How can a municipality use federal funds to cover lost revenue and replenish reserves used to cover lost revenue?

The American Rescue Plan Act of 2021 (“ARP”) authorizes the use of Coronavirus State and Local Fiscal Recovery Funds ("CSLFRF") to address reductions in revenue due to COVID-19. However, the U.S. Department of the Treasury ("Treasury") has issued guidance that indicates that replenishing reserve fund balances is not an allowable use of ARP funds.[1] “Government services” is the broadest category of expenditures under the CSLFRF; expenditures for virtually any government service traditionally provided by the government are eligible except where prohibited.

The ARP established the CSLFRF to "mitigate the fiscal effects stemming from the public health emergency with respect to the Coronavirus Disease."[2] A significant component of CSLFRF assistance is the ability of municipalities to address reductions in revenue due to the COVID-19 public health emergency. Section 603(c)(1)(C) of the Social Security Act, as amended by Section 9901 of the ARP, states that, among other purposes, funds may be used: 

for the provision of government services to the extent of the reduction in revenue of such metropolitan city, nonentitlement unit of local government, or county due to the COVID–19 public health emergency relative to revenues collected in the most recent full fiscal year of the metropolitan city, nonentitlement unit of local government, or county prior to the emergency.[3]

It is important to note that the "provision of government services" language refers to delivering an actual program or activity. The language in Section 603(c)(1) discusses incurred costs but does not explicitly address whether municipalities can use the assistance to replenish fund balances.[4] However, the Final Rule states that replenishing fund balances such as a rainy day or other reserve fund is not an allowable use of CSLFRF. [5] The Final Rule explicitly states that:

the interim final rule provided that the following uses of funds are not eligible under this eligible use category: contributions to rainy day funds, financial reserves, or similar funds; payment of interest or principal on outstanding debt instruments; fees or issuance costs associated with the issuance of new debt; and satisfaction of any obligation arising under or pursuant to a settlement agreement, judgment, consent decree, or judicially confirmed debt restructuring plan in a judicial, administrative, or regulatory proceeding, except to the extent the judgment or settlement requires the provision of services that would respond to the COVID-19 public health emergency. These uses of funds remain ineligible under the final rule.[6]

Furthermore, Treasury's Overview of the Final Rule provides the most current definition of "general revenue" for calculating revenue loss and provides a methodology for calculating revenue lost due to COVID-19.[7] The Final Rule indicates that municipalities should use revenue replacement funds to "provide government services" and establishes specific guidance for calculating revenue loss.[8] Furthermore, it clarifies that recipients facing budget shortfalls may use CSLFRF "to avoid cuts to government services."[9] An overview of this calculation process is provided below.

General Revenue

The term "general revenue" is defined as:

money that is received from tax revenue, current charges, and miscellaneous general revenue, excluding refunds and other correcting transactions and proceeds from issuance of debt or the sale of investments, agency or private trust transactions, and intergovernmental transfers from the Federal Government, including transfers made pursuant to section 9901 of the American Rescue Plan Act. General revenue also includes revenue from liquor stores that are owned and operated by state and local governments. General revenue does not include revenues from utilities, except recipients may choose to include revenue from utilities that are part of their own government as general revenue provided the recipient does so consistently over the remainder of the period of performance. Revenue from Tribal business enterprises must be included in general revenue.[10]

When calculating revenue, "the final rule maintains the requirement that revenue loss is to be calculated on an aggregate basis."[11] In addition, the Final Rule explains that "[i]ntergovernmental transfers means money received from other governments, including grants and shared taxes."[12]

In terms of whether an entity is part of a government for the purpose of calculating general revenue, Treasury explicitly states that "[t]he Department also released guidance clarifying how a recipient may determine whether a particular entity is ‘part of the recipient's government.’" [13]

Treasury has explicitly stated in its Coronavirus State and Local Fiscal Recovery Funds Interim Final Rule: Frequently Asked Questions ("FAQs") that:

