State Financing of Virginia K-12 Public Education

1. State Financing of Virginia K-12 Public Education Virginia Association of School Superintendents Fiscal Analytics, Ltd. October 25, 2016

2. 2016-18 GF Appropriation Prospects Are Based on Available Revenues • $279 million FY 2016 GF revenue shortfall. 1.7% actual growth vs 3.2 percent forecast. Shortfall affects 2016-18 budget. - Income tax withholding grew 2.4% versus 4.1% forecast • Non-withholding grew 0.9% versus 1.9% forecast. • Sales tax grew 1.9% versus 4.1% forecast • New interim revenue forecast of 1.7% in FY 17 (3.2% previously) and 3.6% in FY 18 (3.8% previously). • $861 million shortfall for FY 2017 (incl. the FY 2016 shortfall) and a $654 million shortfall for FY 2018 currently forecasted. Forecasts updated in December. • $125.1 million in state employee, state-supported local employee and teacher salary ($49.0 mil.) increases cancelled as required by law. Another $221 million in contingent salary increases ($85.3 mil. for teachers) are cancelled for FY 2018. • Use of Rainy Day Funds ($392 mil. FY 17 and $216 mil. FY 18) will also be available to help cover shortfall. • Governor’s has announced plan to address FY 2017 shortfall. Without an increase in revenues, expect balancing FY 2018 to be more painful. 2

3. GF Revenue Growth is Lower than Past * Does not include GF transfers 3 3 3

5. Income Tax Non-Withholding Revenues Are More Volatile, Amplifying Economic Changes and Making Revenue Forecasting Difficult Non-withholding Withholding Note: Non-W % of total GF revenues: 15.4% in FY 14; 17.1% in FY 15, 17.0% in FY 16 5 5 5 5 5 5 5 5

6. 1St Q Year-to-Date FY 2017 GF Revenue Collections

7. U.S. Defense Spending (CBO Data) $ Bil. Change FFY 2011 678 FFY 2012 651 - 4.0% FFY 2013 608 - 6.6% FFY 2014 578 - 4.9% FFY 2015 563 - 2.8% FFY 2016 564 Theories for Recent Slowing Virginia Revenue Growth • “Business and professional services” jobs are showing slower wage gains. • More retiring workers replaced with lower paid jobs and younger workers. • More lower paid administrative positions. • Decline in labor force participation – retiring “baby boomers” • Continuing slowdown in defense spending particularly hurts Virginia. DoD Virginia contracts declined 30% from 2011-15. 7

8. The State Has Also Reduced Its GF Tax Base by $2 Bil. 8 8 8 8 8 8 8 8 8 8 8 8 8 8 8

9. Where Will GF Budget Cuts Take Place? 9 9

10. Governor’s Plan to Balance FY 2017

11. FY 2018 Budget Balancing More Painful Without Additional Revenue Growth • FY 18 $654 mil. revenue shortfall, increased by loss of $70 mil. FY 17 balance forward used in Governor’s plan, offset by $221 mil. contingent salary increase and $216 mil. RDF drawdown. • One-time balances/NGF will not be available to solve FY 2018 budget imbalance. • Additional Lottery and Literary Funds may not be available. • Additional accelerated sales taxes would require painful choices. FY17 proposal restores dealers from $2.5 mil. to $10 mil. in sales. • Additional spending requirements not currently in budget are likely. • Sum sufficient request for CSA is $24 mil. in FY 17 and $35 mil. in FY 18. In addition, policy changes are being considered to create “greater alignment between decision-making (school division IEP teams) and financial responsibility (CSA).” • Additional funding for State Police STARS telecommunications equipment ($12 mil.). • Will Medicaid forecast increase due to increase in utilization/costs?

12. Slow Revenues Combined With Growing Medicaid and Debt Service Are Squeezing Rest of State Budget

13. Will Medicaid Spending Forecast Increase? 13 13 13 13 13 13

14. 14 14 14 14 14 14 14 14 14 14 14 14 14

15. 15 15

16. Actual Inflation- Adjusted 16

17. How Did K-12 Funding Fare in the 2016-18 Adopted Budget? • K-12 direct aid funding has dropped from 35 percent of all GF spending in FY 09 to 29 percent in FY 16 and up slightly to 30 percent of the adopted budget by FY 18. • The adopted 2016-18 biennium increased K-12 GF by $939 mil., representing 39% of all new funding ($2.43 bil.), and slightly more than K-12’s current share of all general funds. • - This will decline with the $134 mil. loss of teacher and support staff salary increases. • K-12 was increased an avg. 5.6% per year in the 2016-18 adopted GF budget versus half that in the 2014-16 biennium. • FY 18 K-12 funding is still lower in inflation-adjusted per pupil $ than 10 years ago.

