Print this Article

LAO Reviews Two Decades of School District Fiscal Oversight and Intervention, Deems System "Effective"

May 3, 2012

Editorís Note: On Monday, the state Legislative Analystís Office released a report assessing the stateís fiscal oversight for K-12 school districts. The LAO said ďOur review indicates that the oversight system has been effective in preserving school district fiscal health and preventing districts from requiring an emergency loan. Most notably, during the more than 20 years the new system has been in effect, eight districts have received emergency state loans whereas 26 districts required such loans in the 12 years prior to the new system.Ē Here is the summary of the report, and a link to the full report.

This report provides an overview and assessment of the state's comprehensive system for monitoring the fiscal condition of school districts. Under this system, County Offices of Education review the fiscal condition of school districts at several points during the year and provide additional support for districts showing signs of fiscal distress. In the most serious case—when a district no longer appears able to meet its financial obligations—the state provides the district with an emergency loan and assumes administrative control. Our review indicates that the oversight system has been effective in preserving school district fiscal health and preventing districts from requiring an emergency loan. Most notably, during the more than 20 years the new system has been in effect, 8 districts have received emergency state loans whereas 26 districts required such loans in the 12 years prior to the new system.

Additionally, the number of districts experiencing fiscal distress has increased in tight budget times, but without a corresponding increase in the number of emergency loans required. This suggests the system’s structure of support and intervention is serving a critical early warning function—allowing districts to get the help they need while fiscal problems tend to be smaller and more manageable. Given its effectiveness, we recommend preserving the existing system, as it has shown to be a vital tool for fostering the ongoing fiscal well-being of districts.

The primary goal of this system is to ensure that school districts can meet their fiscal obligations and continue educating students. In recent years, the system has received considerable attention as the economic downturn has presented school districts with significant fiscal challenges.

System Consists of Monitoring, Support, and Intervention. The fiscal oversight system established by the state in 1991 makes County Offices of Education (COEs) responsible for the fiscal oversight of all school districts residing in their county and requires them to review a school district's financial condition at various points throughout the year. If a school district appears to be in fiscal distress, COEs, and in some instances the state, are granted various tools designed to help the district return to fiscal health.

Fiscal Distress Often Linked to Unsustainable Local Bargaining Agreements and Declining Enrollment. School districts with several consecutive years of operating deficits tend to be the ones most likely to be experiencing fiscal distress. This is particularly the case when districts run deficits during good economic times, as these districts will have a smaller cushion to deal with unanticipated cost increases or funding reductions during an economic downturn. Prolonged deficit spending often is linked with unsustainable local bargaining agreements. Given employee costs are the largest component of a district's budget, bargaining agreements that increase district costs at a faster rate than school district funding are particularly problematic. School districts with declining enrollment also are more likely to have fiscal problems, since the district's funding typically will decrease at a faster rate than its costs and require reductions even during good economic times.

Fiscal Oversight Process Begins With COE Review of Locally Adopted District Budget . . . To provide a consistent framework for assessing fiscal health, COEs use a state–established set of criteria and standards. The first point of review in the school year begins when the COE reviews the school district's adopted budget. The COE determines whether the budget allows the school district to meet its financial obligations during the fiscal year. If the COE disapproves the school district's budget, the school district must make modifications and resubmit the budget for approval. Disapproved budgets are a rare occurrence (on average only three budgets are disapproved per year), in part because school districts typically understand what is required to receive budget approval.

. . . Continues as Districts Submit Interim Budget Reports at Subsequent Points in Fiscal Year. The COEs also must review the financial health of school districts at two points during the school year using updated revenue and expenditure estimates. These reviews are known as "first interim" and "second interim" reports. After reviewing a district's report, the COE certifies whether the school district is at risk of failing to meet its obligations for the current year or two subsequent fiscal years. A district in good fiscal condition receives a positive certification. By comparison, a district that may be unable to meet its obligations in the current or either of the two subsequent fiscal years receives a qualified certification. A district that will be unable to meet its obligations in the current or subsequent fiscal year receives a negative certification.

At Signs of Distress, COEs Authorized to Provide Support. When a school district is certified as qualified or negative, COEs may intervene in certain ways, including assigning a fiscal expert and requiring an update of the district's cash flow and expenditure estimates. In addition, COEs must review any new collective bargaining agreements and approve the issuance of certain debt. School districts with these certifications also are required to submit a "third interim" report. If the above interventions do not improve the district's fiscal condition, COEs can impose more intense interventions, including staying and rescinding actions of a school district's local governing board.

If District Cannot Meet Obligations, State Provides Emergency Loan and Takes Administrative Control. When a school district is unable to meet its financial obligations, the state provides it with an emergency General Fund loan. The school district then works with the state's Infrastructure and Economic Development Bank to issue bonds to repay the initial state loan. The district is responsible for paying the debt service and issuance costs of the loan as well as the salaries of various employees hired to provide administrative assistance to the district. From a governance perspective, the state Superintendent of Public Instruction (SPI) assumes all of the duties and powers of the local board and appoints a state administrator to act on his or her behalf. The primary goal of the state administrator is to restore the fiscal solvency of the school district as soon as possible. When the SPI and state administrator determine that the district meets certain performance standards and is likely to comply with its recovery plan, the local governing board regains control of the district and the state administrator departs. Until the loan is repaid in full, a state trustee with stay and rescind powers is assigned to oversee the district.

System of Oversight and Intervention Generally Has Been Effective. Over the last two decades, the state's fiscal oversight system has reduced the number of school districts requiring state assistance and has provided oversight and support while still primarily maintaining local authority. During the more than 20 years the new system has been in effect, eight districts have received emergency state loans. By comparison, 26 districts required such loans in the 12 years prior to the new system. Furthermore, to this point, no school district has required an emergency loan as a result of the recent recession and associated budget reductions. Additionally, while the number of districts with qualified and negative budget certifications has increased in recent years, the state has not seen a corresponding increase in the number of emergency loans required. This suggests the system's structure of support and intervention is serving a critical early warning function—allowing districts to get the help they need while fiscal problems tend to be smaller and more manageable.

Recommend Preserving System Moving Forward. Despite the system's effectiveness, state actions over the last three budget cycles temporarily have reduced the ability of COEs to identify districts on the road toward fiscal distress. Most notably, the state adopted legislation that prevented COEs from disapproving 2011–12 budgets if districts appeared unable to meet their financial obligations for the following two fiscal years. We recommend the state avoid additional actions that would diminish its ability to assess school district fiscal health, provide support for fiscally unhealthy school districts, and prevent the need for emergency loans. Although proper fiscal oversight is important at any time, it is particularly important in years during and following an economic recession, when districts are more likely to experience fiscal distress.

To read the full report, click on the link below:
http://lao.ca.gov/laoapp/PubDetails.aspx?id=2622

Source:  Legislative Analystís Office