Budget Update - May Revision Analysis

CITE News,

In this client update, we provide a review and analysis of Governor Gavin Newsom’s 2019-20 May Revision budget proposal that we sent to you earlier today.

Based largely on significant increases in revenue collections in the month of April, the May Revision proposes slightly higher General Fund expenditures over the three-year budget period.Following concerns with revenue figures from December through March, school officials in the process of finalizing their own budgets should be relieved that Proposition 98 spending in the May Revision is mostly consistent with the January proposal.

K-14 Highlights of the 2019-20 May Revision

· Compared to the January proposal, theProposition 98 guaranteeisup by about$750 millionover the three-year budget period, with the 2019-20 guarantee at $81.1 billion

· Pursuant to Proposition 2 (the “Rainy Day Fund”), enacted by the voters in 2014, there will be a mandatory$389 million deposit into the Public School System Stabilization Account (PSSSA),but that deposit will not trigger school district local reserve caps in 2020-21

· The Governor not only retains the$3 billionnon-Prop 98 spendingto buy down school employers’ CalSTRS rates, but proposes to slightly increase that amount to further slow the CalSTRS rate increase to 16.7% in 2019-20

· The Administration proposes an additional $119 million for special education compared to January, which amounts to nearly$700 millionmore (compared to the 2018-19 Budget Act) in ongoing fundingfor special education.The May Revision does not provide further details regarding their January special education proposal or any possible split in funding between equalization, preschool children with disabilities, a high cost pool, and/or other priorities

· TheCOLAfor LCFF and certain categorical programs will be3.26%,meaning the increase to the base grants (and corresponding increases to other LCFF grants) will be slightly less than estimated in January

· The May Revision includes $146 million to address teacher and administrator recruitment, retention and training

· The Governor continues to propose significant investments in early education programs, child care, children’s health and parental leave – supporting what he calls “The Parent’s Agenda”

Amid Continued Revenue Growth, Newsom Prepares for Downturn

Governor Newsom’s May Revision recognizes revenue growth over the three-year budget period, 2017-18 through 2019-20, while preparing for the likelihood of an economic downturn over the longer-term.Compared to the January Budget proposal, revenues over the budget period have increased by about $3.2 billion.2019-20 total revenues are now projected at nearly $148 billion, up from about $146 billion in January.

The Governor began his press conference by highlighting his efforts to prepare for an economic downturn.Noting that a moderate recession could result in a loss of $70 billion over a three-year period, Newsom announced that the May Revision allocates $15 billion to “building budgetary resilience” and paying down the state’s unfunded liabilities, an increase of $1.4 billion over the January proposal.This $15 billion includes:

Budget Stabilization Account (BSA).$5.7 billion for building reserves, including a mandatory Prop 2 transfer to the Budget Stabilization Account (BSA) of $2.16 billion, a first time $389 million transfer to the Prop. 98 (PSSSA) reserve, and additional amounts to the special fund for economic uncertainties (discretionary GF reserve) and Newsom’s “Safety Net.”The BSA would reach $16.5 billion by the end of 2019-20, an increase of about $1.2 billion compared to the January proposal, and a combined increase of about $3 billion over the BSA total in the 2018 Budget Act.

Unfunded Liabilities.$4.8 billion for paying the state’s unfunded liabilities, including $3 billion for CalPERS and $1.8 billion for CalSTRS (see below for proposal related to school district CalSTRS liabilities).

Eliminating Debts and Reversing Deferrals.$4.5 billion to eliminate debts and reverse deferrals, including $2.4 billion to pay off special fund loans, etc., $1 billion to eliminate the annual payroll deferral, and additional amounts to eliminate the deferral of the 4thquarter CalPERS payment and to provide Prop 98 settle-up.

In addition to paying down liabilities and building reserves, Governor Newsom stated that 89% of the new spending in 2019-20 is one-time rather than ongoing, reflecting a concern that revenues in the near future may be insufficient to support large increases in ongoing spending in the budget year.The Governor repeatedly acknowledged that he recognized additional investments (including in education) were needed, but that he had to balance these needs with economic realities.

