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August 27, 2020

School Districts Have Been Rebuilding their Savings – They May Need Them Soon

Since emerging from the Great Recession, public school districts across Michigan have been building up their savings; a prudent and fiscally-sound move in good economic times. Collectively, traditional, charter, and intermediate public school districts are sitting on over $2.5 billion in general fund reserves.

This is a good thing because they may need them as the state budget is facing a $1.5 billion dollar deficit over the next two years. Lansing officials are likely to consider spending cuts to keep the budget in the black. If they decide to include K-12 education funding in the mix of cuts, some school districts will be forced to tap into their reserves to maintain educational services.

With a number of schools already in session, district officials were forced to prepare their 2020-21 school year budgets without any idea of the amount of state aid they will receive this year because Lansing lawmakers have yet to craft a FY2021 state spending plan. (Schools are required by state law to adopt a balanced budget by June 30, despite the fact that the state budget deadline is September 30.) 

The pandemic and its effects on public finances have delayed state lawmakers’ plans for crafting next year’s budget. In part, because the state revenue picture has been as fluid as any time in recent history and Washington, D.C. has been hesitant to provide states with another round of funding relief to meet reductions in state taxes. 

Because of the fiscal uncertainty, state officials convened a rare, third revenue estimating conference this week to update tax estimates for FY2020 and the next two fiscal years before adopting the FY2021 budget. With these numbers established, public school officials should finally know how much state aid they will receive and whether they will have to absorb any state aid cuts or tap into their reserves to keep their budgets in balance.

Importance of Rainy Day Funds

A healthy level of reserves does more than strengthen a district’s financial statements and keep the Department of Treasury off school districts’ backs. Critically, it provides cash flow to ensure money is available to pay staff and vendors throughout the year. It reduces the amount of short-term, cash flow borrowing and associated costs.

Reserves also provide money to meet unexpected, non-budgeted costs. “Rainy day funds” provide a stash of money to pay for a leaky roof before it starts raining. Effectively, they allow schools to plan and prepare for the unexpected.

Economic downturns are another unexpected occurrence and  reserves can play a key role in addressing revenue disruptions caused by slow downs in tax collections. Under Michigan’s school funding model, districts are heavily reliant on state funding to finance their operations and have no options to raise local funds in the short term to make up for state aid cuts. This means that declines in state taxes ultimately filter down to local budgets. 

Schools can use some of their savings to back-fill reductions in state aid, but this is only a temporary solution. Budgeting reserves buys a district time to make the necessary spending adjustments to match available revenue. But, depleting reserves without directing attention to restructuring costs only results in kicking the fiscal can down the road and having to make larger cuts in the future. 

How Much Have Districts Saved?

After digging deep into their reserves to manage through the Great Recession, Michigan school districts have steadily rebuilt their savings. Collectively, Michigan’s 875 school districts (traditional, charter, and intermediate) doubled their general fund reserves from $1.2 billion at the end of FY2014 to $2.5 billion by the end of FY2019 (most recent data). This represents just under 20 percent of all districts’ unrestricted revenue ($13.3 billion) in FY2019 compared to 12 percent of revenue ($12.4 billion) at the end of FY2016. In other words, schools collectively have been able to stash the equivalent of 20 percent of their main operating budget into reserves for future needs.

The improvements in year-end savings since FY2016 is seen in the chart below. The share of school districts with more than 15 percent of their general fund revenue in reserve grew from 52 percent in FY2016 to nearly two-thirds by the end of FY2019 (557 of 873 districts). Conversely, over the same period, the number and percentage of districts with negative fund balances (deficits) and those with less than five percent of revenue in reserve shrank. Only 103 districts (12 percent of all districts) had five percent or less of their operating revenue held in reserve at the end of FY2019, compared to 139 districts (16 percent) in FY2016.

Michigan School Districts’ Reserves (all district types)

Source: Center for Educational Performance and Information

Breaking down the statewide data by district type (traditional, charter, and intermediate) provides a closer look at the relative financial strength of similar districts, individually and as a grouping. Across these groups, traditional school districts held an average of 18.3 percent of revenue in reserves in FY2019, charter districts held an average of 18.1 percent, and intermediate school districts held an average of 58.3 percent.  

In the traditional and charter school district groupings, the amount of reserves as a percentage of revenue varied considerably among individual districts. Generally, the majority of traditional districts (65 percent) and charter districts (54 percent) held reserves of at least 15 percent of revenue in FY2019. For both groups, this is an improvement over FY2016 when just 47 percent and 50 percent of districts, respectively, had this level of savings.

At the other end of the spectrum, only 22 traditional districts (four percent of total) had reserves of less than five percent of revenue in FY2019. A striking 30 percent of charter school districts (81 of 279 districts) finished the last fiscal year with this level of savings. The percentage of charter districts holding low levels of reserves has remained steady over recent years (see chart below). A number of these are relatively new schools that have not built up reserves as of yet. 

