Budget Update from Capitol Advisors Group

Please see the budget update from Capitol Advisors Group below:

We've reviewed and analyzed Governor Gavin Newsom's 2020-21 Budget Proposal sent to you earlier today. There were few surprises – both the General Fund and Proposition 98 continue to grow at a moderate pace, which allows for some additional spending while also building budget reserves and paying down some long-term liabilities. As expected, with regard to K-12 education, the Governor focused on special education, addressing the teacher shortage and improving teacher quality, and some additional accountability/transparency measures for the LCFF.

The Governor did not propose additional assistance for CalSTRS or CalPERS school employer rates – we had hoped he might use some of the budget surplus for this purpose. Interestingly, more than other recent budget proposals, this one focuses quite a lot on accomplishments in prior budgets on issues such as school employer pension relief, early childhood programs, and growth in LCFF grants. Still, overall Prop 98 growth continues to allow the state to propose some modest expansions of K-12 programs, while LCFF base grants receive an increase sufficient to cover the COLA.

The Politics

In his press conference, Governor Newsom was interested in distinguishing the policies and positions of California from those of the national government, and in highlighting differences between himself and President Trump. He noted that California's economic performance is the engine behind the national economy, with annual real GDP growth of 3.8% since the Great Recession (better than both Texas and Florida), and 1 out of 7 new jobs in the nation created here in California. The Governor mentioned his fundamental disagreements with the President on issues such as climate change, health care and responding to the homeless crisis. All of these issues will be aired as part of the national debate tied to the presidential election, and the Governor has an interest in making his positions clear to voters in California and perhaps to those outside of the state.

Highlights of 2020-21 Budget Proposal

·    $153.1 billion in General Fund (GF) expenditures in 2020-21

·    $84 billion Prop 98 Guarantee

·    $21 billion total budget reserves, including $18 billion in the Prop 2 reserve

·    2.29% COLA applied to LCFF and some categorical programs

·    $900 million for teacher recruitment and professional development

·    Special education reform and additional funding

·    $70 million for school nutrition

Below we provide a brief summary and analysis of the budget proposal, including revenues, Prop 98 spending, and policy and funding changes to K-12 programs.

Revenues and Budget Reserves

California's economy continues to grow, although at a slowing pace. The Department of Finance (DOF) projects almost $152 billion in total 2020-21 GF revenues (including transfers pursuant to Prop 2), and has revised 2019-20 revenue estimates upwards as well. Over the three-year budget period (2018-19 to 2020-21), GF revenues are higher than the projections in the 2019 Budget Act by $5.8 billion, although $1.8 billion of that amount is from anticipated federal reimbursements for costs related to the wildfires in 2017 and 2018. While revenues are assumed to continue to grow through the budget forecast, the Governor and DOF note that risks are rising. Due to those risks, DOF continues to model a moderate recession in the budget forecast which could mean a drop in annual revenues of tens of billions of dollars.

Note that the Legislative Analyst's Office (LAO) in November projected a slightly higher budget surplus of about $7 billion. That difference is because the LAO assumes that the federal government will approve the managed care organization (MCO) tax, which offsets GF costs in Medi-Cal. While Governor Newsom stated that he expected the MCO to ultimately be approved by the federal government, he chose not to assume the GF offset in his budget proposal.

The budget includes a total of $21 billion in reserves by the end of 2020-21. Most of that is in the Prop 2 Budget Stabilization Account (BSA), with a projected $2 billion transfer in 2020-21 bringing the BSA up to $18 billion. The mandatory transfer to the BSA is capped when the BSA hits 10% of total GF revenues, and with the BSA soon reaching that mark growth is expected to slow for the rest of the budget forecast.

In addition to the BSA, the Governor's proposal allocates $1.6 billion to the Special Fund for Economic Uncertainties (the discretionary budget reserve), maintains the $900 million Safety Net Reserve, and adds $110 million to the Prop 98 reserve to bring the total to just under $500 million.