Proposition 98, LCFF & COLA

The Administration projects Test 1 for 2019-20, and calculates the Prop 98 guarantee to be $81.1 billion for the budget year, almost $400 million higher compared to January.Over the three-year budget period, the Prop 98 guarantee is about $750 million higher than January estimates.Although this increase compared to January is rather modest, it is welcome news after several months of concerns (prior to the end of April) over anemic state personal income tax (PIT) receipts.

The May Revision does not include any new proposals related to the LCFF other than incorporating a slightly lower 3.26% COLA compared to the 3.46% COLA assumed in January.The Legislature continues to discuss proposals to either increase the LCFF targets or provide additional 2019-20 funding through a higher COLA for the LCFF.

With overall revenues and expenditures typically restricted to the amounts proposed in the May Revision, securing additional LCFF funding for 2019-20 will likely be a challenge.The conversations about California’s abysmal per-pupil funding amounts are sure to continue, with many school advocates looking toward the 2020 ballot as an opportunity to address this issue.

Proposition 2 Deposit to School “Rainy Day” Fund – No Local Reserve Cap Trigger

Proposition 2, enacted by the voters in 2014, included both the familiar BSA (GF rainy day reserve) and the Public School System Stabilization Account (PSSSA), which is a related reserve that applies to Prop 98.Deposits are made into the PSSSA only under the following specified circumstances, which will be met for the first time in 2019-20:

· Capital gain revenues are greater than 8% of total GF revenues

· Test 1 is operative

· Maintenance factor obligations created prior to 2014-15 have been paid

· Prop 98 funding exceeds prior year funding adjusted for growth and inflation (basically, Test 1 is greater than Test 2), and the Prop 98 guarantee is not suspended

The 2019-20 PSSSA deposit is estimated to be $389 million.The impact for schools is that this amount counts toward the 2019-20 guarantee, but is not available to be allocated to schools in the budget year.Note that if funds are allocated from the PSSSA to schools in a future year (perhaps in a recession), that allocation will be provided in addition to the Prop 98 minimum guarantee for that year.

Fortunately, growth in Prop 98 in prior years and some adjustments (for example, one-time spending from the prior year) allow a small amount of additional K-14 spending in 2019-20 (see below).

Under current law the cap on school district reserves is only triggered after the balance in the PSSSA account is greater than 3% of the total K-12 Prop 98 guarantee. For 2019-20, 3% would equal about $2.1 billion. Because the deposit is less than $400 million, local school district reserve caps will not be triggered by this deposit.

Assistance for School Employers’ Rising CalSTRS Rates

School employers will be pleased that Governor Newsom has not only retained his January proposal to provide $3 billion of non-Prop 98 funds to assist with rising CalSTRS costs, but has added an additional $150 million for this purpose.The January proposal provided some relief from CalSTRS rate hikes by allocating $2.3 billion for a long-term investment in the CalSTRS fund and $700 million to slow the increase in rates in 2019-20 and 2020-21 by about one percent each year (for 2019-20, from 18.1% to 17.1%).The May Revision adds $150 million to further slow the CalSTRS rate increase in 2019-20 to 16.7%.

It is our understanding that the $150 million is to be applied to the 2019-20 CalSTRS rate only, and will not further impact rate for 2020-21 or any subsequent year.Under current assumptions, this would mean the CalSTRS rate will go up to 18.1% in 2020-21 (as opposed to 19.1% absent the January proposal).

Special Education

The Administration identified $576 million ($390 million on-going, $186 million one-time) in January for a controversial new special education proposal focused on LEAs with high concentrations of special education and unduplicated pupils.The May revision proposes increasing this amount to $696 million, all of it ongoing.

However, the May Revision is silent regarding how this special education funding will be allocated.

We understand that the Governor’s January special education proposal has not been withdrawn, but it appears likely that the proposal will be significantly modified.In fact, this may be an issue where the Governor is willing to allow the two houses of the Legislature to reach a compromise among competing bills that seek to provide some combination of special education funding equalization, funding for preschool students with disabilities, and funding for a low incidence / high cost pool.Stay tuned.

