Why L.A. Unified may face financial crisis even with a giant surplus this year

With more than half a billion dollars socked away for next school year, the Los Angeles Unified School District hardly seems just two years from financial ruin. It’s a scenario that is especially tough to swallow if you’re a low-wage worker seeking a raise or a teacher who wants smaller classes.

But budget documents show that today’s $548-million surplus cannot be sustained — and that even basic services face steep, seemingly unavoidable cuts because of massive problems barreling the district’s way.

“There’s a disconnect between the rosy short-term picture and what we know is coming,” said board member Kelly Gonez.

Board member Nick Melvoin, more bluntly, said, “We’re in a death spiral.”

Facing these financial ills will be a central challenge for Austin Beutner, the district’s new superintendent. The former investment banker’s selection over more traditional candidates may signal the school board’s willingness to tackle budget problems that have plagued the district for years.

The nation’s second-largest school system has enjoyed a major infusion of funding since the bone-deep cuts it endured during the recession. But in coming years, school officials project growth in employee pension and healthcare costs will eclipse the change in revenue.

By 2020, projections show a $408-million shortfall. And that doesn’t account for some employees’ recently won pay raises or the impact of an increasingly likely economic recession.

As with many problems in the sprawling school district, there is debate about the extent of the crisis and what to do about it. Local union leaders have a less pessimistic take on the district’s finances. They look at the reserve and see ample money for raises.

Board members may talk about future calamity, but they just approved a raise for 30,000 bus drivers, cafeteria workers and classroom aides. And as Los Angeles teachers watch their peers across the state win pay hikes, they feel increasingly sure that they’ll get one too.

Beutner talks of a three-year window for addressing the problem, even as some of his new underlings quietly press for immediate action.

“Everyone who works in the district comes to work with an expectation they’re going to be treated fairly. They need to be treated fairly,” Beutner told the Los Angeles Times. “How we strike that balance remains to be seen.”

He said to expect a plan “in months, not years.”

Cost savings that the district approved last year but never implemented offer clues about what might be considered. Raising high-school class size to nearly 50 could be among the first moves.

“Our costs are rising and as a result, there are hard choices and trade-offs to make each time we look at the budget,” said Scott Price, the district’s chief financial officer.

Administrators saw the crunch coming from as far back as 2014, budget documents show. That was the year Gov. Jerry Brown signed legislation to save the California State Teachers Retirement System from future insolvency by hiking all districts’ payments into it and increasing those payments over time.

The average retiree gets about $55,000 a year. Had the state not taken action, the system could have run out of money.

Before 2014, districts had been contributing 8% of their payroll to the retirement system each year. Brown’s deal called for that rate to rise steadily, up to 19% by 2020.

Districts’ payments to the state pension fund already are especially burdensome for Los Angeles Unified, given the financial impact of its steadily declining enrollment.

Over the next two years, the district expects its pension and healthcare costs to climb $115 million, a 6% increase, while its revenue dips about $150 million, a 2% decline.

Speaking at a Capitol hearing just before the 2014 deal was finalized, Los Angeles Unified lobbyist Leilani Yee told lawmakers that increases in school district contribution rates were “very much in order” to protect teachers’ pensions.

But four months later, district officials began characterizing the shift as problematic, writing in a September 2014 budget document that pension and healthcare costs were expected to outpace projected growth in state funding under a new system championed by Brown around the same time.

That system, known as the Local Control Funding Formula, seeks to narrow the state’s stubborn academic achievement gap. It gives districts with large shares of disadvantaged students extra cash to help them and flexibility to determine how the money is spent.

Los Angeles Unified, where 86% of students qualify, has been one of its biggest beneficiaries. Since the state adopted the formula in 2013, the district’s budget has shot up 22% — to $7.2 billion this school year. But the supplemental funding is intended for needy kids, so that windfall isn’t meant to cover rising but unrelated district costs.

“When I first looked at the governor’s [pension] proposal, I thought: ‘Oh my goodness. This will be difficult,’” said Price, who was working for the Los Angeles County Office of Education at the time.

