School finance: an overview

C H A P T E R

24 School finance: an overview Jennifer King Ricea, David Monkb, Jijun Zhanga,c a

University of Maryland, College Park, MD, United States; bThe Pennsylvania State University, State College, PA, United States; cAmerican Institutes for Research, Washington, DC, United States

Introduction School finance is a broad and evolving field encompassing three resource-related functions e revenue generation, resource allocation, and resource utilization e all aimed at providing educational opportunities and producing educational outcomes. All of these activities occur in a broader context of educational goals and societal values that shape how finance systems are structured and executed. In this chapter, we provide an overview of school finance, emphasizing the enduring challenges and highlighting new ways of thinking about them. We begin by exploring contextual factors that influence school finance decisions; this includes a discussion of the goals and purposes of public education and the broader societal values that frame public finance. The next section describes traditional and contemporary mechanisms for raising revenue to support education systems, and examines the role of different levels of government in supporting public education. The section that follows discusses how resources are allocated across education systems, and emphasizes the evolution of equity and efficiency considerations

The Economics of Education, Second Edition https://doi.org/10.1016/B978-0-12-815391-8.00024-0

in our allocation decisions. We conclude with a set of critical resource utilization issues that are at the center of current school finance policy deliberations. Throughout the chapter, our goal is to provide a sense of how this field has evolved, and we emphasize longstanding challenges and new ways of thinking about enduring issues. With the goal of offering an overview of the field, we prioritize breadth over depth and refer readers to other sources for additional information on the complexities and nuances of the topics covered. In addition, many of the ideas touched on in this chapter are given more indepth attention elsewhere in this volume. Our focus here is on K-12 public education systems in the US Issues related to financing higher education, non-public education, and education in international contexts are addressed in other chapters in the Encyclopedia.

School finance in context The goals and purposes of public education are to meet both individual and societal demands for schooling. In general, purposes of

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education are to produce individuals who can contribute to the economic, political, civic, social, and cultural institutions in our society. As such, we expect high school graduates to have acquired a wide range of competencies, skills, and personal qualities. These ideas are consistent with those of early proponents of public education including Horace Mann and Thomas Jefferson. Further, they reflect the work of international efforts to identify the array of “key competencies that contribute to a successful life and a well-functioning society” (Rychen & Salganik, 2003). While many of the benefits of formal education are enjoyed by individuals in the form of better employment opportunities, higher wages, better health, expanded options for leisure time, and a better life for themselves and their children, it is the social benefits of education that justify a publicly-financed system of schools. These social or collective benefits include all of the benefits enjoyed by individuals in the society, plus additional benefits that are uniquely collective in nature (Cohn & Geske, 2004). For instance, from a societal perspective, investments in public education pay returns in the form of national economic productivity and growth, good citizenship and a working democracy, a more peaceful society, and lower costs associated with prisons and social services. Analysts typically classify educational benefits into a four-cell matrix, as shown in Table 24.1. Calculating the returns on investments in education has been the focus of research, and estimates depend on a number of contextual

factors including the developmental status of the nation, and the level and type of education (Psacharapolous, 2006). Taken together, studies show that education is a good investment for individuals and for society, with a rate of return typically exceeding 10% (Becker, 1993, chap. 2, pp. 15e25; Card & Krueger, 1996; Montenegro & Patrinos, 2014). Estimating the “full” returns to education has long been a challenge due to the difficulties of quantifying many of the nonmarket benefits, though some progress has been made capturing the value of benefits like lower crime rates, better child education, household health resulting from investments in education, and the civic returns to education (Barnett & Masse, 2007; Baum & Payea, 2013; Dee, 2004; Haveman & Wolfe, 1984) The estimated benefits of education, particularly education at the elementary level that gives rise to basic literacy skills, make a compelling case for a public investment in education. Each year, hundreds of billions dollars in federal, state, and local revenues are dedicated to public K-12 education (National Center for Education Statistics, 2018).1 Over the past 50 years, 4e5% of the Gross Domestic Product has been invested in elementary and secondary education in the US (NCES, 2018). Decisions about how best to raise and allocate these resources are influenced by three broad and sometimes competing goals: efficiency, equity, and liberty (Garms, Guthrie, & Pierce, 1978).2 The goal of efficiency holds that resources should be used to pursue the best set of outcomes in ways that minimize the use of resources. The goal of equity emphasizes the