In determining whether a particular entity is part of a recipient's government for purposes of measuring a recipient's government revenue, recipients should identify all the entities included in their government and the general revenue attributable to these entities on a best-efforts basis. Recipients are encouraged to consider how their administrative structure is organized under state and local statutes. In cases in which the autonomy of certain authorities, commissions, boards, districts, or other entities is not readily distinguishable from the recipient's government, recipients may adopt the Census Bureau's criteria for judging whether an entity is independent from, or a constituent of, a given government.[14]

Treasury provides four conditions that must be met for an entity to be considered independent. If they do not meet all four conditions, a recipient "may classify the entity as part of [its] government and assign the portion of General Revenue that corresponds to the entity."[15]

Finally, Treasury notes that:

To further assist recipients in applying the forgoing criteria, recipients may refer to the Census Bureau's Individual State Descriptions: 2017 Census of Governments[16] publication, which lists specific entities and classes of entities classified as either independent (defined by Census as "special purpose governments") or constituent (defined by Census as "dependent agencies") on a state-by-state basis.[17]

With respect to the validity of the cited passages provided in the FAQs with the release of the Final Rule, Treasury has explicitly stated that it "is adopting as final the interim final rule published on May 17, 2021, with amendments. This rule implements the Coronavirus State Fiscal Recovery Fund and the Coronavirus Local Fiscal Recovery Fund established under the American Rescue Plan Act."[18] Furthermore, Treasury provides that "[t]he provisions in this final rule are effective April 1, 2022."[19] This effectively means that all FAQs are still valid until the date the Final Rule goes into effect, and municipalities "can choose to take advantage of the final rule's flexibilities and simplifications now, even ahead of the effective date."[20]

Option to Elect a Standard Allowance

The Final Rule provides recipients with a second way to access revenue replacement funds, creating:

an option for recipients to use a standard allowance for revenue loss. Specifically, in the final rule, recipients will be permitted to elect a fixed amount of loss that can then be used to fund government services. This fixed amount, referred to as the “standard allowance,” is set at $10 million total for the entire period of performance. Although Treasury anticipates that this standard allowance will be most helpful to smaller local governments and Tribal governments, any recipient can use this standard allowance instead of calculating revenue loss pursuant to the formula above, so long as recipients employ a consistent methodology across the period of performance (i.e., choose either the standard allowance or the regular formula). Treasury intends to amend its reporting forms to provide a mechanism for recipients to make a one-time, irrevocable election to utilize either the revenue loss formula or the standard allowance.[21]

It is crucial to note that Treasury also states that recipients "must choose one of the two options and cannot switch between these approaches after an election is made."[22]

Eligible Government Services

The Final Rule specifies that "generally speaking, services provided by the recipient governments are 'government services' under the interim final rule and final rule, unless Treasury has stated otherwise."[23] Treasury has provided several examples of government services, including, but not limited to:

• construction of schools and hospitals;
• road building and maintenance, and other infrastructure;
• provision of health services;
• general government administration, staff, and administrative facilities;
• environmental remediation; and
• provision of police, fire, and other public safety services (including purchase of fire trucks and police vehicles).[24]

However, the Final Rule warns that:

recipients should be mindful that other restrictions may apply, including those articulated in the section Restrictions on Use. In the final rule, Treasury is maintaining the limitations on government services included in the interim final rule and has addressed and responded to public commenters on these issues in the section Restrictions on Use.[25]

Finally, the Final Rule provides several examples that are not considered to be government services, including, but not limited to:

• offsetting a reduction in net tax revenue resulting from a change in law, regulation, or administrative interpretation beginning on March 3, 2021, through the last day of the fiscal year in which the funds provided have been spent;
• fees or issuance costs associated with the issuance of new debt;
• the satisfaction of any obligation arising under or pursuant to a settlement agreement, judgment, consent decree, or judicially confirmed debt restructuring in a judicial, administrative, or regulatory proceeding, except if the judgment or settlement required the provision of government services; and
• replenishing financial reserves (e.g., rainy day or other reserve funds) would not be considered a provision of government service since such expenses do not directly relate to the provision of government services.[26]

Last Revised: January 31, 2022