Author: Carl Dietz, Director, Public Finance and Matt Fisher, Director, Public Finance
As our economy slowly begins to reopen following this unprecedented economic shutdown brought on by the COVID-19 pandemic, it’s exciting to think about once more being able to go out and enjoy a meal in a restaurant or visit family and friends. Better yet, think about the joy we will experience when our school buildings are once again filled with students and staff members who have a renewed appreciation for our education systems. Keep those enticing thoughts in mind to help move you forward, but don’t lose sight of the possible challenges that lie ahead for those of us in the school business.
Through these trying times, most school districts have been able to pay their bills and keep the majority of their teachers and staff employed as they are not dependent on sales to produce operating revenue. While this surface level analysis regarding schools is accurate, there are a host of other factors that will ultimately have a lasting impact on future operations. This article seeks to help leaders in our education system begin to think about the financial challenges they may encounter as a result of the recent COVID-19 outbreak.
STATE RECEIPTS AND AID: According to the State of Nebraska Comprehensive Annual Financial Report dated June 30, 2019, 62% of state receipts come from income taxes and 35% from sales and use taxes or $2,969,417,610 and $1,658,107,134, respectively. Every 1% decrease in income tax receipts equates to an approximately $29,000,000 decrease in State revenue, and a 1% decrease in sales taxes receipts will equal a roughly $16,000,000 decrease in revenue. According to the State of Nebraska Annual Budgetary Report filed for the year ended June 30, 2019, the State spent $1,523,764,650 for K-12 education or 26% of the total budget.
With over a quarter of the State’s budget allocated to support education, you can see where this is going. Districts heavily dependent on state aid may expect to see a decrease in state funding for K-12 education now and possibly more significantly in the upcoming years. Cuts in state funding will not be evenly distributed, but every school district will be impacted to some degree.
SCHOOL DISTRICT RECEIPTS: Statewide, districts receive 56% of their funding from local sources, with 50% of the total funding for schools in Nebraska coming in the form of local property taxes. State funding produces 37% of the dollars that support schools in Nebraska, with 26% of the total revenues for schools coming in the form of equalization aid. As we look at receipts across the state as a whole, only 5% comes in the form of federal funding.
With over half of school funding in our state coming from one source, it is easy to recognize we are heavily dependent upon property tax receipts. In these rather unusual times, how reliable is this funding source going to be for our school districts? As we think about this cornerstone of school finance, there are a variety of factors that come into play.
Those who live in districts closely linked to production agriculture have been experiencing a significant lag for a number of years. According to a recent article by Farm Bureau, “global economic uncertainty has pushed the price of crude oil down by more than 60% and the price of ethanol by nearly 40%. Lower ethanol prices are pushing ethanol production into the unprofitable column.” With a large part of the corn raised in Nebraska being used for ethanol, one can predict the impact this may have on Nebraska school districts.
While corn production is a huge part of the economy in Nebraska, an even bigger piece is beef production and processing. Declining cattle prices have plagued this segment for the past few years. Now factor in the packing plant issues brought on by the COVID virus and you have a major issue. If farmers and ranchers cannot make a profit, local tax receipts will see a twofold slip. The long-term impacts of struggling commodity prices may be decreased property valuations to support our schools. The second, more immediate impact, will be delinquent and unpaid property taxes. School districts that are not heavily dependent on ag production may encounter similar property tax issues on the horizon as well. Businesses across every sector will feel the impact brought on by shutdowns throughout the world. Consequently, there will likely be a slide in commercial property values, and almost certainly a lag in business owners’ ability to make property tax payments.
PROPERTY TAX RECEIPTS: How could this impact local districts? To simplify, if the district's current valuation is $1,000,000,000, every 1% decrease in valuation equals a decrease of $100,000 at a $1.00 levy. Districts of this size can likely absorb a $100,000 loss. However, if that is an 8% decrease in valuation, the loss of $800,000 will be difficult to offset. For example, let’s say a district has a total valuation of $500,000,000, which can generate $5,000,000 with a $1.00 levy. Many districts have already experienced a 4%-5% decrease in valuations the past two years, so many tax levies have been already been increasing. A 4% decrease this year would put your local valuation at $480,000,000. Now that $1.00 levy only nets you $4,800,000 in tax receipts or a decrease of $200,000. For a district with minimal cash reserves, a $200,000 decrease in revenue could mean possible program reductions in the upcoming years, unless there’s room to increase the levy.
Declining property tax valuations have been impacting schools across the state for several years now. One would expect the strain placed on all sectors of the economy to accelerate this decline in many areas. This lost revenue can be accounted for in the budgeting process once valuations are certified in August. A much less predictable factor in the property tax revenue stream will be unpaid and delinquent taxes, which may challenge schools to potentially ask for more taxes than they anticipate needing in order to make up for shortfalls in tax collections. A few questions may come to mind as leaders within our school districts. Such as, “how much extra should we ask for given our reliance on local property taxes?” Or, “do we feel that we can do this in these tough times?”
STATE AID TO EDUCATION: Districts more dependent upon state funding will potentially see a drop in these revenues as well. Forty-nine percent of state receipts come from sales taxes and 46% from income taxes. Twenty-six percent of state expenditures go to K-12 education, 8.76% to higher education and 34.8% goes to Medicaid. Additionally, 3.70% of state expenditures last year were directed toward property tax credits. With unemployment potentially rising at unpredictable levels, it is certain that income tax receipts will decrease in the near future. Additionally, some cities may potentially see a significant decline in sales tax receipts as well. These factors combined could spell doom for state receipts.
Since the legislature has suspended the current legislative session there is no way to gauge if there will be any impact on the funding mechanisms for the 2020-21 school year. Because state aid was certified, we have to hope the state will fund at the level indicated. However, there is no doubt that meeting this obligation and others will force the state to dip deeply into reserves. Consequently, moving forward, the state will have less room to offset funding shortfalls. When you combine this with the downturn in revenues set to drop in sales and income tax, we can begin to see a clear picture of less money allocated to supporting schools in 2021-22.
WHERE DO WE GO FROM HERE: As school boards and administrators work through the budget process, they will have a number of tough questions to consider. Is our general fund cash position healthy enough to absorb a significant loss in revenue without cutting essential programs? If we currently live month-to-month, how much will we need to increase revenue via levy increase or can we decrease expenses? Do we dare increase our property tax ask to offset anticipated lag in tax collections? Are there projects we have set aside dollars for that we need to put off so we can borrow from other funds if things get tight? How will this figure into future negotiations?
Nebraska schools have always shown a great resiliency that is reflective of the leaders and community members in our state. Anticipating the challenges ahead and making sure you have long-term financial plans in place is crucial during these times. Each school district will be forced to take a hard look at everything they are doing and make decisions based on current reality and future predictions over the next several years.
ABOUT THE AUTHORS: Carl Dietz and Matt Fisher are both recently retired superintendents. Each of them had lengthy careers as educators in Nebraska. Currently, they work with First National Capital Markets, Inc., providing financial assistance and support for schools across the State.
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This material does not constitute legal, tax, accounting or other professional advice. Although it is intended to be accurate, neither the publisher nor any other party assumes liability for loss or damage due to reliance on this material.