18. Major 2016-18 New K-12 Funding • Rebenchmarking provided about $400 million of the $850 mil. GF above base budget K-12 funding for the 2016-18 biennium. • $173.5 mil. GF to free up supplemental lottery per pupil allocations. • $134 mil. for state share of 2% teacher salary increases in Dec. 2016, contingent on available revenues. • $56.8 mil. to fund higher employer contribution rates for instructional retirement benefits (100% of the recommended VRS rates in FY 2018 - 14.66% to 16.32%). • Note: The covered “teacher” VRS salary base will be approximately $7.9 bil. in FY 18. Localities are responsible for about 60% of that salary base. The additional 1.66% rate increase will cost localities about $80 mil. • $34.4 mil. to restore PD8 COCA for support positions at 10.6% in both years. • $14.2 mil. for additional at risk student funding based on numbers of free lunch students, and contingent on applicable schools submitting any required corrective action plans. • $10 mil. GF to decrease the Literary Fund transfer for teacher retirement. • $5.0 mil. for career and technical credentialing and equipment. • $4.6 mil. to expand VECF grants. • $2.9 mil. to increase VA Preschool Initiative per pupil from $6,000 to $6,125. • $2.1 mil. for grants for develop alternative teacher compensation systems.

19. State K-12 Policy Changes Adopted to Reduce Funding Since 2009 19 19 19 19 19 19

20. State Standards of Quality Do Not Reflect True Costs for Local K-12 Divisions • Only 67% of statewide K-12 positions are funded by the SOQ (locals also pay bulk of VRS costs); The “linear weighted average” methodology underfunds 85% of teacher’s salaries (in 2/3 of school divisions); real-time costs not reflected in re-benchmarking; support costs underfunded or no longer paid. • - Just raising SOQ teacher salaries to the national average and funding prevailing support costs requires an additional $750 million GF/year. • - SOQ currently funds only 2,600 out of 19,000 teacher aides and 923 out of 2,554 assistant principles. • Localities on average spend about double, or $3.6 bil. beyond state requirements to meet SOL and SOA requirements. All 134 local school divisions exceeded Required Local Effort (RLE) in FY 15 Source: http://www.doe.virginia.gov/school_finance/budget/required_local_effort/2014-2015.pdf 20 20 20 20 20 20 20 20 20

21. Literary Fund Is Largely Used for Teacher Retirement * Incl. special one-time payment of $193 m in FY 15 ** Loans may be made from available balances 1. Revenues come from criminal fines, fees and forfeitures, unclaimed and escheated property, unclaimed lottery winnings and repayments of prior Literary Fund loans. A principal balance of $80 million must be maintained in order for other Fund money to be used for teacher retirement fund. 21 21 21

22. FY 2018 Is the First Time in Many Years VRS Rates Will Be Fully Funded Rates Needed Contributions Needed Contributions Paid Total Underfunding of VRS Teacher Contributions from FY 2001-17 = $3.6B

23. More Difficult and Diverse Student Population to Educate • 163,000 Special Ed Students (13% ) • Changing Student Demographics • More At-Risk Students 23 23 Source: Virginia Dept. of Education

24. Source: Virginia Dept. of Education

25. The Achievement Gap Persists Over 20 Percent of All Schools Not Fully Accredited (2015-16) 25 25 25

26. Virginia Board of Education Is Currently Conducting Its Mid-Biennium SOQ Review • BOE recommended SOQ funding changes have not been adopted by the General Assembly for many years. • Currently examining where local practices exceed state recognized staffing practices. • The Board’s SOQ Standing Committee is currently considering $500+ million in SOQ annual state support changes: • A staffing ratio of 1 to 400 students for assistant principals. • One full-time principal in each elementary school. 12 percent of schools have under 299 students and are only provided funding for a part-time principal. • Staffing ratios for school counselor’s (1 to 250); school psychologists (1 to 1,000); school nurses (1 to 1,000); and school social workers (1 to 1,000). • Restoring the funding of support positions using prevailing practices rather than the support position cap (1 support per 4.17 SOQ funded teachers) put in place in 2009. 26

