Background

In this report, we analyze major budget issues affecting K–12 education, child care, and CCC, with a focus on Proposition 98 issues. Voters enacted Proposition 98 in 1988 as an amendment to the California Constitution. The measure, which was later modified by Proposition 111, establishes a minimum annual funding level to support K–14 education. Proposition 98 funding constitutes around three–fourths of total K–14 funding, with the remainder of support coming from federal funds, special funds (such as lottery revenues), fee revenue (such as CCC enrollment fees), and non–Proposition 98 state General Fund dollars (which are largely dedicated to debt service on school facilities and costs for teacher retirement).

Below, we provide some basic information about how Proposition 98 works and describe the Governor’s 2009–10 Proposition 98 proposals (starting with an overview and then highlighting proposals unique to K–12 education, child care, and CCC). In the next section of the report, we provide alternatives for balancing the K–14 budget. In the final section of the report, we lay out detailed recommendations relating to categorical reform, mandate reform, and cash management.

Proposition 98 Minimum Guarantee Driven by Formulas. The minimum Proposition 98 funding requirement—commonly called the minimum guarantee—is determined by one of three formulas. Figure 1 briefly explains these formulas (or “tests”). The five major factors underlying the Proposition 98 tests are (1) General Fund revenues, (2) state population, (3) personal income, (4) local property taxes, and (5) K–12 average daily attendance (ADA). In most years, the key determinants of the Proposition 98 minimum guarantee are changes in ADA, per capita personal income, and per capita General Fund revenues.

State Can Provide More or Less Than Minimum Guarantee. The Legislature can provide more or less funding is than required by the Proposition 98 formulas. For example, in 1999–00, when state revenues were booming, the Legislature decided to spend $1.8 billion more than the minimum guarantee. Alternatively, in 2004–05 the Legislature suspended the minimum guarantee and provided less than would have been required. To suspend the minimum guarantee requires a two–thirds vote of the Legislature and creates out–year obligations due to the constitutional requirement to accelerate growth in future years until overall K–14 funding is back to where it otherwise would have been absent the suspension.

Governor’s Proposition 98 Budget Proposal

As shown in Figure 2, the Governor’s 2009–10 budget includes $54.9 billion in Proposition 98 funding for K–14 education, a 7 percent increase from the proposed 2008–09 spending level (but a 6 percent decrease from the enacted 2008–09 budget). The various components of the Governor’s budget–year Proposition 98 plan are discussed below.

Governor Assumes Approval of Lottery Ballot Measure. The Governor’s 2009–10 budget assumes voters will approve a ballot measure to securitize profits of the state lottery. As part of the securitization, the measure would eliminate direct payments from the lottery to K–14 entities. In order to hold schools and colleges harmless for this change, the ballot measure requires an increase in the Proposition 98 minimum guarantee comparable to the amount of lottery funds K–14 entities received in 2008–09. In the near term, the enactment of the measure would not affect the amount of total funding that K–14 entities receive. Funding, however, that was previously outside the Proposition 98 funding calculations would now be included within the 2009–10 Proposition 98 funding level. To provide a clearer picture of the year–to–year changes in Proposition 98 funding, we have excluded Proposition 98 funds provided to backfill for lottery funds from budget–year numbers throughout this report.

Budget–Year Proposal Assumes Adoption of Current–Year Proposals. Proposition 98 funding considerations rely heavily on state revenues. Due to the dramatic deterioration of revenues in the current year, the Governor has proposed significant current–year Proposition 98 spending reductions and revenue increases. The Governor has assumed adoption of his current–year proposals when building his 2009–10 proposal. If any of the revenue or spending assumptions underlying the Governor’s 2008–09 proposals are modified by the Legislature in taking midyear action, the Proposition 98 requirements for both years will change.

Revised Current–Year Proposal Reduces Proposition 98 Spending by $6.6 Billion, Cuts Programmatic Spending by $2.1 Billion. As shown in the upper part of Figure 3, the Governor proposes funding at his revised estimate of the 2008–09 Proposition 98 minimum guarantee ($51.5 billion). This is $6.6 billion (or 11 percent) below the spending level provided in the 2008–09 Budget Act. Of this amount, $2.1 billion reflects programmatic cuts, with the largest portion associated with a base reduction to K–12 revenue limits. As a result, the proposed programmatic spending level in 2008–09 would be $56 billion (a reduction of 3.6 percent from the enacted budget level). The remainder of the downward adjustment in Proposition 98 spending does not reflect a programmatic cut. Specifically, the Governor’s proposes to defer $2.8 billion in Proposition 98 payments to July 2009, provide $619 million from transportation–related special funds to directly support the K–12 Home–to–School Transportation program, and use $1.1 billion in General Fund dollars for retiring the state’s prior–year Proposition 98 settle–up obligations. In these cases, existing school operations are intended to be sustained, while spending that counts toward the Proposition 98 minimum guarantee is reduced.