Proposition 98 and LCFF

The DOF calculates the 2020-21 Proposition 98 Guarantee to be $84 billion, an increase of almost $3 billion over the guarantee in the 2019 Budget Act. DOF estimates increases in the 2018-19 and 2019-20 guarantees totaling about $819 million compared to the 2019 Budget Act, with the balance of the increase in Prop 98 guarantee attributed to 2020-21. 

The administration projects a 2020-21 COLA of 2.29% for LCFF, as well as for categorical programs that receive COLA but are not included in LCFF. This COLA would generate a proposed $1.2 billion increase to LCFF and a $122.4 million increase to those categoricals. There are no additional increases to LCFF base grants proposed in the Governor's Budget.

Some projections of the 2020-21 COLA that were made last summer set expectations that the COLA would be higher than projected by the administration – some of those early estimates were as high as 3.0%. However, you may also recall that the non-partisan LAO in its Fiscal Outlook, published last November, projected a COLA of 1.79% for the 2020-21 budget. No one is still projecting a 3.0% COLA, but the difference between the administration's projection of 2.29% and the LAO's projection of 1.79% reflects a bigger gap in COLA estimates than we generally see in the January Budget. School districts will have to consider the possibility of continued movement in the COLA amount as they build their own budgets.

There is also an interesting dynamic in the Prop 98 reserve (technically, the Public School System Stabilization Account) created by Prop 2. The deposit into the account in the 2019 Budget Act was $389 million, but new estimates require an additional transfer of about $150 million for 2019-20. However, in 2020-21 DOF projects that a withdrawal of nearly $38 million will be required from the reserve because 2020-21 Prop 98 funding is not sufficient to cover the prior year funded level adjusted for any deposits/withdrawals from the reserve and adjusted for growth and inflation. If these estimates are correct, this will be the first withdrawal from the Prop 98 reserve, and also the first from any of the reserves created by Prop 2. But note that school district reserve caps are not triggered within the budget forecast because the balance in the Prop 98 reserve is well below 3% of the K-12 share of the Prop 98 guarantee (3% would be about $2.2 billion in 2020-21).

Teacher Recruitment and Professional Development

Governor Newsom's Budget proposal includes a roughly $900 million investment in educator recruitment and professional development. In developing these investments, the Governor worked closely with Linda Darling Hammond, current State Board of Education President and former chair of the Commission on Teacher Credentialing. The Governor's proposals build off investments made in recent years, and are meant to target high-needs areas, such as math, science and Special Education, and improve teacher preparedness, especially for our state's most vulnerable students. The Governor is also putting a premium on increasing teacher diversity, which many advocates and academics assert is critical to improving student outcomes. Specifically, the budget proposal includes the following investments, all of which would be funded on a one-time basis:

·    $350 million to augment the Educator Workforce Investment Grant program

·    $18 million for the California Collaborative for Educational Excellence to assist local educational agencies (LEAs) in improving student outcomes in state priority areas

·    $193 million for the Workforce Development Grant Program to address workforce shortages in high-need subjects

·    $175 million to expand the Teacher Residency Program

·    $100 million for the California Teacher Credential Award Program

·    $64.1 million to expand the California Classified School Employees Credentialing Program

·    $15 million for grants to LEAs to support the preparation of about 10,000 K-12 teachers to earn a supplementary authorization on their credential to teach computer science

To expand the teacher pipeline, the Governor's budget also proposes to suspend accreditation fees for institutions of higher education and LEAs that administer a teacher preparation or induction program. This proposal comes on the heels of a rollout of a new accreditation system, and providing this kind of financial incentive for potential programs could jump-start the field.

Special Education

The 2019-20 Budget Act included $645 million in ongoing Prop 98 funding to raise the special education base rate for all LEAs to at least the state average and provide funding for services for 3-5 year olds with exceptional needs. While this funding was ongoing, the Governor made any future funding contingent on special education reforms in 2020.

