School District 65 administrators presented financial projections at the Board’s Finance Committee on Feb. 5, laying out the District’s financial outlook for this and the next seven years. The projections take into account the additional funding that will become available through the $14.5 million operating referendum approved by voters in the April 4, 2017 election (the Referendum Funds.)
Absent the referendum, the District projected it would operate at deficits growing from $5.1 million in fiscal year ending June 30, 2018 (FY’18) to $24.4 million in FY’25. With the approval of the referendum, the new projections show the budgets will be balanced through FY’25.
After FY’25, though, the District may face significant deficits if the trends in the projections continue. “We are still facing a structural deficit,” said Kathy Zalewski, District 65’s Business Manager and Treasurer. “It still remains a problem.”
The Referendum Plan
Because of the way property tax installments are calculated, the District will receive approximately $22 million in Referendum Funds in FY’18. The District will then receive $14.5 million, plus an inflation factor (the CPI), in each subsequent fiscal year, as a result of the Referendum.
In the first four years, FY’18 – FY’21, the District plans to use a portion of the Referendum Funds to balance its operating budgets. In addition, in each of the first four fiscal years, the District plans to set aside a portion of the Referendum Funds in reserve to manage future operating budgets. It plans to set aside $13.4 million in FY’18; $5.0 million in FY’19; $5.7 million in FY’20; and $1.5 million in FY’21.
In the next four years, FY’22 – FY’25, after the entire amount of the annual Referendum Funds (the $14.5 million), are applied toward the operating budgets, the District is projected to operate at deficits as follows: $1.6 million in FY’22; $4.1 million in FY’23; $7.1 million in FY’24; and $10.2 million in FY’25.
The District plans to use the portions of the Referendum Funds that were set aside in reserve in FY’18 – FY’21 to balance the projected operating deficits in FY’22 – FY’25. The portion of the Referendum Funds that will be left remaining at June 30, 2025 will be about $2.6 million.
The green bars in the accompanying chart show the amount of Referendum Funds that will be set aside in reserve in FY’18, FY’19, FY’20 and FY’21, and the red bars show the amount of the set-asides that will be applied to balance operating deficits in FY’22, FY’23, FY’24, and FY’25.
Under the referendum plan, the District will also contribute $1 million of the Referendum Funds each year to the District’s fund balance to keep the fund balance at about 20% of expenses. District administrators say best practice recommends maintaining a fund balance of between 25% and 40% of expenses. Between FY’17 and FY’25, the District’s operating fund balance is projected to grow from $19.9 million to $34.5 million.
The referendum will also provide $500,000 each year for scheduled capital expenses, and an additional $525,000 each year for non-recurring capital building expenses. See article on page 25.
What About FY’26 and Beyond?
One key issue is what happens in FY’26? In that and in subsequent years, the District will still be receiving $14.5 million each year due to the Referendum, but by that time the Referendum funds set aside in reserve to balance future operating deficits will be exhausted, except for an estimated $2.6 million.
As previously noted, the District is depending on Referendum set-asides to balance projected operating deficits of $1.6 million in FY’22; $4.1 million in FY’23; $7.1 million in FY’24; and $10.2 million in FY’25.
If the trend continues, the operating deficit in FY’26 could be about $13.2 million, and there would only be about $2.6 million left from the Referendum set asides to go toward balancing that deficit.
The projected operating deficits are due to a “structural deficit,” said Mr. Zalewski. The projections assume that after FY’20, revenues will increase at the rate of about 2% per year, and that expenses will increase at the rate of about 3.5% per year, said Ms. Zalewski.
The difference in the rates at which revenues and expenses increase is the structural deficit.
“We have to address it [the structural deficit] to sustain our viability,” said Ms. Zalewksi. The only way to eliminate the structural deficit is to have the increase in revenues match the increase in expenses, she said.
Finance Committee Chair Candance Chow said the teachers’ contract negotiated in late 2016 tied the increase in base salaries to the Consumer Price Index (CPI), which was a step toward addressing the structural deficit because the increase in property tax revenues is tied to the CPI.
The projections assume the CPI impacting FY’20 and subsequent years will be 1.5%. If the CPI increases to 2.5% or higher, it would enable the Board to address the structural deficit, in whole or in part, by increasing property taxes.
A memo prepared by Ms. Zalewski says the District plans to address the structural deficit by containing costs. Starting in FY’19, the memo says, the District will address the structural deficit by:
• Implementing a Priority/Equity budgeting model, which looks at equitable funding of schools and individual needs of students. This model will analyze staffing-expenditures.
• Continuing to use the zero based budgeting model for non-personnel expenditures.
• Analyzing contractual costs by renegotiating vendor contracts and eliminating waste.
• Reducing the cost of staffing by offering retirement incentives, attrition, and hiring less seasoned teaching staff.”
Raphael Obafemi, Chief Financial Officer and Operations Officer, said the District has already begun to examine the District’s contracts with vendors and is attempting to increase efficiencies and obtain price concessions. These will begin to show up in the FY’19 budget, said Ms. Zalewski.
Ms. Zalewski’s memo says that dealing with the structural deficit must be one of the District’s priorities, “but it must be done in accordance with the community standards of equity, including racial and social equity. All reductions in expenditures and changes to infrastructure programs need to be evaluated through the lens of equity.”
The financial projections are based on many assumptions. Several key assumptions relate to property tax revenues, which account for 78% of the District’s operating revenues, and salary and benefit costs, which make up 80% of the District’s operating expenses.
The District’s ability to increase property taxes, absent a referendum, is subject to property tax caps. The District may increase property taxes by the lessor of the Consumer Price Index (CPI) or 5%. The projections are based on the actual CPIs of 2.1% for FY’18 and FY’19, and they assume the CPI will be 1.5% for subsequent years.
The District is projecting that funding from the State, which accounts for 9% of the District’s revenues, should remain stable in future years in light of the recent legislation, which includes a hold-harmless provision.
The projected salary expenditures reflect increases agreed to in the latest contracts with the teachers union and teacher assistant association, which run through FY’19, and for other employee unions through FY’20 and FY’21.The total cost of salaries in subsequent years is estimated to increase by approximately 3% per year.
Health insurance premiums are projected to stay flat in FY’19 and increase by 5% in subsequent years. The remaining benefits are estimated to increase by approximately 3% per year.
The projections assume there will be a pension cost shift, starting at one-half a percent in FY’19 ($300,000) and increase by one-half a percent per year up to the total amount of 2% ($1.6 million in FY’21 and beyond).
Business Manager and Treasurer Kathy Zalewski says the projections are based on assumptions that are subject to change. Some of the biggest factors affecting property taxes, she says, are proposed property tax freeze legislation, which would operate prospectively, but which could have a significant impact on the District’s revenues. Another unknown is the CPI, which could be more or less than the assumed 1.5% rate. The future of pension cost shift legislation also remains unknown.
Administrators are also concerned about the potential loss or reduction of federal funds, which account for about 7% of the District’s revenues, said Ms. Zalewski.