Programmatic Spending Would Be Reduced Further in 2009–10. As the bottom of Figure 3 shows, the Governor proposes to fund at the minimum guarantee of $54.9 billion in the budget year. In addition, the administration proposes to use $400 million in special fund monies for the K–12 Home–to–School Transportation program, for total programmatic spending of $55.3 billion. This results in a programmatic cut of $700 million, or 1 percent, from the proposed current–year programmatic spending level of $56 billion. Under the Governor’s proposal, K–12 education spending would decrease by $900 million, but CCC spending would increase by approximately $200 million.

Governor Proposes Virtually Unlimited Flexibility in Responding to Cuts. In tandem with his proposed cuts, the Governor proposes to allow school districts and community colleges to transfer funding among categorical programs, as well as from categorical programs to their general fund. The Governor also proposes to allow K–12 school districts to use categorical balances from prior years for any purpose. Locally elected boards would be required to discuss and approve these transfers during public meetings, as well as provide an annual report on actions taken. (See the categorical reform write–up in the “Other Issues” section of this report for additional detail on the Governor’s K–14 flexibility proposals.)

Governor Suspends Most Mandates. The Governor also proposes to suspend virtually all K–14 mandates. Currently, the state is obligated to reimburse districts for more than 60 mandated education activities. The Governor proposes to suspend virtually all these activities, thereby reducing annual state mandate obligations by roughly $200 million. The Governor’s budget does, however, include $13 million to cover the costs of three existing K–12 mandates and $65 million for a pending settlement related to special education behavioral intervention plans. (See the mandate reform write–up in the “Other Issues” section of this report for additional detail on these mandate proposals.)

Governor Adds New Deferrals, Maintains Old Ones. To help with the state’s cash flow, the Governor also proposes to delay $2.7 billion in payments within 2009–10. Specifically, the Governor would delay $1.2 billion in July payments until October ($1 billion from K–12 schools and $200 million from community colleges) and $1.5 billion in August payments until October (all from K–12 schools). The Governor’s budget also expands existing deferrals that delay payments across fiscal years. Specifically, he maintains the existing $1.3 billion June to July deferral ($1.1 billion for K–12 education and $200 million for community colleges) and adds a proposed $2.8 billion February to July deferral ($2.6 billion for K–12 education and $230 million for community colleges). In total, the Governor’s proposal would defer $4.1 billion in Proposition 98 payments from 2009–10 to 2010–11. (See the cash management write–up in the “Other Issues” section of this report for additional detail on these deferrals.)

Quality Education Investment Act (QEIA) Faces No Reduction. Despite the proposed cuts, suspensions, and deferrals in the Governor’s budget, the administration provides $450 million ($402 million for K–12 education and $48 million for community colleges) to fund the third year of QEIA. This program was created in response to a settlement the administration reached with the California Teacher’s Association regarding the Proposition 98 suspension that occurred in 2004–05. Chapter 751, Statutes of 2006 (SB 1133, Torlakson), appropriates $2.8 billion for K–14 education—paid out over a seven–year period beginning in 2007–08 and extending through 2013–14. This funding comes from the state General Fund and is in addition to the ongoing Proposition 98 funding provided to K–14 education.

Governor Achieves Some Budget–Year Savings by Retiring Settle–Up Obligation in Current Year. By using $1.1 billion General Fund in 2008–09 to retire the state’s prior–year Proposition 98 settle–up obligations, the state achieves $150 million General Fund savings in 2009–10. This is because the state, pursuant to Chapter 216, Statutes of 2004 (SB 1108, Committee on Budget and Fiscal Review), had scheduled to make annual settle–up payments of this amount until the entire $1.1 billion obligation was retired. (A settle–up obligation is generated when K–12 attendance or General Fund revenues increase after the budget is enacted—resulting in a Proposition 98 minimum guarantee that is higher than the funding level included in the budget act. The state currently owes schools $1.1 billion to meet the minimum guarantee for 2002–03 and 2003–04.)

K–12 Education

As shown in Figure 4, the Governor’s 2009–10 budget provides $69.5 billion in total funding for K–12 education (including child care), a 3.7 percent increase over his proposed current–year spending level. This equates to $11,777 per pupil, an increase of $449 (or 4 percent) over the proposed 2008–09 per pupil funding level. Proposition 98 funds are the primary funding source for schools, providing about 70 percent of total K–12 funding.

Governor’s Approach Creates Hefty Out–Year Revenue Limit Obligation. The Governor’s budget proposals for the current year and budget year include no cost–of–living adjustment (COLA) for K–12 revenue limits (or any K–12 categorical program). When a COLA is not provided to K–12 revenue limits, the state, though not required, traditionally has established a “deficit factor.” It also has created deficit factors when revenue limits have received base reductions. The deficit factor keeps track of what revenue limits would have been if the COLA had been provided and/or the base cut not made. Given the high statutory COLA rates in 2008–09 and 2009–10 (5.66 percent and 5.02 percent, respectively) and the proposed base reductions, the Governor’s budget recognizes a total deficit factor of 16.5 percent for school districts and 14 percent for county offices of education (COEs). Creating deficit factors of this magnitude would equate to a $6.5 billion state obligation, which would be paid from within Proposition 98 resources at some point in the future as they become available. (Even during a healthy economic environment, deficit factors this large would take years to retire.)