1

In 2015e16, expenditures for elementary and secondary education in the U.S. totaled $707 billion. K-12 education spending as a percentage of gross domestic product increased from 4.1 in 1995e96 to 4.5 in 2009e10, but has declined since then to 3.9% in 2015e16 (NCES, 2018). 2

While the ideas presented here are relatively straightforward, each of these goals is multi-faceted and complex. For instance, our definition of efficiency deals with production efficiency, but efficiency in exchange is also an important consideration (See Monk, 1990). Likewise, the concept of equity has been defined in numerous ways (see, for example, Wise, 1972). Finally, how to apply the goal of liberty in the provision of public education is wrought with complexities, particularly with respect to early childhood education.

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Introduction

TABLE 24.1

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Classification of the benefits of education.

Benefit type

Private

Social

Market

Employability

Higher productivity

Higher earnings

Higher net tax revenue

Labor market flexibility

Less reliance on government financial support

Greater mobility Nonmarket Greater consumer efficiency

Lower crime rates

Better household health

Less spread of infectious diseases Desired family size Better social cohesion

Non-wage remuneration (fringe benefits and working conditions)

Civic participation (voter participation, volunteerism, charity; service in public agencies)

Future opportunities for children

Technological change

Source: Adapted from Wolfe and Zuvekas (1997), and Psacharopoulos (2006).

fairness in the distribution of a good, service, or burden. The goal of liberty holds that revenue generation and resource allocation should be conducted in a way that properly balances individual in contrast to collective interests. While each of these goals is important in its own right, they are often in tension with one another requiring policymakers to strike a reasonable balance among them as they consider options for raising, distributing, and utilizing resources to realize the goals of public education.

Raising revenue: multiple and evolving roles Historically, school finance in the US was largely a local function.3 Families and communities raised resources to provide local schools so that children would learn the knowledge, skills, and values needed to be competent and productive adult members of the community. As the broader civic, social, and economic 3

benefits of public education became more apparent, state laws requiring children to attend school were adopted. Compulsory education laws, first enacted in the mid-1600s, obligated states to establish school systems to finance and administer public education. By the mid 1800s, systems of universal, tax-support education involving multiple levels of government spread throughout the country. Most often these systems were organized around school districts that were responsible for raising revenue, typically through the use of the local property tax, and providing educational services for students. This local system of education finance coupled with the uneven distribution of wealth across districts, however, resulted in large disparities across communities in education spending, services, and outcomes. Despite the efficiencies expected to result from this decentralized system of school finance (i.e., the potential for local systems to better meet the preferences of their constituencies), the inherent inequities associated

For a history of education finance, see Guthrie et al. 2007.

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with such a heavy reliance on the local property tax for revenue generation led to court cases challenging the legality of state systems of school finance.4 One outcome of these court cases was a gradual shift to more state involvement in revenue generation for public education. Over the period from 1919 to 2014, the state share of revenue for public education increased from 16.5 to 46%, while the local share decreased from 83 to 45% (NCES, 2018). This dramatic shift over time in the share of revenue provided by states and districts reflects a normative shift in school finance from the traditional emphasis on liberty to a greater emphasis on equity that could only be ensured through an increase in state involvement. Since education is fundamentally a state responsibility, the federal role has always been relatively modest. The federal government share peaked at 12.7% in 2009e10 and has faded to 8.7% of total government revenues for K-12 public education in 2013e14 (NCES, 2018). In general, federal funding for education has been motivated by three key concerns: ensuring opportunity for all students, countering underinvestment that might result in national labor shortages, and realizing scale economies through a national research and development efforts (Guthrie, Springer, Rolle, & Houck, 2007). Federal expenditures to promote equity include programs like Head Start that provides early educational opportunities for disadvantaged students, the Elementary and Secondary Education Act that supports education for low-income students, and Public Law 94e142 that funds education for handicapped students. Federal policies to promote efficiency include vocational education initiatives, the National Assessment of Educational Progress and policy efforts to monitor the effectiveness of schools, and data collection and research efforts to guide decision making. Finally, the federal government has

