STATE OF CONNECTICUT OFFICE OF THE STATE COMPTROLLER
Kevin Lembo State Comptroller	55 ELM STREET HARTFORD, CONNECTICUT 06106-1775	Martha Carlson Deputy Comptroller

February 28, 2014

To the Citizens, Constitutional Executive Officers, and Members of the Legislative General Assembly of the State of Connecticut:

It is a privilege to present the State of Connecticut Comprehensive Annual Financial Report (CAFR) for the fiscal year ended June 30, 2013. This report was prepared in accordance with Generally Accepted Accounting Principles (GAAP) as prescribed by the Governmental Accounting Standards Board.

Even though much of this report must be written in a rather formal and technical manner, my office has endeavored to present the information in a way that will help readers without a financial background to understand the State's overall fiscal position.

A national recession that officially commenced in December 2007 produced a pattern of job losses in Connecticut that began in the first half of 2008. These job losses persisted until the start of 2010 and claimed 121,200 payroll positions, which is just over 6 percent of Connecticut's labor force. By the close of Fiscal Year 2013, Connecticut had regained almost half of the jobs lost to recession. By contrast, the national economy had regained three-quarters of the recessionary job loss. The New England Economic Partnership estimates that Connecticut will regain all of its recession job losses by the second half of 2016. The pace of Connecticut's recovery is slower than that of other post-recession periods.

The overall growth rate of the national economy has been moderating over the past several decades, and Connecticut's economy has been following that same slower growth trend. From 1950 through the mid-1980s, there were numerous double-digit periods of growth in U.S Gross Domestic Product (GDP). Since that time, there has been a gradual downward slope in the GDP rate of growth. Likewise, Connecticut's personal income and employment growth rates have been less robust over time. In Connecticut, these broad economic trends have resulted in higher tax rates and the imposition of tighter spending controls.

The State's largest governmental fund is the General Fund. This is the fund most often referred to in media reports about Connecticut's finances. Over three-quarters of all governmental financial transactions relating to the cost of providing State services and the collection of revenues to pay for those services occur within the General Fund.

Fiscal Year 2013 ended with a General Fund surplus of $398.0 million on a modified cash basis of accounting. The Transportation Fund posted a modified cash basis surplus of $18.8 million in Fiscal Year 2013 and retained a fund balance of $164.6 million. After adjusting these operating balances to a GAAP basis of accounting, the General Fund surplus was $321.9 million in Fiscal Year 2013 and the Transportation Fund surplus was $19.6 million for the fiscal year. The GAAP adjustments to the modified cash results are summarized in CAFR-Note 2, - Budgetary vs. GAAP Basis of Accounting.

Of the total Fiscal Year 2013 General Fund surplus, $177.2 million was deposited to the State's Budget Reserve Fund bringing the present reserve balance to $270.7 million. In Fiscal Year 2009, the Budget Reserve Fund held a record high balance of almost $1.4 billion. This reserve was fully depleted in subsequent fiscal years as part of efforts to stabilize the budget as Connecticut recovered from the recession.

General Fund spending in Fiscal Year 2013 grew by 1.3 percent over the prior fiscal year. To put this level of growth into historical context, in the four fiscal years leading up to the 2008 recession, average annual General Fund budget growth was 7.3 percent. A decline in state employee payroll spending in Fiscal Year 2013 contributed to the slower growth. General Fund wage and salary expenditures in Fiscal Year 2013 were at their lowest level since Fiscal Year 2006. Due in large part to low interest rates, General Fund debt service spending was 3.1 percent below the previous fiscal year. The State's largest agency, the Department of Social Services (DSS), posted spending growth of 2 percent in Fiscal Year 2013. This is well below the growth of over 7 percent that had occurred in each of the two previous fiscal years. The General Fund contribution to the State Employees Retirement System was up 10.5 percent in Fiscal Year 2013. This accelerated contribution rate will help to lower long-term liabilities in the pension fund. Spending by the Department of Education grew by 4 percent in Fiscal Year 2013.

General Fund revenues advanced 4.5 percent in Fiscal Year 2013. The income tax, the largest single revenue source in the General Fund, grew 4.9 percent. The growth was largely driven by strong stock market performance and an increase in the federal capital gains tax rate that pushed future year gains into Fiscal Year 2013. The payroll component of the income tax, which accounts for 60 percent of total income tax receipts, was down slightly from last fiscal year. The more volatile components of the tax, estimated and final payments, grew 17.9 percent and 12.6 percent respectively. The inheritance and estate tax also experienced a significant revenue windfall in Fiscal Year 2013.

An essential component of growing Connecticut's economy is ensuring budget stability. Stabilizing the budget requires building adequate reserves to meet requirements during economic downturns. Since 1990, the State has accumulated revenue windfalls (revenue in excess of budgeted spending) of over $5 billion. However, budget reserves never exceeded $1.4 billion. My office has a long history of advocating for the set-aside of revenue windfalls into reserve funds that can only be accessed in the event of an economic slowdown. This strategy will ensure that State residents are not burdened with additional State taxes and reductions in vital services in difficult economic times, as has repeatedly occurred during past recessions.

