May 13, 2016
The Chicago Public Schools faces a potentially devastating financial crisis. The elements of this crisis include:
- An FY2016 budget that was not balanced as it depended on the vague hope that the State of Illinois will provide $480 million for pension relief,
- A forthcoming FY2017 budget that may have a gap of $1 billion or more,
- An ongoing structural deficit due to the District’s pension funding crisis, increases in long-term liabilities, decreases in general state aid, employee compensation increases, and operational problems,
- The District’s cash flow crisis,
- The repeated use of one-time revenues to balance the CPS budget, and
- The depletion of CPS reserve funds.
Parents, teachers, government officials, taxpayers and the Civic Federation are all deeply concerned about the fiscal viability of CPS. For the last several years the District has been able to use budget gimmicks to achieve short-term balance at the cost of long-term financial stability. However, it has now run out of ways to delay the day of fiscal reckoning.
Some parties have advocated bankruptcy for CPS as a way to begin the process of stabilizing its financial situation. As there currently is no direct access to municipal bankruptcy in Illinois, this approach would require legislative approval. Chapter 9 bankruptcy actions can provide fiscally distressed governments with a way to adjust and reduce their outstanding liability obligations, including debt and pension obligations. However, many experts and the Civic Federation take the position that bankruptcy should only be a final option after all other efforts had been exhausted.
In a recent two-part series of articles on MuniNetGuide.com, nationally recognized public bankruptcy expert, Managing Director of Chapman Strategic Advisors LLC and Civic Federation Board member James Spiotto, argues that Chapter 9 is not the best resolution for financially distressed schools (Part I and Part II).
School districts have rarely resorted to bankruptcy as their financial issues are usually more complex and technical than simply involving debt adjustment. Since 1954, only four school districts have filed for bankruptcy: San Jose, California; Copper River School District, Alaska; Richmond Unified School District, California and Chilhowee School District, Missouri. In these cases, bankruptcy has been used primarily as a tool that helps bring parties to a negotiated settlement.
Spiotto notes that there are issues with resorting to bankruptcy to stabilize a school district’s finances. In Chapter 9 proceedings, the jurisdiction of the court is limited to debt adjustment. The court has no jurisdiction over other matters such as operations or academic issues that are often critical factors in developing a recovery plan. Bankruptcy also produces a stigma that can limit a school district’s access to credit markets in the future and/or increase future borrowing costs by at least 1% to 3% annually. Finally, any economic benefits produced by Chapter 9 bankruptcy proceedings are more than overcome by the increased cost of borrowing. This is particularly true for large urban school districts such as CPS.
Spiotto points out that rather than resorting to bankruptcy, school districts facing fiscal crises historically have been restructured and refinanced under local or state supervision. This has been the case for school districts as diverse as Philadelphia, Los Angeles, Detroit and Proviso Township High School District 209 in Illinois. Supervision allows for a more comprehensive approach to recovery than bankruptcy. It enables the supervisory authority to undertake budget adjustments, modify personnel practices, make curriculum revisions and to revise operating standards and processes. All of these actions may be essential to ensuring that the school district is placed on the road to long-term financial recovery, rather than simply addressing its immediate cash flow crisis. While bankruptcy actions are rare, state intervention has a longstanding track record of resolving school district financial crises.
In the case of the Chicago Public Schools, Spiotto argues that the best approach to developing a solution to the district’s fiscal crisis would be to establish a Local Government Protection Authority (LGPA). The LGPA, long championed by the Civic Federation, would be a quasi-judicial body that would provide a supervised forum to assist the CPS Board and administration in finding solutions to stabilize the District’s finances. These solutions would include consideration of options such as expenditure reductions, revenue enhancements, employee benefit changes, labor contract negotiations and debt adjustment. Plans facilitated by the LGPA would be an alternative to bankruptcy, allowing key stakeholders to negotiate a workable fiscal solution. If the stakeholders could not find a solution, the LGPA would be empowered to enforce a binding resolution of outstanding issues.
The Civic Federation has addressed the issue of municipal bankruptcy and state intervention in cases of municipal financial distress in several blogposts:
Municipal Bankruptcy (2012)