Looking forward, this subset of charter schools will have less flexibility in dealing with prospective state aid reductions than those with larger balances. Unlike traditional districts, charter districts have no taxing authority and are unable to raise any additional local tax revenue to offset state aid cuts.

Charter School Districts’ Reserves

Source: Center for Educational Performance and Information

As a group, intermediate school districts (ISD) stood out as having the healthiest amount of savings. At the end of FY2019, all 56 ISDs had reserves greater than 15 percent of their general fund revenue, up from 54 districts in FY2016. Intermediate districts had an average fund balance of 56 percent of revenue. Ten ISDs had at least 100 percent of their revenue in reserve in FY2019, meaning they had the equivalent of their entire general fund operating budgets in reserve.

Have Districts Saved Enough?

State law does not prescribe a specific level of savings that public schools must maintain. However, government fiscal best practices and school business organizations recommend public agencies maintain balances in their general funds of no less than two months of regular general fund operating revenues. This equates to between 15 and 20 percent of revenue.

In the context of prospective state aid cuts, it is difficult, if not impossible, to know how much districts will have to dip into their savings to make their budgets whole. Without  knowing the nature, depth, and timing of state spending cuts, districts will have to wait to see if they have saved enough to absorb funding reductions. Going into the current recession, nearly two-thirds of all districts have met the suggested savings levels. 

The answer also depends on how local school officials have already planned for possible state budget decisions. Remember, they were required to approve their 2020-21 fiscal plans by June 30; some districts may have budgeted a portion of their savings to make up for the possibility of state aid cuts, while others anticipating less state money may have relied more on program cuts to balance their budgets. It is likely that districts used a combination of budget balancing approaches – savings and spending cuts. Another factor in the calculus is if districts planned to budget their reserves over a number of years in anticipation that state tax collections do not immediately rebound in the wake of the current recession..

It is a good thing that Michigan school officials used the years since the Great Recession to build up their reserves. Broadly speaking, Michigan traditional and public charter school districts are in a much healthier position today compared to FY2016. Intermediate districts are the healthiest group by a mile; they have had an average of over 50 percent of revenue in reserve since FY2016. While saving levels differ considerably across district types as well as individual districts, the general improvement in districts’ fiscal health is positive given the many state budget uncertainties on the horizon.

School Districts Have Been Rebuilding their Savings – They May Need Them Soon

Since emerging from the Great Recession, public school districts across Michigan have been building up their savings; a prudent and fiscally-sound move in good economic times. Collectively, traditional, charter, and intermediate public school districts are sitting on over $2.5 billion in general fund reserves.

This is a good thing because they may need them as the state budget is facing a $1.5 billion dollar deficit over the next two years. Lansing officials are likely to consider spending cuts to keep the budget in the black. If they decide to include K-12 education funding in the mix of cuts, some school districts will be forced to tap into their reserves to maintain educational services.

With a number of schools already in session, district officials were forced to prepare their 2020-21 school year budgets without any idea of the amount of state aid they will receive this year because Lansing lawmakers have yet to craft a FY2021 state spending plan. (Schools are required by state law to adopt a balanced budget by June 30, despite the fact that the state budget deadline is September 30.) 

The pandemic and its effects on public finances have delayed state lawmakers’ plans for crafting next year’s budget. In part, because the state revenue picture has been as fluid as any time in recent history and Washington, D.C. has been hesitant to provide states with another round of funding relief to meet reductions in state taxes. 

Because of the fiscal uncertainty, state officials convened a rare, third revenue estimating conference this week to update tax estimates for FY2020 and the next two fiscal years before adopting the FY2021 budget. With these numbers established, public school officials should finally know how much state aid they will receive and whether they will have to absorb any state aid cuts or tap into their reserves to keep their budgets in balance.

Importance of Rainy Day Funds

A healthy level of reserves does more than strengthen a district’s financial statements and keep the Department of Treasury off school districts’ backs. Critically, it provides cash flow to ensure money is available to pay staff and vendors throughout the year. It reduces the amount of short-term, cash flow borrowing and associated costs.

Reserves also provide money to meet unexpected, non-budgeted costs. “Rainy day funds” provide a stash of money to pay for a leaky roof before it starts raining. Effectively, they allow schools to plan and prepare for the unexpected.

Economic downturns are another unexpected occurrence and  reserves can play a key role in addressing revenue disruptions caused by slow downs in tax collections. Under Michigan’s school funding model, districts are heavily reliant on state funding to finance their operations and have no options to raise local funds in the short term to make up for state aid cuts. This means that declines in state taxes ultimately filter down to local budgets. 