The Governor's January budget is our first look at his vision of special education reform. Specifically, the Governor is proposing a multi-year process consisting of three-phases to reform the state's current special education system. As part of the initial phase, he proposes to create a new special education base formula using a three-year rolling average of LEA average-daily-attendance. The funding would continue to be allocated through Special Education Local Planning Areas (SELPAs), providing all SELPAs with at least the statewide target rate for base special education funding. For this purpose, the Governor is proposing to use the entire ongoing $645 million from last year for base rate increases. According to the Governor, most LEAs will see an increase in their base rate and any LEA whose current base rate is higher than the new proposed rate will be held harmless.

The Governor is also proposing an additional $250 million for school districts to provide services to 3-5 year olds with exceptional needs. This funding will be allocated on a per-pupil basis, based on the number of eligible children served by the district. While we will have more information about the parameters of this funding when trailer bill language is released in the coming weeks, the expectation is that this funding will be more prescriptive than the funding provided last year for this purpose. 

The January budget does not lay out in detail what the two other phases of this reform will entail, but the Governor does preview what the reforms may ultimately include:

·    A new special education funding formula to support equity, as well as more inclusive practices and early intervention services

·    Reforms related to family and student engagement, including whole-child and family wrap-around services

·    Refined funding, accountability, and service delivery for specialized services, like out-of-home placements, non-public school placements, and the State Special Schools

·    Incorporation of recommendations from the Master Plan for Early Learning and Care into the K-12 infrastructure of early intervention services for young children with exceptional needs

The Budget keeps in place all other AB 602 categorical funding sources until a finalized funding formula is adopted. To help inform the future phases, the Governor's January budget also provides funding for studies to look at various aspects of our current special education system, including:

·    $500,000 one-time Prop 98 for a study of current SELPA governance and accountability structure

·    $600,000 one-time Prop 98 for two workgroups to study improved accountability for special education service delivery and student outcomes

The Governor, who often speaks of his own struggles with dyslexia, also proposed $4 million in one-time Prop. 98 for dyslexia research, training and a statewide conference on dyslexia. 

Mental Health

Facing mounting pressure to address mental health needs, the Governor's budget includes several proposals to reduce barriers to care and enhance services for young people and students. One of his most significant proposals is to provide $300 million in one-time funds into community school grants to support student wrap-around programs, including social services, early screening and intervention, and mental health services. The grants could also fund professional development opportunities for mental and behavioral health, trauma-informed care, and social-emotional learning. Additionally, as mentioned above, the Governor's proposal to increase funding for the Educator Workforce Investment Grants would provide resources for professional learning opportunities for, among other things, mental health interventions. The Governor also proposed to address the frequent intersection of homelessness and mental health needs in a proposal to reform the Mental Health Services Act (Prop. 63, 2004), with additional details expected from the Administration in the Spring.

School Nutrition

In welcome news, the Governor proposes additional state funding to improve the quality of subsidized school meals and encourage participation in school nutrition programs. The budget adds $60 million for school meals, which the Governor stated would increase the current 24.5 cent reimbursement rate by 40%. The budget also includes $10 million to provide training for school food service workers to promote healthier and more nutritious meals.

School Facilities

Likely due to the recent equity reforms included in AB 48, which placed a $15 billion general obligation bond on the March 3, 2020 ballot, the budget itself was light on school facilities proposals. Proposition 13, the Public Preschool, K-12 and College Health and Safety Bond Act of 2020, was outlined in the school facilities section of the budget followed by changes the Administration would make if voters approve the bond. If approved, the Administration will seek a change in statute authorizing the State Allocation Board to provide per-pupil grant enhancement to construct or modernize facilities for preschool expansion on school campuses and will revise K-12 bond investments to prioritize school district lead in drinking water testing and remediation, districts recovering from a natural disaster, and other priority areas.

The Budget also allocates $1.5 billion in Proposition 51 bond funds to support school construction projects -- more than double the amount allocated in 2018-19.