Major Policy Initiatives and Priorities

Gun Violence Prevention
The Newtown School shooting that occurred on December 14, 2012 and left 26 people dead was a major focus of the 2013 legislative session. In response to this tragedy, bipartisan legislation was passed that expands the list of firearms prohibited in Connecticut, bans the sale of ammunition magazines that carry more than ten rounds, and imposes new eligibility requirements for purchases of all guns and ammunition. In addition, the Fiscal Year 2014 budget contained $18.9 million in additional spending for school safety initiatives, mental health services, and firearms enforcement activities.

Higher Education
Bond funding in the amount of $1.6 billion was passed for the Next Generation initiative at the University of Connecticut. This borrowing will pay for the construction of new science, technology, and engineering facilities. The University is preparing for a 30 percent increase in enrollment over the next decade. Funding is also provided for additional faculty to accommodate the anticipated near-term growth in enrollment.

Health Care Funding
Payments directed to the State's hospitals, largely for the treatment of uninsured individuals were cut by approximately $500 million over the Fiscal Year 2014-2015 biennium. The Affordable Care Act is expected to reduce the number of uninsured individuals seeking uncompensated care from hospitals. At the same time, the State's 14 community health centers will see an increase in funding over the biennium of $10 million. These centers serve a large number of Medicaid clients as well as the uninsured.

Office of Early Childhood
As part of an ongoing reorganization effort, the Office of Early Childhood was created. This new agency will consolidate programs and funding currently housed in the Department of Education, Department of Social Services, Department of Public Health, and the Board of Regents. By Fiscal Year 2015, approximately $275 million in total program spending will be reallocated to this new agency. These programs include: School Readiness, Head Start, licensure of day care centers, Care4Kids, CT Charts a Course, and the Children's Trust.

Economic Development Initiatives
An authorization of up to $100 million was made to the Small Business Express program. The Small Business Express Program (EXP) provides loans and grants to Connecticut's small business to spur job creation and growth. An additional $30 million in bonding was made available for brownfield remediation. And, up to $200 million was authorized for the new Connecticut Bioscience Innovation Fund that will finance a broad range of commercially viable bioscience projects.

Independent Auditor Opinions

As a Connecticut Constitutional Officer, the State Comptroller is responsible for setting state-wide accounting practices. Ultimate responsibility for the accuracy, completeness, and fairness of data presented in this CAFR, including all disclosures, rests with the State of Connecticut and my office. Connecticut statutes require an annual audit of the State's basic financial statements. These include statements prepared on the budgetary basis of accounting as well as statements prepared using GAAP. The State is also required to undergo an annual "single audit" for reporting to the Federal government. To meet all of these requirements, the State Auditors of Public Accounts have examined our financial statements and the appropriate supporting documentation.

The State auditors gave the CAFR for the State of Connecticut a "clean" opinion indicating they can state, without reservation, that the financial statements are fairly presented in all material respects in conformity with GAAP.

Profile of the Government and its Safeguards

The Nutmeg State
Connecticut became the fifth state of the United States on January 9, 1788. Its borders encompass 5,009 square miles. Within its compact borders, Connecticut has forested hills, urban skylines, shoreline beaches, and historic village greens. Connecticut is a thriving center of business as well as a vacation location. It is both a New England State, and suburban to New York City. The population of Connecticut was 3,596,080 in 2013 according to U.S. Census estimates. Five large cities, Bridgeport, New Haven, Hartford (the State Capitol since 1875), Stamford and Waterbury, have populations in excess of 100,000 residents.

State Government
Separation-of-Powers provisions of the State Constitution established the three branches of State government: executive, legislative and judicial. The executive branch, which is responsible for enforcing state laws, consists of six state executive officers: Governor, Lieutenant Governor, Treasurer, Comptroller, Secretary of State and Attorney General. All are elected to four-year terms.

Connecticut's General Assembly or legislative branch is responsible for creating new laws and consists of a Senate and a House of Representatives. There are currently 36 State Senators and 151 State Representatives. Members of the General Assembly are elected to two-year terms. Connecticut also elects two U.S. Senators and five U.S. Representatives.

The Judicial Branch is responsible for interpreting and upholding our laws as consistent with the State Constitution and legal precedence. The Judicial Branch consists of three levels: The Supreme Court, the Appellate Court and, at the lowest level, the Superior Court which is further divided by state law into Civil, Criminal, Housing and Family Divisions. Judges of the Supreme Court, the Appellate Court and the Superior Court are nominated by the Governor from a list of candidates submitted by the Judicial Selection Commission and are confirmed by the General Assembly. They serve eight-year terms and are eligible for reappointment.

