New London - Surrounded by city councilors and other city officials during a Friday evening press conference at City Hall, Mayor Daryl Justin Finizio announced a $12 million budget shortfall and said the city is "facing a significant budget crisis."

The city's fund balance, which stood at $6.3 million on June 30, 2010, will be reduced to $594,000 by June 30 this year, city Finance Director Jeff Smith said. About $1.3 million of the fund balance was needed to cover overspending during the 2010-11 fiscal year and $4.4 million is projected to be needed this year.

But the fund balance must total 8.3 percent of the city budget, Finizio said. So to replenish the fund balance and cover the budget deficit the city must find $12 million "to close that gap," he added.

That gap does not include any shortfalls in the Board of Education's $39.8 million share of the budget, Finizio said. The city's budget totals $81.9 million, including the school's portion.

"This is a very significant moment for the City of New London and represents a profound challenge," Finizio said.

To address the gap, Finizio ordered a hiring freeze, effective immediately, and said a supplemental tax bill, the possible sale of city property and a restructuring of debt are possibilities.

"I've ordered department heads to cut nonessential spending and appropriate cuts can be made, including in staffing," Finizio said. "... It's important for the public to know the worst-case scenario of what we're facing."

Finizio said that upon taking office Dec. 5, he asked department heads to assess their current financial states. "After initial reports showed irregularities and uncertainties, the city's financial advisers and auditors were called in and made a full assessment," he said. "That assessment was concluded this week."

Finizio did not say how the shortfall might have escaped notice until now, but Smith described what he said were overestimated revenues and underestimated expenditures for the past and current fiscal years.

"These are estimates and we're doing them six months in advance," Smith said. "We certainly feel we took a reasonable way we went about doing this."

The public works department, Smith said, is expected to overspend this year by $728,000, while debt service is estimated to be overspent by about $500,000. Fringe benefits may be over by $373,000, the fire department by $142,000 and the law department by $115,000, Smith said.

"A number of these departments ... rather than overexpended, they appear to be fairly significantly under-budgeted," Smith said.

Essential employees will still be hired, Finizio said, including an assessor, deputy fire chief, deputy police chief and a police captain.

"I do not anticipate any hires in the next month," said the mayor, who announced the hiring of an assistant city clerk and a records technician on Thursday.

Finizio would not comment on any specific land or city property that might be sold. The sale of a portion of Riverside Park to the U.S. Coast Guard Academy was narrowly defeated in a November referendum.

Finizio said the retirement contracts for former police Capts. William Dittman and Michael Lacey - both of whom left the city department earlier this month and will each be paid about $1,700 a week through July 1 - were negotiated "in good faith" and are binding contracts.

"When those agreements were entered into, we had a very different picture of what our financial condition is, but obviously with this new information being confirmed for us, no further such arrangements will be made with any city employee because of our current condition," Finizio said.

City Council President Michael Passero said afterward that it was "another ambush, another Friday night press conference. Nothing good ever comes of them.

"We've been trying to get this information for weeks and the council has not been given any information from this administration," Passero said. "We get it five minutes before the grand news conference.

"The way this should have happened is the finance director should have been working with us, at an open meeting, like we're running a democracy and working on these issues. We've worked through other deficits and we'll survive this one, but first there has to be transparency."

Councilor Adam Sprecace, a member of the council's Finance Committee for four years, said he is "skeptical" of the numbers and has many questions that remain unanswered.

"I have never seen a deficit like the one presented tonight," Sprecace said. "Some of the documents (councilors received) are different than those presented during the budget process."

The council's finance committee met on Tuesday and reviewed a Dec. 31 report that gave no hint of the problem the mayor reported Friday.

Reached by phone Friday night, former City Councilor Rob Pero, who served for 16 years and spent the last several as Finance Committee chairman, said the numbers Finizio presented seemed inflated.

"I want to see what (Finizio is) talking about," Pero said. "All he's done is spend, spend money to renovate City Hall, hired positions that were not in the budget we approved and he got rid of city employees and paid massive amounts in buyouts to get rid of them, and I want to see the proof of where the deficits are."

Finizio had called a special City Council meeting for 5 p.m. Friday to discuss "the potential purchase and sale of real estate by the City of New London,'' but the call for the meeting did not meet the requirements of the state Freedom of Information law so the meeting was canceled.

Instead, Finizio briefed groups of councilors on the city's financial situation prior to the 6:10 p.m. press conference.

s.goldstein@theday.com