the proceeds to a separate local government entity, known as a Tourism Development Authority (TDA). Arguably, then, occupancy tax proceeds (and prepared food tax proceeds) should not be counted as general revenue if they are spent by a TDA and not the county or municipality. In the absence of more definitive guidance from US Treasury, local governments will need to make a judgment call about including occupancy taxes and prepared food taxes in the general revenue calculation.

We do have specific guidance from the Interim Final Rule on revenue sources that definitely MAY NOT be counted as general revenue. The following are not general revenue for purposes of the formula:

  • Refunds and other correcting transactions
  • Proceeds from the issuance of debt or the sale of investments
  • Agency funds or private trust transactions
  • Some public enterprise revenues
    • Water fees
    • Electric fees
    • Natural gas fees
    • Transit or bus system fees
  • Intergovernmental transfers from the federal government, including federal transfers made via a state to a local government pursuant to a federal grant (including the CARES ACT/CRF and ARP funds)

None of these revenues should be included in a local government’s general revenue total. A significant portion of many local government’s pandemic-related financial losses stemmed from their water and other utility systems. These losses will not be captured in the lost revenue calculation.

(2.) Calculating Actual Revenues at Designated Points in Time

The second step is to use the same definition to calculate actual general revenue at four designated points in time. The first will be a retroactive calculation—December 31, 2020. The remaining four calculations will occur on the same day in the three successive years (December 31, 2021, December 31, 2022, and December 31, 2023), to measure the ongoing fiscal impacts of the pandemic. For the December 31, 2020 calculation, the revenue should reflect the 12-month period immediately preceding that date (January 1, 2020-December 31, 2020).

(3.) Applying Inflationary Factor

The third step is to apply an inflationary factor (growth adjustment) to the base general revenue amount. A local government may choose to either use 4.1 percent (or 0.041) OR the recipient’s average annual revenue growth over the three full fiscal years prior to the COVID-19 public health emergency, whichever is greater. A local government may not use its own pre-pandemic revenue projections in this calculation.

(4). Comparing Inflated Base General Revenues to Actual General Revenues

The final step is to compare the inflated base general revenue at each of the four points in time. If the inflated base revenue is more than the actual revenue as of the designated date, the amount of the difference is the local government’s lost revenue. A local government will not know its total lost revenue amount until it completes its final calculation on December 31, 2023.

The US Treasury FAQ 3.5 provides the following formula that may be used to calculate lost revenue at each of the four designated points in time:

Max {[Base Year Revenue from FY2018-19 * (1+Growth Adjustment)( n/12)] – Actual General Revenue as of 12-month period before calculation date; 0}

Note that n = number of months that have elapsed between the end of the base year and the calculation date.

As an example, assume a local government’s base year total general revenue for FY2018-19 is $1,000,000, and its actual general revenue for the period of January 1, 2020 to December 31, 2020 is $1,020,000. Next assume that the local government chooses to use the default growth factor of 4.1 percent (0.041). In applying the formula, $1,062,126.13 is the growth inflated revenue for December 31, 2020 ($1,000,000 *(1.041)18/12)). That exceeds actual revenue, thus the amount of “lost revenue” as of December 31, 2020, is $42,126.13. That is the amount of ARP funds that may be spent for general government purposes based on the first lost revenue calculation. (As stated above, the calculation will be repeated on the same date each year through 2023.)

The ARP allows a local government to assume that all lost revenue is due to the pandemic. However, it does not allow a local government to factor in (adjust for) actions taken by the local government, such as a change in the property tax rate or other tax or fee amounts, change in the revenue mix, or revaluation adjustments. It also does not allow a local government to count revenues that it received but diverted to pandemic-related expenditures. The lost revenues calculation only provides a measure of the reduction of certain revenues actually received by the local government, as compared to the growth-inflated base year amount.

The Government Finance Officer Association (GFOA) has created an Excel spreadsheet to help local governments calculate their lost revenue amounts. It is here. As soon as it receives its 1st tranche distribution of ARP monies, a local government may immediately do its first (of 4) lost revenue calculations, for December 31, 2020.