The Reporting Entity
The State of Connecticut financial reporting entity includes all of the funds of the primary government and of its component units. The primary government includes all funds, agencies, departments, bureaus, commissions, and component units that are considered an integral part of the State's legal entity. Component units are legally separate entities for which the primary government is financially accountable. Discretely presented component units are reported separately in the government-wide financial statements, to emphasize that they are legally separate from the primary government and to differentiate their financial position and results of operations from those of the primary government. Information on the reporting entity is included in CAFR - Note 1, Summary of Significant Accounting Policies.

Internal Controls
Our State's internal control structure has been established to ensure that the assets of the government are protected from loss, theft, or misuse, and to ensure that adequate accounting data are compiled to allow for the preparation of financial statements in accordance with GAAP and State legal requirements. The internal control structure is designed to provide reasonable, but not absolute, assurance that these objectives are met. The concept of reasonable assurance recognizes that: (1) the cost of a control should not exceed the benefits likely to be derived, and (2) the valuation of costs and benefits requires estimates and judgments by management.

Budgetary Controls
The State Legislature prepares a budget for a two year cycle that contains estimates of revenues and expenditures for the ensuing two fiscal years. This budget is the result of negotiations between the Governor and the Legislature. Adjustments, in the form of budget revisions, executive orders, and financial legislation agreed to by the Governor and the Legislature, are made to the annual appropriations throughout the fiscal year. Budgetary controls are maintained at the individual appropriation account level by agency and fund as established in authorized appropriation bills. The objective of these controls is to ensure compliance with state laws embodied in the appropriations. The State Comptroller is statutorily responsible for control structures to safeguard revenues due the primary government, to determine the amount equitably due with respect to claims made and to ensure such expenditures are compliant with an appropriation contained in the budget for such purpose.

Budgeted appropriations are the expenditure authorizations that allow state agencies to purchase or create liabilities for goods and services. Before an agency can utilize funds appropriated for a particular purpose, such funds must be allotted for the specific purpose by the Governor and encumbered by the Comptroller upon request by the agency. Such funds can then be expended by the Treasurer only upon a warrant, draft or order of the Comptroller drawn at the request of the responsible agency. The allotment process, which includes limits on the power of the Governor to modify appropriations, preserves expenditure controls over special revenue, enterprise, and internal service funds and capital projects that are not budgeted as part of the annual appropriation act as revised.

The Spending Cap
In November 1992, electors approved an amendment to the State Constitution providing that the amount of budgeted expenditures authorized for any fiscal year shall not exceed the estimated amount of revenue for such fiscal year. This amendment thus provided a framework for placing a cap on budgeted appropriations.

Annual budgeted appropriations are capped at a percentage increase that is based on either the five-year average annual growth in the State's personal income or annual inflation, whichever is higher. Debt service payments, certain statutory grants to distressed municipalities, and appropriations required by federal mandate or court order are excluded from the limits of the cap.

The spending cap can be lifted if the Governor declares the existence of extraordinary circumstances and the General Assembly by three-fifths vote approves appropriations in excess of the cap. This has occurred in almost every year that the State has posted a budget surplus in the General Fund to enable the appropriation of surplus dollars that would have otherwise gone to reduce state debt and fill the rainy day fund.

Economic Condition and Outlook

The national economy as measured by real GDP grew at a moderate rate of just under 2 percent on an averaged quarterly basis during Fiscal Year 2013. Growth was especially slow during the middle half of Fiscal Year 2013, but improved in the final quarter with growth of 2.5 percent. The national economy has posted growth in excess of 3 percent in the first half of the new fiscal year and the outlook is for continued moderate growth.

Connecticut added 10,500 jobs in Fiscal Year 2013. Job growth in calendar year 2013 exceeded the pace set in 2012. At this writing, the State has been averaging just below 1,000 job additions per month. The strongest employment sector in the State has been education and health services followed by construction. The weakest job sector has continued to be manufacturing. Job losses have also been recorded in financial activities and government. The State's unemployment rate peaked at 9.4 percent in August of 2010. The unemployment rate at the end of 2013 was 7.4 percent. The New England Economic Partnership has projected that Connecticut will add 43,600 jobs by the end of 2015.

At the end of Fiscal Year 2013, Connecticut's personal income was growing at a quarterly annualized rate of better than 5 percent. However, the fiscal year also posted quarters of negative State income growth. Personal income in Connecticut grew at a rate of 0.8 percent (annualized rate of 3.2 percent) between the second and third quarters of 2013. This ranked Connecticut 37th nationally in quarterly income growth. Restructuring in the financial services industry including insurance, banking and money management will continue to constrain State income growth.

A recovery in Connecticut's housing market is underway. Sales volume in 2013 reached its highest level since 2006, and sales of both single family homes and condominiums recorded double-digit increases over last year. Median single family home prices grew at a more modest 2.8 percent rate in 2013 as foreclosure volume remained high depressing overall home prices. A housing recovery is an essential component of Connecticut's overall economic recovery.

Acknowledgements

I want to thank my staff, the State Auditors, and all of the agency personnel and others who contributed to producing this report. I also want to thank its readers who bring meaning to the work that we do.

Sincerely,

Kevin Lembo
Connecticut State Comptroller

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