Financing School Facilities

April 1, 1999
Local, state and federal policymakers must consider each of the resource needs associated with school construction, maintenance and operations.

In light of the recent focus on identifying solutions to increasing problems associated with school buildings, the Association of School Business Officials (ASBO) International assembled a project team from a cross section of ASBO committees and members. The team was charged to investigate school facility issues, assess the scope of the problems and make recommendations for change. As a result, it recently released "Financing School Facilities," a report on the status of school facilities in the United States.

Three distinct areas that require school facility financing to meet future demands were identified. In addition, it was noted that local, state and federal policymakers must consider each of the resource needs associated with school construction, maintenance and operations. The resource needs can be summarized as follows:

-Resources for the renovation and/or replacement of existing buildings, and the construction of new and/or expanded facilities.

-Resources for accumulated deferred maintenance for existing facilities and for maintaining facilities in the future.

-Resources for financing the future depreciation of existing and new school facilities and equipment.

The report focuses on problems with old schools, unsatisfactory schools, increasing enrollments and changing program needs. Since the turn of the century, almost $750 billion worth of school buildings has been constructed in the United States. Recent studies show that 50 percent of the school buildings in the United States were constructed before 1960. While there are great variations within each state, 25 percent of U.S. schools were built before 1950, and 20 percent before 1940. The average age of the American school building is approaching 50 years, and estimates show that as of 1993, only 6 percent of all schools were built since 1980.

Information reported in U.S. General Accounting Office (GAO) studies details the level of need for school construction in the United States. The results indicate that $112 billion is needed to complete all repairs, renovations, modernizations and deferred maintenance to bring schools up to a "good" overall condition. This figure does not encompass new construction to accommodate continuing growth.

GAO studies also indicate that an estimated 14 million students are being educated in 25,000 school buildings-33 percent of all buildings in the United States-that are unsatisfactory. In addition, 25 million students attend schools that reported at least one unsatisfactory condition, such as leaky roofs, asbestos, plumbing problems or lack of space.

Innovative strategies

In addition to discussing traditional financing strategies, including bond and referenda, state funding and formulas for state support, the ASBO report includes innovative financing strategies. It notes success in several states of mitigation, or impact fees, as a method of financing capital costs of school construction and equipment purchases. Other strategies include corporate-sponsored school construction; charter schools; joint-use facilities; cooperative construction projects with local governments; state and federal competitive funding programs; and local, educational-foundation fundraising.

To assist school districts with their capital funding needs, several changes are needed in policies, statutes, regulations and law. The following policy changes are recommended:

-Depreciation accounting. School districts would be allowed to expense capital assets as they depreciate and replace that amount on an annual basis.

-Lease/third-party financing. A new, publicly financed capital market has emerged in only the last few years. This market provides capital for direct lending, direct mortgage instruments and mutual fund investments, known as real-estate investment trusts.

-Innovations in delivery methodology. A number of new methods have been developed, including design/build construction, commissioning contracting, performance contracting, value engineering and project-cost management.

-Investment of bond proceeds and the arbitrage exemption. Investing bond proceeds can expand the ability of school districts to adequately fund capital projects. The limitations imposed by the Internal Revenue Service (IRS) and many state legislatures prevent school districts from investing bond revenues in creative and high-yield financial instruments. However, recent changes to the IRS code-effective December 31, 1997-increased the arbitrage exemption for qualified school construction activities from $5 million to $10 million per year. Also, efforts in the U.S. Senate have been directed at raising the exemption even higher (See Editor's Focus, p. 8).

-The three-year safe harbor. Another creative financing concept is the proposal to implement a three-year safe-harbor exemption from the arbitrage rebate rule for the financing of school construction. Under this concept, bond issues greater than the allowed small issuer exemption would have the following spend-down requirements: 15 percent by the end of year one, 95 percent by the end of year three.

-Bank deductibility. Currently, local banks cannot purchase tax-exempt bonds at certain levels from a school district and deduct the interest expense. If an exception was made to allow banks to purchase tax-exempt bonds for local school construction without the loss of a deduction for the interest expense attributable to those bonds, finance authorities could support construction activities more easily.

-Expansion of private-activity bond classification. Under current federal law, states are limited in the amount of private activity bonds that private developers and construction firms can receive for larger qualified construction projects, such as airports and hydroelectric projects. The extension of the definition of qualified projects to include school construction, and the exemption of those bond amounts from the state volume cap, would enhance private participation in construction.

Call to action

The report concludes with a recommendation that state legislative bodies and local education administrators pursue the following:

-Renew their commitment to establishing standards of educational adequacy and safety for school facilities and equipment.

-Re-establish or strengthen offices and functions for the oversight of school facilities and equipment.

-Enact laws and regulations that require proper school facilities and equipment.

-Maintain databases of the condition of school facilities and equipment.

-Establish standards for the application of technology in school facilities.

-Provide state-level funding for an equalized method for school-construction financing.

-Provide supplemental resources for incentive-development programs for "model" school designs and other competitive "lighthouse" grant programs; and specialized-needs areas to fund worst-case scenarios for property-poor school districts, high-growth areas and catastrophic emergency conditions.

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