4

recently promoted the goal of liberty through policies that expand school choice. In addition to local, state, and federal revenue sources, many schools benefit from funding and resources from non-government sources. Since states have varied in their reporting requirements, information about the types, amounts, and distributions of non-governmental resources is limited. Much of the evidence is based on specific states and school districts (Addonizio, 1999; Schwartz, Armor, & Fruchter, 2002; Zimmer, Krop, Kaganoff, Ross, & Brewer, 2001). Since 2006, the federal government has required districts to report private contributions, and analyses have shown that private contributions to public schools can be substantial, giving rise to related questions about the implications these resources have for funding disparities across schools and districts (Mcintyre, 2016; VaraOrta, 2017). The different levels of government tend to rely on different types of revenue raising instruments, and these instruments have been studied in terms of their effects on equity and efficiency. As noted above, local districts tend to rely most heavily on the property tax, states have typically used a combination of sales and income taxes, and the federal government relies primarily on income taxes. Evaluations of these taxes tend to focus on five criteria: tax base, yield, equity, economic effects, and administrative and compliance costs (Odden & Picus, 2013). The most desirable taxes have a broad base and a low rate, a stable yield, minimal economic effects, and low administrative costs. Education finance systems typically incorporate a combination of taxes across levels of the education system, balancing the strengths and weakness of each instrument. Further, as will be discussed in the next section, intergovernmental grants are often used by federal and state agencies to encourage

For a detailed review of school finance litigation, see Minorini & Sugarman, 1999.

III. Production, costs and financing

Distributing resources: multiple and competing goals

local districts to shoulder their share of the tax burden for public education. In addition to the more traditional taxes used to raise funds for education, lotteries have been considered by many states legislatures as a potential revenue source for public education. Lotteries provide fungible revenues (Erekson, DeShano, Platt & Ziegert, 2002) that are often earmarked for public education (Novarro, 2005). Lotteries are popular alternatives in the face of constrained resources, and earmarking lottery profits for Ke12 education tends to increase spending (Evans & Zhang, 2007). However, revenue from lotteries tends to be unstable and regressive, qualities that make this strategy less attractive e on both practical and normative grounds e as a sustainable and fair means to generate revenue for public education (Campbell, 2003; McAuliffe, 2006).

Distributing resources: multiple and competing goals As described above, states assumed a more active role in school finance following court cases that challenged the equity of heavy reliance on the local property tax to fund education. This section describes the dominant approaches used by states to allocate education funds, reviews school finance litigation challenging the equity and adequacy of school finance systems, and explores issues related to the efficient use of educational resources.

Mechanisms for distributing revenue across school districts Several state equalization formulas have become common tools to distribute funds in more equitable ways than would occur by relying on the local property tax (Odden & Picus, 2013). Four approaches have dominated the landscape. Flat grants have been used to ensure that all schools are funded to provide a basic