Career Technical Education

The May Revision is silent, as was the January Budget, on any changes to the split in funding between the Career Technical Education Incentive Grant (CTEIG), administered by the California Department of Education, and the K-12 component of the Strong Workforce Program (K-12 SWP), administered by the Community Colleges. Again, this is in contrast to conversations in the Legislature to move the funding for the K-12 SWP into the CTEIG in order to combine the two K-12 programs under one K-12 program (CTEIG).Stay tuned on this one as well.

Teacher and Administrator Shortages

The May Revision also proposes $148.5 million in funding to address issues related to teacher and administrator shortages. The funds support three separate programs:

Teacher Loan Repayments. $89.8 million in one-time non-Proposition 98 funds that will go out over a four-year period to targeted service scholarships that will provide loan repayments for newly credentialed teachers working in high-needs schools that have high numbers of non-credentialed or waiver teachers, and working in hard-to-hire subject areas such as special education and STEM. It is estimated that these funds will provide loan repayment of up to $20,000 on 4,500 loans. The program will be administered by the Commission on Teacher Credentialing.

Teacher and Paraprofessional Training.$44.8 million in one-time non-Proposition 98 funds to provide teacher and paraprofessional training and resources related to inclusive practices, social-emotional learning, computer science, restorative practices, and subject matter competency, including STEM.

Administrator Training.$13.9 million in ongoing federal funds to provide K-12 public school administrators with professional learning opportunities focused on successful support of the diverse student population served in our schools.

Charter Schools

While a package of bills to reform the Charter Schools Act makes its way through the Legislature, in his May Revision Governor Newsom is proposing a number of more minor reforms for charter schools to “prevent families from being wrongfully turned away from the public schools of their choice.” Specifically, the reforms would:

· Prohibit charter schools from refusing or discouraging enrollment of students based upon academic performance or student characteristic

· Prohibit charter schools from requesting academic records for enrollment

· Create a process for families to report complaints to the charter school authorizer

· Require the CDE to research charter school enrollment disparities that may require intervention

School Facilities

With regard to facilities, the most significant change from the January proposal is a slightly smaller investment to incentivize the expansion of full-day kindergarten.The May Revision proposes to allocate $600 million of one-time non-Prop 98 funds (down from the January proposal of $750 million) to eligible school districts to construct new, or retrofit existing, facilities for full-day kindergarten programs.The funds will be available over a three-year period with eligibility in the first two years limited to schools that convert from part-day to full-day kindergarten programs.The state share of the grant will be increased from 50% to 75%, reducing the district share and making it more likely districts will be able to benefit from the program and expand full-day programs.

The May Revision makes no mention of Proposition 51 (2016) bond sales.We assume Governor Newsom intends to stick with his January proposal to sell $1.5 billion in bonds to support the School Facilities Program.The January proposal also included an additional $1.2 million to fund 10 additional positions for the Office of Public School Construction to support the increased processing of applications and program workload.

“The Parent’s Agenda” and Early Childhood

In addition to the full-day kindergarten facilities program discussed above, the May Revision builds on a number of early childhood proposals unveiled in January.We have provided separate updates on this top priority of the Governor and the Legislative Women’s Caucus in the past, and will provide more detailed reports as the Governor’s ideas are further debated in the Legislature.For purposes of this May Revision update, we simply want to note that this issue continues to be extremely important to Governor Newsom, and he is clearly looking for ways to advance his “Parent’s Agenda” while maintaining his fiscally cautious approach to the economy and budget.

Among the many proposals added or maintained in the May Revision are:

· A Master Plan for early learning and care

· Increasing access to child care

· Planning to move incrementally toward Universal Preschool

· Expanding Paid Family Leave

· Creating Child Savings Accounts

· A number of programs aimed at addressing child and family poverty, including increasing the Earned Income Tax Credit and eliminating the sales tax on diapers

May Revision Workshops

We’ll provide further analysis and details, including comparisons with estimates and assessments from the Legislative Analyst’s Office, at our Budget Perspectives Workshops.If you have not done so already, you can register here.






Abe Hajela


Capitol Advisors Group

925 L Street, Suite 1200

Sacramento, CA 95814

916.719.9438 mobile

916.557.9745 office