Schools can use some of their savings to back-fill reductions in state aid, but this is only a temporary solution. Budgeting reserves buys a district time to make the necessary spending adjustments to match available revenue. But, depleting reserves without directing attention to restructuring costs only results in kicking the fiscal can down the road and having to make larger cuts in the future. 

How Much Have Districts Saved?

After digging deep into their reserves to manage through the Great Recession, Michigan school districts have steadily rebuilt their savings. Collectively, Michigan’s 875 school districts (traditional, charter, and intermediate) doubled their general fund reserves from $1.2 billion at the end of FY2014 to $2.5 billion by the end of FY2019 (most recent data). This represents just under 20 percent of all districts’ unrestricted revenue ($13.3 billion) in FY2019 compared to 12 percent of revenue ($12.4 billion) at the end of FY2016. In other words, schools collectively have been able to stash the equivalent of 20 percent of their main operating budget into reserves for future needs.

The improvements in year-end savings since FY2016 is seen in the chart below. The share of school districts with more than 15 percent of their general fund revenue in reserve grew from 52 percent in FY2016 to nearly two-thirds by the end of FY2019 (557 of 873 districts). Conversely, over the same period, the number and percentage of districts with negative fund balances (deficits) and those with less than five percent of revenue in reserve shrank. Only 103 districts (12 percent of all districts) had five percent or less of their operating revenue held in reserve at the end of FY2019, compared to 139 districts (16 percent) in FY2016.

Michigan School Districts’ Reserves (all district types)

Source: Center for Educational Performance and Information

Breaking down the statewide data by district type (traditional, charter, and intermediate) provides a closer look at the relative financial strength of similar districts, individually and as a grouping. Across these groups, traditional school districts held an average of 18.3 percent of revenue in reserves in FY2019, charter districts held an average of 18.1 percent, and intermediate school districts held an average of 58.3 percent.  

In the traditional and charter school district groupings, the amount of reserves as a percentage of revenue varied considerably among individual districts. Generally, the majority of traditional districts (65 percent) and charter districts (54 percent) held reserves of at least 15 percent of revenue in FY2019. For both groups, this is an improvement over FY2016 when just 47 percent and 50 percent of districts, respectively, had this level of savings.

At the other end of the spectrum, only 22 traditional districts (four percent of total) had reserves of less than five percent of revenue in FY2019. A striking 30 percent of charter school districts (81 of 279 districts) finished the last fiscal year with this level of savings. The percentage of charter districts holding low levels of reserves has remained steady over recent years (see chart below). A number of these are relatively new schools that have not built up reserves as of yet. 

Looking forward, this subset of charter schools will have less flexibility in dealing with prospective state aid reductions than those with larger balances. Unlike traditional districts, charter districts have no taxing authority and are unable to raise any additional local tax revenue to offset state aid cuts.

Charter School Districts’ Reserves

Source: Center for Educational Performance and Information

As a group, intermediate school districts (ISD) stood out as having the healthiest amount of savings. At the end of FY2019, all 56 ISDs had reserves greater than 15 percent of their general fund revenue, up from 54 districts in FY2016. Intermediate districts had an average fund balance of 56 percent of revenue. Ten ISDs had at least 100 percent of their revenue in reserve in FY2019, meaning they had the equivalent of their entire general fund operating budgets in reserve.

Have Districts Saved Enough?

State law does not prescribe a specific level of savings that public schools must maintain. However, government fiscal best practices and school business organizations recommend public agencies maintain balances in their general funds of no less than two months of regular general fund operating revenues. This equates to between 15 and 20 percent of revenue.

In the context of prospective state aid cuts, it is difficult, if not impossible, to know how much districts will have to dip into their savings to make their budgets whole. Without  knowing the nature, depth, and timing of state spending cuts, districts will have to wait to see if they have saved enough to absorb funding reductions. Going into the current recession, nearly two-thirds of all districts have met the suggested savings levels. 

The answer also depends on how local school officials have already planned for possible state budget decisions. Remember, they were required to approve their 2020-21 fiscal plans by June 30; some districts may have budgeted a portion of their savings to make up for the possibility of state aid cuts, while others anticipating less state money may have relied more on program cuts to balance their budgets. It is likely that districts used a combination of budget balancing approaches – savings and spending cuts. Another factor in the calculus is if districts planned to budget their reserves over a number of years in anticipation that state tax collections do not immediately rebound in the wake of the current recession..

It is a good thing that Michigan school officials used the years since the Great Recession to build up their reserves. Broadly speaking, Michigan traditional and public charter school districts are in a much healthier position today compared to FY2016. Intermediate districts are the healthiest group by a mile; they have had an average of over 50 percent of revenue in reserve since FY2016. While saving levels differ considerably across district types as well as individual districts, the general improvement in districts’ fiscal health is positive given the many state budget uncertainties on the horizon.

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