Child Care and Development

The state currently supports a variety of child care and development (CCD) programs using Proposition 98 and federal funding. As shown in Figure 5, the Governor’s 2009–10 budget includes $3.2 billion to provide CCD services to more than 440,000 children from birth through age 12 (or longer for children with special needs). The Governor’s budget for CCD programs includes $70 million in augmentations and $88 million in reductions—resulting in a nearly flat year–to–year budget.

Reimbursement Rate Proposal Would Lower Provider Rates. California Work Opportunity and Responsibility to Kids (CalWORKs) providers currently are reimbursed for services up to a maximum rate equivalent to the 85th percentile of the rates charged by private providers in the same region (determined by a “regional market rate (RMR) survey” conducted every two years). The Governor proposes lowering that maximum reimbursement rate to the 75th percentile of the RMR. This proposal is estimated to generate Proposition 98 savings of $39 million for CalWORKs stage 2 and stage 3 and $31 million non–Proposition 98 savings for CalWORKs stage 3. (Though some savings also would be generated in non–CalWORKs child care, the administration assumes the savings would be redirected to funding additional child care slots.)

Also Proposes to Increase Family Fees. Currently, most subsidized child care programs use a family fee schedule to determine what amount of the cost, if any, a family needs to pay. Family fees begin as low as $2 per day (for a family earning 40 percent of state median income) and are capped at 10 percent of family income (for a family earning 75 percent of state median income). The Governor proposes to revise the family fee schedule and increase fees for nearly all families currently paying fees. The administration estimates the new schedule would result in additional fee revenue of $14 million for CalWORKs Stage 2 and 3 combined. (The administration makes no estimate of additional fee revenue for non–CalWORKs child care—instead assuming that any new fee revenue would be redirected to funding additional child care slots.)

Non–CalWORKs Reduction Would Result in Loss of Roughly 10,000 Slots. The Governor’s current–year child care proposal reduces non–CalWORKs programs by $55 million. This funding was not used in the current year due largely to contracting issues that routinely result in some budgeted child care funding going unused. For the budget year, the Governor proposes to make the $55 million reduction ongoing. The reduction would result in roughly 10,000 fewer child care slots being funded.

California Community Colleges

As shown in Figure 6, the Governor proposes a total of $9.6 billion for community colleges in 2009–10, a 4.9 percent increase over his proposed current–year funding level. As shown in the figure, funding comes from a variety of sources, including the General Fund, local property taxes, student fee revenues, and federal funds. Over two–thirds of CCC’s budget is supported by Proposition 98 funding. (Below we highlight major Proposition 98 CCC issues. See the 2009–10 Budget Analysis Series Higher Education report for more information on other CCC issues.)

CCC’s Share of Proposition 98 Funding Highest Ever. As proposed by the Governor, CCC would receive 11.9 percent of total Proposition 98 funding in 2009–10—the highest percentage to date. Since 2000, the CCC share of Proposition 98 has ranged from 9.4 percent (2003–04) to 10.9 percent (2008–09 Budget Act).

Budget–Year Augmentations for Backfill and Enrollment Growth. The Governor’s budget–year proposal would increase total Proposition 98 support for CCC by $396 million, or 6.5 percent, over the proposed current–year funding. Of this amount, $230 million is to backfill a proposed current–year deferral. The Governor’s budget also provides $185 million for 3 percent enrollment growth. In addition, the Governor’s budget achieves $4 million in savings by suspending all CCC mandates. Consistent with K–12 education, the administration’s proposal does not provide an estimated 5 percent COLA for CCC in 2009–10 (for savings of $323 million).

Proposition 98 Spending by Major Program. The Governor’s 2009–10 budget for CCC includes $5.7 billion in apportionment (or general purpose) funding, accounting for 86 percent of CCC’s total Proposition 98 expenditures. Apportionment funding would increase 7 percent over proposed current–year expenditures. By comparison, most categorical programs would receive the same level of funding in the budget year as in the current year. Funding for the three largest categorical programs, however, would increase by 3 percent for enrollment growth.

Protection From Future Local Property Tax Shortfalls. Community colleges rely on local property taxes as an important funding source for their general operations. Each year, the budget assumes a certain level of property tax revenues (as well as fees) in calculating the General Fund contribution toward those CCC costs. Unlike K–12 education, however, there is no automatic backfill of General Fund monies when local property tax receipts fall short of budget assumptions. This was a major issue for the CCC system in 2007–08, when community colleges faced an $85 million property tax shortfall. (The state ended up redirecting other Proposition 98 funds to backfill all but $10 million of the shortfall.) The Governor proposes to minimize the chances of this reoccurring in the future and shift the risk of lower–than–expected property taxes to the state General Fund.