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When the Budget Numbers Don't Add Up

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Accountants approach education like anyone else, from the standpoint of quality. We care about what kids learn. We also know a bit about numbers, numbers which can tell us the financial health of both local school districts and state education systems. We know that sound fiscal practices are an integral part of our children's learning. When the numbers don't add up, education suffers.

This perspective is particularly important as education's importance to our economic well-being increases and state and local governments find it increasingly hard to generate year-to-year funding increases at the pace of the 60's and 70's. So what can the numbers tell us about the future, in which one of the only certainties is that education budgets will remain tight?

Plenty. The numbers point to difficult times for education in my home state of Minnesota, as well as across the country (the data in this essay are based on my accounting and auditing experience with dozens of school districts in Minnesota and across the United States). First, the financial health of many school districts is significantly worse than has been documented. Second, the outlook for K-12 funding is not very good.

Let's start with school districts. There is a strong feeling within the accounting profession that even though schools may be "balancing'' their budgets, they are not really living within their means. For years, schools have been able to:

  • Provide unlimited vested carry-forward of unused vacation and sick-pay benefits payable at retirement, meaning that school districts can require future taxpayers to pay for unused vacation benefits earned today.
  • Not record as a current-period cost such items as court judgments, self-insurance claims, and other obligations that are paid subsequent to year end.
  • Offer expanded retirement benefits, including early retirement at age 55 and post-employment benefits like health insurance, but only record the expenditure when paid instead of when earned.

Many of these practices will come to a halt in 1994-1995, when a number of major Governmental Accounting Standards Board pronouncements, known as the "big bang,'' become effective. This is good news in that the gimmicks used previously to shift the burden of providing current-year's service to future-year's taxpayers will no longer be used. But many school districts will be unpleasantly surprised to discover how little a cushion they truly have in their general fund, if one exists at all.

A good example of this in Minnesota is the budget-balancing gimmick known as the property tax "shift.'' Since the tax "shift'' started in 1983, Minneapolis schools, for example, have had a decline in state aid offset by an increase in the recognition on paper of property tax and revenue from 24 percent of one year's property-tax revenue to 50 percent. This "shift'' has forced the district to increase short-term borrowing in the general fund to pay operating costs--borrowing that changed from zero in 1982 to $32 million in 1992, and is expected to be $50 million in 1993.

The tax shift is essentially a reduction in state aid offset by a paper entry which allows school districts to recognize a percentage of annual property-tax revenue as revenue in the current year, rather than the next school year. While technically allowable, the shift has:

  • Created the need for significant short-term borrowing for which the interest cost reduces school district revenue available for the classroom.
  • Dramatically overstated the fund balances of Minnesota school districts as compared with those in other states which follow more conservative accounting policies.
  • Raised significant concerns by ratings agencies, such as the report issued on the Minneapolis/St. Paul Metropolitan School Districts in May 1992 by Moody's public-finance department. The report found districts "rolling over'' increasing levels of short-term debt to pay off outstanding debt; Moody's responded by lowering the financial ratings of seven of the 40 metropolitan districts. Moody's has indicated that it will watch any further increase in short-term borrowing closely.

I believe there is a significant difference between what school districts say their financial condition is and actuality. And anyone who thinks that committed state policymakers will help make up the differences should think again. In fact, one-time accounting changes made to balance the 1992 Minnesota budget totaled $178 million in increasing the tax shift for K-12 education. That's just for starters. Add to that continuously increasing human-services expenditures (predicted to be up by 31 percent over the next two years, primarily due to health-care costs), and the state could face a deficit of over $1 billion. I know of few states around the country which are not facing ongoing budget problems.

Any way you look at it, the numbers tell us that education will get hurt in the future. What are the solutions? In the short term, school districts themselves need to follow management practices that eliminate the gap between their perceived and actual fund balances. But there is also a more comprehensive solution to the impending funding nightmare: I propose in Minnesota that the state government fund 75 percent or more of noncapital K-12 education costs. To offset this, districts and municipalities would be on their own in funding capital education and debt-service costs, as well as important items like health care and police and fire protection.

This proposal would be a drastic change, but from a numbers and business point of view, we must realize that education is our highest priority. Far too many kids in the United States do not graduate from college. We have no choice if we are to compete nationally and internationally: Our K-12 education simply has to be outstanding.

Currently, the numbers don't look good for Minnesota education--and education around the country. Serious discussion of these issues must happen before state budget talks begin, if we are to have a true understanding of the size of our education-finance problem.

Cliff Hoffman is a partner at the Twin Cities office of Deloitte & Touche, an international accounting, tax, and consulting firm.

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