Detroit Public Schools’ Legacy Costs and Indebtedness
Memo 1138, January 2016
The Detroit Public Schools (DPS) recently submitted its audited financial statement for fiscal year 2014-15 (FY2015) to the State of Michigan. Because of recent changes to accounting and financial reporting standards, the report provides a much richer picture of the district’s overall financial condition than previous reports. In addition to the liabilities associated with various debt instruments that routinely appear in financial statements, the most recent report includes, for the first time, an accounting of the legacy costs for unfunded pension benefits owed to current and former employees. As debate continues about crafting a financial plan to reduce the district’s operating deficit and provide educational services to nearly 48,000 students, a key fiscal consideration concerns the district’s liability for future payments.
As reported in Table 1, DPS has over $3.5 billion outstanding in combined operating and capital liabilities. This includes nearly $1.9 billion in employee legacy costs and cash flow borrowings and almost $1.7 billion in multi-year bonds/notes and state loans.
The amounts in Table 1 represent only the principal outstanding for many of the liabilities; however, liquidating these liabilities over the time schedules assumed when the debts were incurred will include interest and other costs. This adds to the district’s total future payments. For example, retiring the nearly $1.5 billion in general obligation bonds as currently structured will require $1.0 billion in interest payments over the next 25 years. Payment on the total debt incurred for capital improvements will be spread out over decades and financed by a dedicated property tax. Other annual debt service obligations (under “Operating” in Table 1) will be financed from the district’s general operating revenue. Financing these liabilities with operational funds competes with other expenditures, including paying teachers, maintaining buildings, and buying supplies.
Furthermore, the amounts above only reflect a small portion of the district’s reported accumulated operating deficit; the $81 million payable to the retirement system. For FY2015, the General Fund finished with a deficit of $215.9 million, up from a deficit of $169.5 million for FY2014. This amount is carried forward into the FY2016 budget and equates to roughly 28 percent of planned General Fund expenditures. Instead of paying down the accumulated deficit, the FY2016 spending plan will add to it. The FY2016 budget projects that the General Fund will have a $312 million operating deficit at June 30, 2016.
Each liability listed differs in material ways (e.g., its original purpose, how it is accounted for in financial statements, how repayment is structured and financed, etc.). Similarly, the consequences of failing to pay the obligations as they come due also differ. This is an important consideration as policymakers develop a plan to deal with DPS finances, both in the near term and the long term. In some cases of nonpayment, the financing responsibility could fall to the State of Michigan (all taxpayers). In other instances where DPS is unable to liquidate a debt, other school districts could be responsible for picking up the cost. For capital debts, there may not be any change in responsibility as Detroit taxpayers pledged to repay the liability with a dedicated local property tax. And for other obligations, it is unknown who would be liable for the district’s nonpayment because either a similar default has never occurred or state law is silent on the matter.