For reporting purposes, a local government will need to document its calculation of each of the components of the formula. See US Treasury Compliance and Reporting Guidance.

Allowable Lost Revenues Expenditures

The purpose of this ARP expenditure category is to allow “recipients facing budget shortfalls to use payments from the [ARP funds] to avoid cuts to government services and, thus, enable [local governments] to continue to provide valuable services and ensure that fiscal austerity measures do not hamper the broader economic recovery.” Interim Final Rule, page 53. The Interim Final Rule does not limit a local government to using its lost revenue ARP monies only to support existing government programs, projects, and services that it otherwise would have cut or scaled back, though. With a few exceptions, a local government has broad authority to expend its lost revenue ARP funds each year for the provision of any government services that are authorized by state law. See Interim Final Rule, page 60. They include, but are not limited to, maintenance of existing capital or pay-go spending for new capital outlay, including roads and other infrastructure projects. They also include general local government programs and services, including public safety, fire protection, cultural and recreation, public, health, and education. And they include pay-go spending on local government vehicles, equipment, supplies, hardware, software, and other costs involved in the direct provision of public services or aid to citizens.

The lost revenue ARP funds MAY NOT be used to pay interest or principal on outstanding debt, replenish fund balance or other financial reserves, or pay settlements or judgments that would not be considered provision of a government service. The restriction on paying interest or principal on any outstanding debt instrument, includes short-term revenue or tax anticipation notes, or paying fees or issuance costs associated with the issuance of new debt. In addition, the overarching restrictions on all ARP funds apply—namely the prohibition on pension deposits and the prohibition on using funds for non-federal match in other grant programs if barred by regulation or statute.

For reporting purposes, a local government will be required “to submit a description of services provided. This description may be in narrative or in another form, and recipients are encouraged to report based on their existing budget processes and to minimize administrative burden.” See US Treasury Compliance and Reporting Guidance.

Necessary Water, Wastewater, Stormwater Infrastructure

 Another ARP allowable expenditure category relates to certain local government capital – specifically necessary water, wastewater, and stormwater infrastructure. (The ARP also includes broadband infrastructure, but because of the current lack of state law authority for this expenditure category, I am excluding it here.) Although typically not considered general government expenditures, this category does provide authority for local governments to make investments in water, sewer, and stormwater utilities that are not directly tied to addressing pandemic-specific issues. But the authority is not unlimited. According to the Interim Final Rule, “[n]ecessary investments include projects that are required to maintain a level of service that, at least, meets applicable health-based standards, taking into account resilience to climate change….” Interim Final Rule, page 62.

Accordingly, the Interim Final Rule links the allowable water, sewer, and stormwater projects to those that would be eligible to receive financial assistance through the Environmental Protection Agency’s Clean Water State Revolving Fund (CWSRF) or Drinking Water State Revolving Fund (DWSRF).

DWSRF projects include treatment, transmission, and distribution (including lead service line replacement), source rehabilitation and decontamination, storage, consolidation, and new systems development.

CWSRF projects include construction of publicly- owned treatment works, nonpoint source pollution management, national estuary program projects, decentralized wastewater treatment systems, stormwater systems, water conservation, efficiency, and reuse measures, watershed pilot projects, energy efficiency measures for publicly-owned treatment works, water reuse projects, security measures at publicly-owned treatment works, and technical assistance to ensure compliance with the Clean Water Act.

The primary focus of these ARP-eligible projects is to establish or make improvements to existing utility systems to protect public health, improve water quality and address water pollution, remediate failing or inadequate infrastructure, provide service to un- or underserved areas, and facilitate regionalization to ensure financial and structural sustainability.

A local government does not have to apply to the CWSRF or DWSRF programs to receive the ARP funds or for approval of authorized projects. The CWSRF and DWSRF project lists simply provide a guide of lawful expenditures. In fact, the Interim Final Rule makes clear that a local governing board makes the final determination as to whether its infrastructure projects are eligible and align with the federal DWSRF or CWSRF project categories (not the State’s project categories or definitions). Note also that the National Environmental Policy Act (NEPA) does not apply to water infrastructure projects just because they are funded with ARP monies.