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education for students. These programs provide all schools a grant, typically based on enrollment. However, by treating all schools the same, flat grants fail to recognize (a) the varying fiscal capacity of different districts that gives rise to inequities in the first place, and (b) the differential needs and costs across schools. Foundation programs were introduced in the early 1900s in direct response to the shortcomings of flat grants. The foundation program is rooted in the philosophy that states have an obligation to provide a minimum level of education. The state sets a foundation, the per-pupil expenditure needed to provide a minimum quality education, and requires a minimum tax rate to ensure local effort as a condition for state aid. States typically fund the difference between the per-pupil expenditure that districts are able to generate at the minimum tax rate and the stateestablished per-pupil foundation expenditure. In this way, states distribute funds inverse to local wealth with the goal of helping all school districts to provide a minimum foundation of education services. Districts are free to tax themselves above the minimum required rate to supplement this foundation level of spending, but the revenues generated beyond the foundation are a function of local wealth alone. So long as the foundation level and the minimum tax rates are set at relatively low levels, inequities stemming from differences in the fiscal capacity of school districts remain a problem. Guaranteed tax base (GTB) programs were introduced in the 1970s in response to school finance litigation based on unequal local fiscal capacity arguments. A GTB program guarantees, through the allocation of state aid, that each school district in a state can function as if it had an equal tax base. Essentially, the state establishes the tax base that will be “guaranteed” for all school districts and provides aid such that any district with an actual tax base less than the GTB will generate revenue as if they had the GTB. This “wealth equalization” program grants school districts the liberty to

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determine their own tax rate, and equalizes fiscal capacity up to the level of the GTB. State aid is awarded inversely to local wealth, thereby improving equity without limiting liberty. However, to the degree that the GTB is high and lowwealth districts tax themselves at a high rate, the cost to the state can be excessive. The fourth formula that states have used to allocate funds to support education is a combination foundation and GTB program. This combination approach can offset the problems of each of the formulas; the foundation program requires that districts provide at least a basic level of education, and the GTB ensures equity if districts choose to spend beyond the foundation level. Beyond these four basic formulas, states have employed a variety of strategies to promote greater equity. For instance, state-determinedspending programs prescribe the per pupil expenditure across districts in the state. This per pupil expenditure may be funded by the state or some combination of state and local revenues. States have also placed revenue limits on local school districts to restrict the difference in spending across jurisdictions. While these sorts of programs are intended to promote greater equity, they can have serious implications for liberty through limits on local control. Regardless of the state formula used to distribute general education funds to districts, additional adjustments are commonly made to account for student needs and geographic cost differences across school districts. Adjustments for special-needs students tend to take the form of categorical grants or weights that recognize the higher-than-average costs associated with educating low-income, limited-English proficient, and special education students. States typically provide this additional funding through grants or weighted student adjustments, but

some research indicates that states tend to underestimate the influence of poverty, special education. and limited English proficiency status on cost (Baker & Duncombe, 2004). Determining student eligibility and the magnitude of the weights to be assigned to various “types” of students is a process that varies across states and involves a number of assumptions about the costs of providing education services to students with special needs.5 A second type of adjustment recognizes differences in what a dollar can purchase across different jurisdictions. There is broad consensus that the cost of educational inputs varies geographically due to differences in local labor markets, housing prices, transportation and energy costs, and so forth. While measuring cost differentials can be difficult due to the multiple factors and data requirements, some useful tools have been developed and most focus on teacher costs given that salaries and benefits account for about 80% of current expenditures in elementary and secondary schools (NCES, 2018). For example, the Geographic Cost of Education Index (GCEI) developed by Chambers (1997) adjusts teacher salary to account for differences in worker and workplace characteristics. Likewise, Taylor and Fowler (2006) developed the Comparable Wage Index (CWI) to adjust for differences in the cost of education that are beyond the control of school districts. The CWI is constructed on salary differentials of non-educators and reflects the systematic, regional labor cost variation due to differences in both the cost of living and local community characteristics (such as crime rate).6

Challenges to state funding systems While the distribution formulas and weighting mechanisms that states use to allocate

5 For additional discussion, see Chambers, Parrish, and Harr (2002), Duncombe and Yinger (2005), Moore, Strang, Schwartz, and Braddock (1988), Schwartz, Steifel, and Amor (2005). 6

For updates on the NCES Comparable Wage Index, go to http://bush.tamu.edu/research/faculty/Taylor_CWI/.

