In this article, Peter Nichols discusses the need for municipalities to review their reserves policies.

A number of fundamental changes are occurring in the infrastructure financing area that suggest municipalities should re-examine and as necessary modify their reserves policies. The events that argue for that re-examination include the following:

• the reductions in conditional grants, which imply that municipalities must provide in the future for a greater share of the capital costs of facilities.
  
• increasing standards (e.g., higher environmental standards for sewage treatment), which will impose greater financial demands on municipalities.
  
• the increasing need to replace older facilities, rather than to build facilities to accommodate new growth. An increasing share of the infrastructure built during the post-war growth years is approaching the end of its economic life and it typically is more difficult to secure funds for replacement capital than for new capital (e.g., off-site levies or development charges often are not available when facilities are replaced).
  
• the increasing recognition by ratepayers of the costs of debt financing.
  
• the evidence that some municipalities are having to postpone a needed capital investments because of financial cutbacks and constraints.

For some municipalities, these factors may necessitate the need to significantly increase their reserve provisions in the coming years.

The figure shown below illustrates how a combination of reduced capital grants and development levies, lower debt financing, and higher project costs can affect the need for future reserves. The illustration shows a potential need for dramatic increases in reserves; however, those reserve requirements need not be overly onerous if provisions for them are incorporated early enough in taxes or user fees, because the accumulated interest earnings on the reserves can compound significantly over a number of years.

The proper use of reserves can reduce the long-term costs to facility users/municipal ratepayers, smooth out required adjustments to user fees and tariffs, and avoid the need to delay required capital projects. The matter of municipal capital financing -- and reserve policies in particular -- tends to elicit big "yawns" by most people but it has a critical impact to municipalities and demands periodic review as part of any continuing improvement process.