In a nutshell:

• Last week the Michigan Court of Appeals ruled that the state is not allowed to include payments for new or increased state-mandated services in its calculation of local government revenue sharing under the 1978 Headlee Amendment to the Michigan Constitution.
• It is unknown what impact the court’s decision ultimately will have on state-local fiscal relationship because, despite a 30-year-old legal requirement to do so, the state has not produced a report to identify and estimate the costs of new or increased mandated services, or the associated payments made to local governments; the court directed the state to begin to compile such information.
• The Research Council’s 2009 report on this issue provides the state with a roadmap for designing a process to identify and cost-out state mandated services to comply with Headlee.

Recently, a three-judge panel of the Michigan Court of Appeals (COA) ruled on a case that likely will have far-reaching impacts on the often strained fiscal relationships between the state government and its thousands of local governments. 

At issue is a series of claims, made by a coalition of taxpayers representing a number of cities from across the state, alleging that the state is improperly implementing the 1978 Headlee Amendment to the Michigan Constitution and shorting the required amount of state funding flowing to the local governments. 

Plaintiffs have signalled their intention to appeal to the Michigan Supreme Court in the coming weeks. In the meantime, we encourage both sides to review the Research Council’s previous work examining reform proposals related to the identification and costing out of unfunded state mandates.

State revenue sharing has been a sore point between the state and its local governments for years, intensifying during Michigan’s “lost decade” and the Great Recession, when the state, starved for cash, began shorting its payments to local units. Locals claim the state has not held up its end of the Headlee bargain, pushing many into difficult fiscal straits requiring service cutbacks and/or tax increases.

Headlee, the current case, and how the court ruled

In November 1978, Michigan voters approved a sweeping tax limitation amendment to the 1963 Michigan Constitution, generally referred to as the Headlee Amendment. It added ten new sections to Article IX, including Section 29, which prohibits the state from mandating local governments to provide new services or activities without proper funding. 

Additionally, it prohibits the state from increasing the level of existing mandated activities and services without proper funding. Finally, it forbade the state from decreasing funding provided in 1978 for existing mandates. These provisions were thought to be necessary because a companion section of the amendment (Section 26) limits state government revenues in any given year.

Basically, it was meant to protect local units of government from what we’ve come to call unfunded mandates – orders from on high to implement new services, without the resources to do so.

To ensure fidelity to the new state-local fiscal relationship, Section 30 requires that the share of state spending paid to all units of local government annually (not individual governments, but as a group) does not fall below the proportion in effect in FY1979. This minimum level is set at just under 49 percent (the state revenue-sharing payments were well above this threshold at 55 percent in FY2018). Section 30 is designed as a “check” against the state offloading financing responsibility to locals in the face of its own tax/revenue limitations. 

The mechanics of the Section 30 calculation is at the heart of the current case.

In 2016, a group of local governments (Taxpayers for Michigan Constitutional Government) filed suit, alleging that the state has improperly accounted for certain Section 30 payments, resulting in the sustained and growing under-funding of  revenue sharing. 

The suit makes three claims with respect to the calculation: First, payments to school districts as a result of 1994’s  Proposal A school finance reforms should not be included. Second, payments to charter schools should not be included as they do not constitute “units of local government.” Third, payments to local governments for “new” state mandates should not be included. By including them in the state calculation, the locals argue that the state is allowed to count these payments twice (first to cover the “new” mandate requirement under Section 29 and second to meet the state’s obligation under Section 30).

On July 30, the COA ruled against plaintiffs on the first two complaints (i.e., Proposal A funding and charter school funding), but it agreed with plaintiffs that payments to fund “new” mandates could not be counted as payments in the form of aid to local governments. Further, and perhaps more significantly, it ordered the state to prepare a report to identify and quantify the extent that payments related to mandated services are currently being wrongfully counted. 

Is found money in your city’s future?

Should local governments expect a windfall from the state? In the near term (i.e., next fiscal year), the simple answer is “no.” 

Over the longer term, it is possible that the state will have to send more funding to local governments associated with the costs of new or increases in existing state mandates. How much? That is unknown. For the last 30 years, the state has been delinquent in its responsibility reporting such information.

That’s because the law enacted to implement Headlee has never been fully implemented. State requirements (including developing a process for identifying mandates and providing disbursements to fund state requirements for local governments) have been completely ignored. Last week, the COA moved to correct that, ruling that the state had breached its constitutional duty and directed it to start following the long-ignored law by identifying, collecting and reporting the information necessary to ensure compliance with Headlee’s local revenue-sharing obligations. Only after the state produces this report will we know if local governments can expect additional state funding.

While it is true that the state is currently well above the minimum revenue sharing requirement under Section 30 (approximately $2 billion as of FY2018), we have no idea how much the state has been shorting local governments for new or increased mandated services since 1978. This is a key piece of the puzzle.  

One estimate pegged the shortfall for a subset of mandates at $2.2 billion. But that was in 2009. That estimate has not been updated. Certainly local governments have incurred additional costs associated with the identified mandates over the last 10 years.  Updating the 2009 cost estimate for inflation alone will blow through the current Section 30 cushion enjoyed by the state.

CRC research provides roadmap

The court’s ruling that the Headlee Amendment has been continuously ignored echoes the sentiment of at least two major reports on the topic in the last 30 years. First, the 1994 Headlee Blue Ribbon Commission, assembled by then-Governor John Engler, found a wholesale disregard of the prohibition on the imposition of unfunded mandates was. Then, 15 years later, a legislatively-appointed commission to examine the state’s compliance with Headlee found no improvement. Now we have a court affirming the findings of these previous inquiries and directing the state to follow the law.

The state may well seek to appeal the COA decision directing compliance, which will only serve to prolong its recalcitrance. However, in the event that it does not, the state, as a first step, would be wise to review the final report of the Legislative Commission on Statutory Mandates as a roadmap for improving compliance with Headlee. The Commission was charged with identifying and investigating the cost of complying with funded and unfunded mandates imposed by the state on local units of government, and to make determinations and recommendations relating to those mandates.

CRC research served as the foundation for many of the Commission’s recommendations for implementing Section 29 of Headlee and ensuring compliance with Section 30 calculations.  Unfortunately, in the 10 years since, there has been scant public interest and very little legislative action around Headlee. Because not much has changed in the intervening years, our research and recommendations for reform remain relevant.

At a minimum, CRC recommends that the state, in formulating a process to comply with the recent COA decision and the constitutional provisions of Headlee:

1. Institutionalize a process for determining whether existing laws constitute state obligations to fund activities or services under Section 29. 
2. Strengthen the powers of local governments in this process so they are not at the mercy of the state in identifying and funding mandates.
3. Establish a procedure in the state budget process for appropriating funding for state requirements and disbursing those funds to local governments when state laws require new or increased activities and services.
4. Establish a process for estimating the cost of proposed legislation that would impose costs on local governments.