27. Since Recession, Locality Resources Have Not Kept Pace with Inflation/Population Growth FY 2009 - FY 2015 VA Locality Revenue Growth Note: Consumer Price Index from fiscal years 2009-15 = 10.6% Note: Pr. Wm. increase in state aid from FY 2009-15 was almost entirely due to a 20% increase in students and a 6 point reduction in the local composite index from 0.4441 to 0.3822. Sources: Virginia Auditor of Public Accounts Comparative Revenue and Expenditure Reports, U.S. Bureau of Labor Statistics 27 27 27 27 27 27

28. ? 28 28 28

29. Even Slow Real Property Revenue Growth Has Required Sharply Rising Rates * Nominal rates per $100 of assessed value. Source: Weldon Cooper Center, “Virginia Local Tax Rates”

30. Despite Local Fiscal Issues, the Burden of the State-Local Fiscal Partnership is on Localities Source: Virginia Compared to Other States, JLARC, 2012, 2015 Editions 30 30 30

31. Understanding the Local Composite Index • The Local Composite Index (LCI) determines the distribution of all state K-12 funding except the sales tax school age population distribution. • The LCI dates to the 1970’s and purports to measure a locality’s residents basic capacity or ability-to-pay for K-12 education versus other localities. It does not measure or compare the actual level of revenue generated by a locality. • The LCI computes the locality’s relative state share of three revenue capacity indicators – true market value of real estate (50% weighting), Virginia Adjusted Gross Income (40%), and taxable sales (10%). The capacity indicators are then divided by a localities’ relative state share of public school ADM (66.6%) and population (33.3%). • Finally, the calculation is multiplied by 0.45 to get the relative 45% local/55% state weighted average share of SOQ costs. • The result is the local composite index applied to the SOQ and other state education funding programs for local cost sharing purposes. The maximum LCI calculation is capped at 0.80.

32. There is an adjustment to the standard calculation for localities with non-resident income is above 3 percent of VAGI: 33 localities in 2016-18 have their LCI adjusted by removing non-resident income from VAGI. • Each localities’ LCI is used to determine the percentage of Standards of Quality and other K-12 program funding that will be borne by the state and the share that will be borne by the locality. • Except for sales tax distributions based on school-age population, state K-12 aid amounts are influenced by the LCI calculation. Therefore, about $5 billion in annual state aid to localities is influenced by the LCI. • The only changes adopted to the LCI since its inception has been adding one-third population to the denominator in the 1980’s and the non-resident adjustment to VAGI. • - Hold harmless funding was provided in FY 2011 to help mitigate the impact of large LCI changes for 95 school divisions.

36. Common Complaints Concerning the LCI Calculation • “Revenue effort” (or tax rate levels) necessary for locality to fund other needs not captured in LCI. - Health & human service/poverty levels, public safety, infrastructure needs, etc. not captured in LCI. • VAGI can be skewed with “bar bell” distribution of income. • TVRE and VAGI influenced by cost-of-living. • Local land use decisions not reflected in TVRE. • Localities with smaller student populations relative to its overall population have a higher LCI. - Those localities penalized twice by per pupil state SOQ payments, plus a higher LCI. 36

37. K-12 Funding Recommendations • Prioritize restoring state K-12 funding in the state budget. - At least restore calculations of prevailing school division practices in the state SOQ to meet SOL and SOA mandates. - Address low teacher salaries and turnover and provide incentives for attracting high quality teachers (esp. in hard to staff schools and subjects). - Direct more funding to school construction, equipment and technology tools for 21stcentury teaching. - Increase efforts to improve low-performing students, and provide more career and technical education options. • Modifying the LCI is a zero-sum game and politically difficult. Targeted changes, such as the current non-resident VAGI adjustment, or population density adjustment proposed by JLARC, may be possible if they do not increase other divisions’ LCI. A better solution would be to adopt a real foundation funding state model of school financing. • Examine existing state tax preferences and compare cost/benefits to enhancing K-12 funding. • Provide additional revenue options for localities.