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On March 23rd, the mayor transmits his budget to the Council, which then marks up the different agency allocations, has a big bull session (or three) where horses are traded to make the numbers work, and then sends it back to the executive for his approval. Every year, the mayor has to make a bunch of “very painful decisions,” which leaves advocates of all sorts feeling bitterly betrayed.

Last year was particularly bad, because Vince Gray had made election promises to different constituencies, and had to disappoint a few—-most notably the affordable housing folks, who are still sore about the $18 million that was taken out of the Housing Production Trust Fund, and a few other deep cuts (though the worst of them, to homeless services, was substantially restored by the Council).

This year, things look slightly better. Due to both fiscal austerity and a whack of unanticipated revenue from capital gains, income withholding, and estate taxes (thankyou, dead rich people), we ended up with a $240 million surplus in fiscal year 2011—-which advocates for housing, libraries, and other priorities immediately coveted. But Gray’s budget people are adamant it can’t be spent, because of a promise made to the Wall Street rating agencies that reserves wouldn’t be spent down. “It’s our reputation,” Gray has said on multiple occasions. 

As long as we’re on a basic level here, a reminder why that’s important: The District has to borrow some $900 million every year to cover the time between the fiscal year beginning and taxes coming in. A triple-A rating means we can borrow that money at the lowest possible interest rate. Right now, the District’s doing as well as it ever has, but there’s still room for improvement. One of the ways we can boost our rating is by borrowing less overall. Debt is now capped at 12 percent of the operating budget, but the agencies recommend it be no higher than 10 percent. So in the quest to impress the folks from S&P, Moody’s, and Fitch, that $240 million is a key talking point.

And, as budget director Eric Goulet never hesitates to remind people, D.C.’s still on probation: There are a number of budget-related triggers that would lose the District its independence. Back in 2008, as he told a group convened by the Fair Budget Coalition this afternoon, Adrian Fenty‘s administration had spent down the city’s reserves to a point where they almost had to borrow at disastrously high interest rates, which could have meant leaving key obligations unmet.

“All we need is to not be able to make a payroll in this city,” Goulet said, “and the Control Board comes right on back.”

Hyperbole? Probably. But that’s how the thinking goes.

Anyhow: The Chief Financial Officer just put out its hotly-anticipated revenue estimate, which shows that we’re not in as much trouble for fiscal year 2013 as we’d expected. What looked like a $150.6 million deficit back in December is down to about $115 million, due in part to a rosier outlook of how federal cuts will impact the region.

Still, that’s not nothing. Budgets were scrubbed last year, meaning there’s no obvious fat to cut. The majority of the District’s budget goes to police, fire, Medicaid, and schools—-which are considered untouchable. And the Council also saw fit to raise some taxes, which means there will be little appetite to do so again.

“Everything we did last year, all the cuts and all the increases, are built into the budget,” Goulet said. “So we’ve got to go deeper now. And that’s a big challenge.”

It’s also bad news for the Fair Budget Coalition, which has asked for various restorations and investments that require more cash, not less.

The D.C. Fiscal Policy Institute’s Ed Lazere, who tends to set the agenda for budget advocacy season, has some ideas for avoiding painful cuts: Not dedicating a percentage of future revenue to fund capital projects, asking universities to pay some kind of payment in lieu of taxes, expanding the sales tax to more services, taxing all new commercial property refinancings, and increasing the floor on property taxes. A representative from the Employment Justice Center also proposed another hike on high-income earners, after last year’s relatively modest income tax increase.

But at least from Goulet’s perspective, those are highly unlikely. The income tax especially, which he figures doesn’t so much prompt rich people to move out of the District as it does to make them simply dodge payment. “At some point, there becomes a tipping point, where the people with means don’t pay taxes in the city anymore,” Goulet says. “If someone now says, ‘I live on my horse farm in Virginia,’ it’s very hard to disprove that…We want to keep the wealthy here, to the point where they pass away.”

Lazere protested that if they were going to seek tax shelter, they would’ve already done so in Florida, which has no income tax. But he’s not the one drawing up the budget. And there are some big fights to come.