Still, the next year, the district approved a 10% raise for teachers and other employees, their first since the Great Recession.

Meanwhile, Megan Reilly, the district’s finance director at the time, stressed in budget documents that “base” funding would not cover rising pension and healthcare costs.

“The growth of these expenditures outpaces the increase in revenues,” she wrote in a 2015 report.

A CALmatters analysis of district finances shows that employee benefit costs have risen at a faster rate than base funding over the last five years, raising questions about whether the district might have balanced its budget by dipping into its funding for needy students.

L.A.’s use of that funding previously has come under fire, and the district has always defended its spending decisions. The district’s frequent use of one-time money to cover rising costs also may have served to hide its problems. It’s a bad way to manage a budget, said Mike Fine, who leads a team that analyzes school district budgets on behalf of the state.

L.A. school board policy once forbade the practice. But in June 2016, with few other options, the board dropped a section of its rules titled “Appropriate Use of One-Time Revenues.”

If a recession strikes, the district’s financial health could degenerate rapidly.

“We’re all just holding our breath,” Price said about the prospect. “We would need to cut as fast as we can so that we don’t end up in bankruptcy.”

Union leaders are not ready to forgo raises for their members based on gloomy projections.

After threatening a one-day strike that would have closed schools, the union for bus drivers, cafeteria workers and classroom aides won their 3% raise. The members deserve it, said union leader Max Arias; most are minority women who barely scrape by.

Besides, he said, the district always manages to avoid the forecast budget crises. Why is this situation any different?

“We do acknowledge there is a mid- to long-term problem,” Arias said of pension and health liabilities. “There’s also a lack of belief in what the district is saying. There’s a lack of transparency.”

United Teachers Los Angeles President Alex Caputo-Pearl said he does not believe that it is imperative to demand sacrifices from his members. Asked what part the union would play to try to help the district avoid budget deficits, he said he wouldn’t consider the question because he expected the state to give the district more money.

“If we take it off the table,” Caputo-Pearl said at a recent Pepperdine University event, “then we are acknowledging that the public district system is going to go off a fiscal cliff, which I’m not willing to acknowledge.”

He has some history on his side. In past crises, the school district has been bailed out by tax increases, federal emergency aid and economic recoveries.

Union leaders and district officials are allied in efforts to increase revenue. And other school systems would join L.A. Unified in lobbying to push back the higher pension payments. They have about three years to work something out.

But the district’s recent history also includes a few episodes when there was no rescue — and massive layoffs and program reductions followed. The Brown administration says districts have had plenty of time to plan for the pension payments ahead and has indicated that a state-funded bailout isn’t likely before the governor leaves office next January.

Although it may sound counterintuitive, the district actually may need to spend more to solve its budget woes long term, said John Rogers, an education expert at UCLA’s Graduate School of Education and Information Studies. Any real or perceived deterioration in quality could drive more families, and thus revenue, away.

“Then enrollment becomes even harder to sustain, and you’re in a downward spiral that no cost-cutting can help to solve,” Rogers said.

Many teachers strongly support Caputo-Pearl’s position and rely on the union to defend their pensions.

But fifth-year teacher Josh Brown says he’s not counting on one. The special educator at Oliver Wendell Holmes Middle School has an alternative retirement plan: investing a portion of his salary in the stock market.

“I’m 30 years old, and I’m paying into a pension system that may or may not be around when I retire,” he said. “If I were 65 years old and retiring soon, I would feel differently. Right now, I feel frustrated and worried.”

At a recent board meeting, parent Paul Robak urged board members to reject a healthcare spending plan that would further squeeze the budget. The members listened and thanked him for testifying before approving the agreement.

“It’s as if the board members are prancing down the lane and covering their ears, pretending nothing’s wrong,” said Robak, who has been active on the district’s parent councils for a decade. “Everyone will lose if we fail to act.”

Calefati is a reporter at CALmatters.org, a nonprofit, nonpartisan journalism venture in Sacramento.

Twitter: @calefati

The Times provided CALmatters with the transcript of an interview with Beutner.