Pension debt could give new Detroit Schools a stumbling start

Gov. Snyder and others warn that the debt problem from Detroit’s state-run schools will only get worse if the Legislature doesn’t take action.

LANSING — Even if Gov. Rick Snyder succeeds with his plan to spin off a new school district from debt-laden Detroit Public Schools, the new district would have a structural funding problem before its first school bells ring.

The new district, to be called Detroit Community School District, would start operating as early as July 2016. But it would open its doors nearly $100 million in the red due to debt from employee pensions.

That’s because DPS has fallen behind in making payments to the Michigan Public School Employees Retirement System — by a combined $99.6 million since mid-2010, according to the state Office of Retirement Services.

MPSERS, as it’s known, is the state’s pension plan for employees of K-12 schools, intermediate school districts, colleges, universities and some public libraries.

The new Detroit school system also would have to assume declining student enrollment trends, at least in the near term. Snyder has proposed to give it $200 million in startup funding, half of which would be used to offset any per-pupil revenue losses tied to fewer students.

The district has lost nearly 100,000 students in the last decade, Snyder said. Enrollment was an estimated 47,000 students last year. DPS has not released its corrected fall student count numbers for this school year; those counts are due Nov. 18.

Taken together, the enrollment trends and the pension debt set the Detroit Community School District on a tenuous path. But Snyder and other restructuring advocates warn the problem will only get more expensive if the state legislature doesn’t approve the split.

Call for action

Under Snyder’s plan, Detroit’s teachers, their contracts and all of their post-employment benefits — including any balances — would move to the new district.

School reform advocates say taking action — soon — is key.

“To do nothing is going to further encumber the state,” said John Rakolta Jr., CEO of Detroit construction firm Walbridge Aldinger Co. and a co-chairman of the Coalition for the Future of Detroit Schoolchildren, which earlier this year recommended reforms for the district. Many wound up in Snyder’s proposal.

“Many people say this is another Detroit bailout. That would be fair to say if the DPS and the local authorities had been in control of this for the last 15 years, but the reality is, they haven’t,” Rakolta said. “I prefer to say this is the state actually bailing out the state. Rightfully they should, and the sooner the better, because it’ll save all the taxpayers in the state of Michigan a lot of money.

“If they don’t do this, the structural deficit won’t be addressed.”

The coalition includes a spectrum of reform advocates, from Tonya Allen, president and CEO of the Detroit-based Skillman Foundation, to Rakolta, to David Hecker, president of the AFT Michigan/AFL-CIO.

Managing costs

The Detroit Community School District would continue to pay employees’ pension obligations, Snyder said. That’s a fairness issue, he said: Michigan districts pay a capped 20.96 percent of payroll expenses toward the state retirement system’s unfunded accrued liability, while the state covers any additional balance with School Aid Fund dollars.

“We believe they can manage those costs,” Snyder said of the new Detroit district.

The state House of Representatives’ school aid appropriations subcommittee scheduled a hearing this week on Detroit Public Schools’ budget.

One of the first issues to tackle is finding the money to pay down the $100 million pension balance. Detroit Public Schools is the largest among a few Michigan school districts to miss monthly payments. And it owes the most.

Revenue losses caused by sliding enrollment have been another significant factor, said Kerrie Vanden Bosch, interim director of the state retirement office.

In 2004, DPS alone made up 7.8 percent of the $46.8 billion state pension system with 24,918 employees, by far the largest district in the system. That’s according to MPSERS’ financial report for the fiscal year that ended Sept. 30, 2014.

By 2013, employment had fallen to 9,118, and Detroit made up just 4.2 percent of the retirement system as the district shed employees.

Yet it still holds the biggest individual piece of the state retirement pie. That means Detroit Public Schools’ financial problems could fall on the backs of the rest of Michigan’s public school districts, particularly if a solution calls for Detroit’s teachers to take the unprecedented move of leaving the system — and other districts are forced to take on the city’s total $1.5 billion school retirement liability.

“That’s why you see lots of different opinions over in the Legislature about how this should be handled,” said Kurt Weiss, a spokesman for the state budget office.

Other options

Not everyone agrees Snyder’s plan will work. Already, there is talk of revisiting Proposal A, the state’s 20-year-old school funding mechanism that relies on property taxes.

Some opponents want the state to adopt a voucher system, which is controversial because it allows parents to use dollars meant for public schools to pay for private or parochial tuition.

“I’m on record that I’m not a big fan of the governor’s plan,” said Rep. Tim Kelly, R-Saginaw Township, chairman of the House Appropriations School Aid Subcommittee and a member of the House Education Committee. “I think it’s all about dollars and adults and not as much about kids and academics.”

Snyder’s $715 million plan calls for spinning off the Detroit Community School District to educate the city’s kids going forward, while phasing out the current DPS under an “old company” and “new company” model. But that’s after DPS pays down an estimated $515 million in operating debt.

The existing district would keep a $70 million millage from taxpayers for debt service over an estimated 10 years, while the state’s School Aid Fund would contribute $70 million per year to the new district for its per-pupil funding. It’s equivalent to $50 per student statewide.

The legislation, expected to be introduced within weeks, also would create a new Detroit Education Commission to oversee the new Detroit school district, charter public schools and the Education Achievement Authority.

The commission would hire a chief education officer in charge of academics, including authority to close low-performing schools.

When a company or other entity is split into two for debt reasons, typically it means taking the old entity through bankruptcy or other out-of-court restructuring where creditors are paid pennies on the dollar, said Brian Connors, managing director with financial restructuring firm Conway Mackenzie Inc. in Birmingham.

With Detroit’s schools, though, “there’s no talk of restructuring the debt … because it’s a domino effect, it’s a state-run pension system,” Connors said.

Plus, the state has a conflict of interest as both a creditor and the trigger on whether DPS files for bankruptcy, he said.

Bankruptcy is not a realistic first option. But the state could use the split as leverage to renegotiate old debt to get some relief, Connors said.

Kelly, the school aid appropriations subcommittee chairman, said he doesn’t support Snyder’s plan as drafted and said he believes school vouchers should be on the table.

“If you don’t have … some sort of plan about the quality of academics, all you’re going to do is restart the debt clock,” Kelly said. “This new district will start on a deficit watch list. Why would you want to start any entity in that situation?”

Snyder says his plan — particularly inclusion of a chief education officer — will begin to address the district’s academic performance. He believes the new Detroit district has the best shot at doing so if it doesn’t need to spend a portion of its per-pupil revenue on debt payments.

“That’s something we’d like to see — better results in the classroom and more resources to go with that,” Snyder said.

That conversation could someday include reforming school funding statewide. Snyder told Crain’s he is open to the discussion. Rakolta said Proposal A is “totally broken” and the state’s K-12 education system was not designed to meet 21st-Century needs.

But that’s a conversation for later, he said, once the issue of fixing DPS is resolved.

“We need to get out of triage, and that’s what we’re working on right now,” Rakolta said. “The patient is almost dead.”