Although the lists of potential projects are broad, there are some significant limitations. ARP monies MAY NOT be used to cover general operating expenses of these utility systems or to provide reimbursements for lost revenues. ARP monies also generally MAY NOT be used for system expansions to accommodate potential new growth or solely for economic development purposes. And, as stated above, ARP monies MAY NOT be used to issue debt or make debt service payments on these infrastructure projects. They also MAY NOT be used to satisfy any local match requirement on a federal grant if prohibited by that grant. ARP monies MAY NOT be used to fund financial reserves and should not be appropriated to a capital reserve fund. Finally, a local government MUST have state law authority to expend the ARP monies for any specific infrastructure projects. There are some CWSRF/DWSRF projects that may not be authorized for NC local governments.

The ARP monies must be used for eligible project expenses incurred on or after March 3, 2021, but they can be expended for projects that began before that date. For projects that have not yet begun, a local government should focus on those that reasonably can be planned for and contracted by December 31, 2024 and completed by December 31, 2026. ARP funds may cover many pre-project development costs for eligible projects. “For example, the DWSRF allows for planning and evaluations uses, as well as numerous pre-project development costs, including costs associated with obtaining project authorization, planning and design, and project start-up like training and warranty for equipment. Likewise, the CWSRF allows for broad pre-project development, including planning and assessment activities, such as cost and effectiveness analyses, water/energy audits and conservation plans, and capital improvement plans.” US Treasury FAQ 6.12.

The reporting requirements on these expenditures are complicated and will be the subject of a future post. For current details see US Treasury Compliance and Reporting Guidance. 

Rehire General Government Staff

A local government may use ARP monies to rehire local government staff, up to pre-pandemic staffing levels. Interim Final Rule, pages 35-36. This allows a local government to mitigate the negative impacts of the pandemic on its own workforce. ARP funds may be used to cover payroll, benefits, and other costs associated with hiring the local government staff. The employees need not focus on pandemic-specific activities. If, however, a local government wishes to keep these positions once the ARP monies are fully expended, it will have to use its own resources to support them.

 Reimbursement of Government Expenditures

A local government may reimburse itself with ARP monies for any qualifying expenditures that it paid for with general fund or enterprise fund monies from March 3, 2021, through the date(s) that it received its ARP distribution(s). In other words, if a local government expended its own resources to fund an ARP-eligible program or project sometime after March 3, 2021, but before it received the ARP cash, the local government may reimburse the applicable general fund or enterprise fund with ARP monies. The reimbursed monies are not restricted. They may be spent for any public purpose allowed by state law.

Investment Earnings

Once a local government receives the ARP monies, the funds must be deposited in one or more bank accounts in the unit’s official depositor(ies). The finance officer may open a separate bank account for ARP funds, but that is not legally required. Instead, the finance officer may co-mingle the ARP funds with its other revenues in an existing bank account. The finance officer must be able to separately track the ARP monies as an accounting matter, though. And the ARP funds should not be combined with CARES Act (aka CRF) monies or other grant funds for accounting purposes.

The finance officer may invest its ARP funds in the same ways that it invests other local government revenues. G.S. 159-30 details the authorized investment vehicles. According to the US Treasury’s Coronavirus State and Local Fiscal Recovery Funds Frequently Asked Questions, a local government is not required to remit interest earned on ARP monies to the US Treasury. (Normally, a grantee must remit interest over $500 per year on grant funds to the federal government.) The payments are not subject to the requirement of the Cash Management Improvement Act. They also are not subject to the requirement of 2 CFR 200.305(b)(8)-(9) to maintain balances in an interest-bearing account and remit payments to Treasury.

Under state law, a finance officer must proportionally allocate any investment proceeds from co-mingled funds according to budgeting fund. That means that the proportional share of investment earnings from ARP monies must be allocated back to the special revenue fund or grant project ordinance. However, these investment proceeds are not legally restricted by the grant. See US Treasury Compliance and Reporting Guidance. They may be used for any public purpose authorized by state law.

Supplant General Revenue Expenditures for Pandemic Purposes

Finally, a local government to use ARP funds for eligible pandemic-specific expenses. That will free up general revenue to be used for traditional local government expenditures.

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Topics - Local and State Government