Barring movement on the property tax reform bills that are currently being discussed in the state legislature, I anticipate this will be my final blog on school finance for the year. I am somewhat skeptical they will be able to get a law passed this session. There are too many unknowns, and with just two weeks remaining in the legislative session it would seem unreasonable to fully vet these proposals. The stakes for getting it wrong are incredibly high. Understandably we are all eager for property tax relief. But at the same time we must ensure it is done correctly. It would be wise during this interim period to study the issue in greater depth so we can hit the ground running in January of 2026 with a proposal that has been fully vetted.
Today I want to focus on the concept of financial solvency in school districts. But before we get there, a brief primer on 'unspent balance' (USB). As I have hammered home time and again, the most important financial metric in school districts is 'unspent balance'. Unspent balance is the measure of unspent budget authority that either accumulates or deteriorates dependent on the fiscal discipline of the school district. This metric rises to the top of fiscal measures in a school district because it is a violation of state law to have a negative unspent balance. In fact, one can be held legally responsible for cratering an unspent balance. But even more ominous: a school district can be forced to dissolve. The way one increases budget capacity, or spending authority is simply to spend less than the full capacity year over year. In Hudson, we are in very good shape in terms of our unspent balance. In that past decade, this measure has grown from $1.3 million to $5.3 million for the fiscal year ending June 30, 2024. During fiscal year 2024, our expenses accounted for 94.4% of that years budget capacity, hence our improving USB metric. Over the next five years, I anticipate expenditures will be in the range of 96%-98.1% of [budget year] capacity, which suggests our unspent balance will continue to grow. The caveat though, is this capacity is not all funded by cash.
Which brings us to the second most important financial metric: the solvency ratio. The calculation is rather simple: ending fund balance divided by total revenue for the fiscal year. The target range for this calculation is between 5%-10%. In the fiscal year that ended on June 30, 2024 our ratio was at 16.82%, well above the target range. The challenge however is the trendline is heading in the wrong direction, and it is heading in the wrong direction fast. Why? Well, there are two primary reasons for this.
First is very rapid residential enrollment growth. For the year that we are currently in, our residential enrollment count increased by 50 students. Because of this growth, we had to add staffing to the school district and those students were subsequently counted as part of our enrollment certification process in the fall. As you know, that number forms the basis of our budget a year from now. So, while the cost to employ those additional staff is a real time expenditure, the funding is delayed by a year. This means that cost has to be paid for with cash on hand, causing the cash balance to deteriorate which negatively impacts the district solvency ratio. It is also important to point out, and in fact underscore the impact open enrollment has on this metric. It actually helps. Funding for enrollment growth due to open enrollment isn't delayed, it is on time. If the increase in enrollment was limited to open enrolled students, the impact on the solvency ratio would be blunted because the revenue generated by those students is realized during the current fiscal year.
The second reason our solvency ratio is headed in the wrong direction is because of special education cost overruns. You see, special education isn't bound by the same 'per pupil' limitations as regular education programming. Students who are served by special education programs are governed by the federal 'Individuals with Disabilities in Education Act', or IDEA. This law requires that each student served receive individual and specialized instruction. Oftentimes these cases can be quite complex, requiring 1:1 support services in the form of paraprofessionals, nurses, specialized transportation; or in the most complex of cases specialized schools. The challenge is that the funding for these programs falls far short of what is needed to fund the students' IEP. Because of this, most school districts in Iowa deficit spend special education programs in Iowa. Hudson is no different, to the tune of more than $650,000 annually. Because the state isn't properly funding special education services, the burden of doing so falls on the local community in the form of property taxes.
Solvency is really just a fancy word that tells us how much cash is remaining at the end of the fiscal year once all expenses have been encumbered. It's important because Iowa public school districts will continue to operate for approximately 90 days over the summer months without an infusion of capital. Less than 5% may mean the district doesn't have enough cash on hand to fund the operation over the summer months. So we need to ensure our solvency ratio stays above 5%, which means we would need to have no less than $800,000 in the bank once we've solved for all expenditures. That may seem like a lot, but it really isn't for an operation this size.
Without intervention, our solvency ratio will drop below 5% in fiscal year 2027. However, there is a remedy that includes two parts. First, we need to slow the rate by which our expenditures are growing to just 4%. Now, 4% may still seem like a pretty rapid rate of increase, but keep in mind that at that rate we will still expend just 98% of our capacity. In other words, our budgeted expenditures could grow in excess of 4% and we would still be under the current budget capacity for that fiscal year! (We would just use more cash, which doesn't solve the problem at hand.) Moreover, the rate by which our enrollment has been increasing over the last two years has caused our expenditures grow in excess of 8%. To reduce that growth rate by half is a tall order. However, we are making moves in fiscal year 2026 that should enable us to execute a 'soft landing'. Second, we need to increase our cash flow and fund part of that unspent balance. The way we do that is through a cash reserve levy. I hope you picked up a couple of key words: increase levy.
All of this will need to be done under the context of property tax reform. Now, those who we look to for advice and analysis point out that if the goal of the reform is to simply the property tax system this would accomplish that. It would also provide property tax relief across the state in aggregate. But in reality, it may simply shift the burden from your right front pocket to your left. Instead of this complex bill, if the legislature would simply fund SSA at 3% and meet their obligation for special education funding it would fix our solvency ratio problem: and it would take pressure off of property owners.