III. Production, costs and financing

Distributing resources: multiple and competing goals

resources across school districts are intended to promote greater equity in education finance than would be realized through exclusive reliance on the local property tax, the equity and adequacy of state funding systems have been challenged in the courts. But defining what, specifically, constitutes a fair funding system has been an evolving process, one driven largely by the courts. And, in most cases, remedies to promote greater equity have required greater state investment in public education, which has shifted control away from local decision makers to state policy makers e revealing a tension between liberty (local control) and equity (resulting from greater state involvement). School finance litigation has been categorized into three “waves” (Guthrie et al., 2007; Baker, Green, & Richards, 2008). During the first wave, which spanned the 1960s through 1973, plaintiffs challenged school finance systems through the federal Constitution’s equal protection clause. This wave ended with Rodriguez v San Antonio in which the court ruled that school funding based on the local property tax was justified through its rational relationship with local control. The second wave, from 1973 through 1989, was characterized by challenges based on state education clauses and state equal protection clauses. These cases hinged on whether courts viewed (a) education as a fundamental right and (b) local wealth as a suspect classification; if not, the existing system was often upheld in the name of local control. The third wave, from 1989 to the present, includes cases based on claims that school finance formulas prevent poor school districts form providing an adequate educational services and opportunities, as defined by state education

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clauses and standards, to all students. An adequate education is one that provides resources sufficient to ensure that all students, regardless of background or residential district, have the opportunity to realize a clearly defined set of goals (Baker & Green, 2009, 2014). Given the simultaneous emphasis on inputs and outcomes, the goal of adequacy inextricably links goals of equity and efficiency. The tie that binds adequacy to equity is the principle that a state’s educational resources should be fairly allocated across all student groups in all state locales. The tie that binds adequacy to excellence is the principle that all students can and should be expected to achieve an absolute level of academic proficiency (Allgood & Rice, 2003). Several methodologies have been developed to determine an adequate expenditure level, including the professional-judgment approach (Chambers & Parrish, 1994, pp. 45e74; Gutherie & Rothstein, 1999), the successful schools approach (Augenblick, 1997), and the cost function approach (Reschovsky & Imazeki, 2003). Taken together adequacy studies suggest, almost without exception, that additional resources are needed to provide all students the opportunity to realize specified educational outcomes.7 The Campaign for Fiscal Equity v. The State of New York offers an illustration of how courts have used the concept of adequacy to identify a comprehensive and essential array of resources. In this lawsuit, plaintiffs successfully argued that the state’s school finance system underfunded New York City public schools and, in so doing, denied its students their constitutional right. The case created a new constitutional standard for a “sound basic education,” which NY State Supreme Court Justice DeGrasse, writing

7

In most cases, these studies call for substantial increases in state funding. For example, an adequacy cost study in Pennsylvania estimated the need for an additional $4.38 billion in state spending. Likewise, studies estimated additional costs of adequacy at $3.45 billion in Washington, $1.3 billion in Nevada, and $6e8 billion in New York State. Information retrieved on July 20, 2015 from http://www.schoolfunding.info/policy/CostingOut/ factsheetslist.php3.

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for the majority, defined as the “foundational skills that students need to become productive citizens capable of civic engagement and sustaining competitive employment.” To ensure a sound basic education, the court held that the state must provide at least the following resources: (1) sufficient numbers of qualified teachers, principals, and other personnel; (2) appropriate class sizes; (3) adequate and accessible school buildings; (4) sufficient and up-todate books, technology, and learning materials; (5) suitable curricula, including an expanded platform of programs to help at-risk students by giving them “more time on task”; (6) adequate resources for students with extraordinary needs; and (7) a safe orderly environment (CFE v. State, 295 A.D. 2d at 9e10). Research suggests that litigation, and the public and judicial pressure resulting from litigation, has improved equity, typically as a result of “leveling up,” or increasing overall state funding such that the additional funds are allocated to lower-wealth districts (Evans, Murray, & Schwab, 1999; Thompson & Crampton, 2002).

Utilization of resources: current policy issues for school finance Education expenditures are of interest to the extent that they are used to purchase resources that translate into meaningful learning opportunities for students, and, ultimately, desired outcomes like economic productivity, social responsibility, and civic participation (Rice, 2015). In this section, we describe several current policy issues that have implications for education finance systems.