The budget proposes $75 million in Prop 98 GF (which builds off of the $177 million included in the 2018 and 2019 Budget) to further support the Inclusive Early Education Expansion Program, which provides funding to LEAs to construct or modify preschool facilities to serve students with exceptional needs or severe disabilities.

The budget also notes that $300 million (of the $400 million in the 2018 and 2019 budgets) remains available to support eligible school districts to construct new, or retrofit existing, facilities to expand access to full-day kindergarten programs.

Early Learning and Early Childhood Programs

Although somewhat modest in comparison to the 2019 Budget Act, the Governor continued to build on the substantial investments made in early childhood education and childcare in 2019. Following are some of the Governor's proposed investments:

Child Care

·    $53.8 million increase in non-Prop 98 for CalWORKs Stages 2 and 3 Child Care

·    $50 million in ongoing funds shifted from General Fund to Cannabis Fund to support 3,000 General Child Care slots

·    $10.3 million from Cannabis Fund for additional 621 General Child Care slots

Universal Preschool

·    A total increase of about $127 million in ongoing non-Prop 98 funds for 2020-21, including both a $31.9 million increase for 10,000 new non-LEA State Preschool slots that will open in April 2021, and $95.6 million to fully fund non-LEA State Preschool slots created in April, 2020.

Other Changes

·    Proposes to establish the Department of Early Childhood Development under California Health and Human Services Agency (CHHS)

·    $8.5 million GF to establish a transition team at CHHS and support collective bargaining activities at Department of Human Resources, Department of Social Services, and CHHS

·    $10 million one-time GF for development of an adverse childhood experiences training program and public awareness campaign

Fiscal Accountability/Transparency

Citing concerns highlighted in the recent state audit around LEA use of supplemental and concentration grant funding, the Governor's budget proposes $600,000 one-time Prop 98 to "further improve and strengthen LCFF fiscal accountability." This funding would be used to create an online portal to house statewide LCAP information collected from LEA LCAPs. The Governor is also proposing to co-locate the School Accountability Report Card (SARC) with the Online LCAP portal so the public can easily compare the two accountability tools. Along with this funding, the Governor is also planning to spend the coming months identifying other ways to strengthen accountability around LEAs' responsibility to provide additional or improved services to their unduplicated pupils.

Grants to Address the Achievement Gap

Just under one-third of the state's school districts were identified for differentiated assistance in the 2019 Dashboard, prompting the Governor to propose $300 million in one-time dollars to address the persistent achievement gap. The money is proposed to be used for both Opportunity Grants for the lowest performing schools and districts, and to support the work of the CCEE in its role within the Statewide System of Support. How the $300 million is split between these efforts is not specified, but the Governor provided clarity that the CCEE funds could be used for:

·    Improving the school and school district review process;

·    Expanding educational leadership training; providing expert assistance to support local improvement plan implementation, and

·    Evaluating state and local continuous improvement efforts.

Wildfire and Power Shutoff Mitigation

The Governor proposes to use $50 million in one-time GF money to strengthen pre- and post-disaster work for schools, county election offices, and food storage reserves. This would include a matching grant program to boost local government efforts to mitigate the impact of forced blackouts.

New Vaping Tax

As part of what will undoubtedly be a larger policy debate around vaping in 2020, Governor Newsom is proposing a new tax of $2 per 40 milligrams of nicotine (said to be roughly equivalent to four cigarettes). This would be in addition to the existing tobacco tax passed by voters under Proposition 56 (2016). If approved, this new tax would take effect January 2021 and generate approximately $30 million (at least in the first year). The funds would be deposited into a new special fund and allocated to programs designed to prevent teens from vaping, as well as health care workforce programs. Additionally, during comments on the topic in his budget briefing, Newsom also signaled support for a ban on all flavored tobacco products, a proposal currently being pushed in the State Legislature.

We will address these issues in more detail at our Budget Perspectives Workshops – you can register here. Hope to see you there.