Teacher compensation A first set of policy issues relates to teachers and teacher compensation. Teacher compensation consumes more that half of K-12 public education operating expenditures. This

substantial investment in teachers is justified on the grounds that teachers are the most important school resource provided to students (e.g., Ferguson, 1998; Rivkin et al., 2005; Sanders & Rivers, 1996). Nonetheless, concern about the supply and quality of teachers, particularly in geographic and subject shortage areas, has induced policymakers and researchers to consider how compensation can be used to attract and retain quality teachers into the profession and to the schools that need them the most. Research has also found that money, along with other factors such as working conditions, student characteristics, and school leadership, influences teachers’ decisions about where to work, whether to remain in the profession, and what kinds of ongoing professional development to pursue (Rice, Roellke, Sparks, & Kolbe, 2009; Springer, Swain, & Rodriguez, 2016). Further, evidence suggests that annual incentive payments, or bonuses, may be an effective tool for retaining teachers in subject-shortage areas and disadvantaged schools (Clotfelter et al., 2005). Research has found that large financial payments coupled with threats of dismissal may precipitate improvements in teacher performance (Dee & Wyckoff, 2015), but that the success of incentive systems may hinge on factors related to their design and implementation (Rice & Malen, 2017). Despite some experimentation with alternative compensations systems, most school districts have relied on single salary schedules that pay teachers based on objective criteria like education units, university degrees, and years of teaching experience. For the most part, these salary schedules do not account for the difficulty of the teaching assignment, the productivity of the teacher, or the competitiveness of the surrounding labor market (Goldhaber & Player, 2005). While an array of historical, social, and political factors explain the traditional reliance on salary schedules, some districts have begun to experiment with alternative compensation structures that may help increase teacher supply and

III. Production, costs and financing

References

performance (Podgursky & Springer, 2007). For example, districts have used a variety of economic incentives e e.g., signing bonuses, tuition remission for university credits, and housing assistance e to attract teachers to geographic and subject shortage areas. Clearly, more research is needed to understand how to structure teacher compensation in ways that advance the overarching goals of public education.

Expanding the scope of educational services Another current policy issue that has implications for resource utilization in school finance relates to expanding the scope of educational services. Initiatives like investing in early childhood education and linking education with other social services are typically advanced as efforts to improve the education opportunities for students from economically disadvantaged families. Research suggests that these kinds of initiatives may also have important implications for efficiency. While policies aimed at narrowing the achievement gap typically target school-age children, research shows that a substantial gap exists at the outset of formal schooling (Lee & Burkham, 2002; Stipek & Ryan, 1997). Proponents of early education programs recognize that investments in the young have relatively high returns (Carneiro & Heckman, 2003). Cost-benefit analyses of preschool programs for disadvantaged children have shown that the long-term effects of early education are associated with monetary benefits that exceed the costs of the programs. High-quality resource-intensive programs have returns that range from $2.50 to $10 for every dollar invested. These monetary returns come in the form of lower education costs, higher earnings, lower crime rates, and lower welfare rates (Barnett & Lamy, 2013; Barnett & Masse, 2007; Belfield, Nores, Barnett, & Schweinhart, 2006; Reynolds, Temple, Robertson, & Mann, 2002).

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Less resource-intensive, large-scale Head Start program also have been found to have benefits that outweigh the costs (Ludwig & Phillips, 2007; Oppenheim & MacGregor, 2002). While the price tag associated with these programs may be high, the investment may be wise on both equity and efficiency grounds. The conventional bounds of public education finance are also challenged by proposals to expand the role of schools. The idea is that efforts to narrow the achievement gap must recognize the wide range of social and economic factors e including health care quality, nutrition, housing quality and stability, parental occupation and aspirations e that affect student achievement (Rothstein, 2004). Proposals to address these multiple influences may involve greater collaboration between schools and other social service fields, or they might require providing a broader set of services (e.g., health and dental care) to low-income students within the school setting. Either approach has implications for fiscal policy and the potential to advance goals of efficiency, equity and liberty.

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III. Production, costs and financing