#181 Winter 2015-16 — Education Reform

Why Are Community Development Lenders Financing Charter Schools?

The choice to support privately-operated, publicly-funded schools puts these lenders at odds with many of their usual political allies and constituencies. So what’s the motivation?

Credit: Julia Sass Rubin

Newark public school parents protest charter school expansion at a Dec. 2015 NJ Assembly Education Committee meeting.

Newark public school parents protest charter school expansion at a Dec. 2015 NJ Assembly Education Committee meeting. Photo courtesy of Julia Sass Rubin

Charter schools have become controversial.

Many parents and students across diverse communities are fighting the creation of new charter schools, concerned about the negative financial impact they would have on the local public schools.

In August, for example, Southwest Chicago residents delivered over 500 letters to their alderman from local parents and students who opposed the opening of two charter high schools. The residents feared that the charter schools would divert funding from their “already cash-starved traditional neighborhood schools.”

Community members are also expressing resistance to forced conversions of traditional public schools into charter schools.

In June 2014, the Philadelphia school district gave parents at two high-poverty public schools the option to have those schools taken over by charter school operators. Parents at both schools overwhelmingly rejected that idea, choosing to stay as a part of the district. In 2015, the Philadelphia school district decided to forego another vote and instead informed the community that three of their public schools would be converted to charter schools. This announcement was greeted with opposition by parents who felt that it excluded them and “would expand the reach of costly charters in the district.”

Some community leaders argue that the growth of charter schools, which is taking place primarily in low-income communities of color, is an attack on those communities’ civil rights. Jitu Brown, the national director of Journey for Justice Alliance, “a coalition of community, youth, and parent-led grassroots organizations in 21 cities,” has called for a moratorium on all federal charter school programs. Brown argues that middle class white communities “don’t have charter schools … they have world-class neighborhood schools.”

This growing community resistance to charter schools has been mirrored in the pages of publications such as The Nation, In These Times, The Progressive, and Mother Jones, which increasingly portray the expansion of charter schools as part of a broader conservative political agenda of public sector privatization and hostility to unions.

Progressive politicians have also taken note. New York City Mayor Bill de Blasio, Philadelphia Mayor Jim Kenney, and Newark Mayor Ras Baraka all ran on the promise of strengthening local public schools rather than expanding charters. Even Hillary Clinton, a long-term supporter of charter schools, recently tempered her support by noting that most charter schools “don’t take the hardest-to-teach kids, and if they do, they don’t keep them.”

Despite this growing hostility in many communities, the charter school industry continues to have the unquestioning support of some community development organizations whose missions usually are consistent with the interests of low-income community residents, progressive politicians, and liberal publications, namely community development loan funds (CDLFs). CDLFs are one form of community development financial institutions—specialized financial intermediaries that lend and invest in distressed communities, guided by a mission to align capital with social, economic, and political justice. For more than three decades, CDLFs have helped low-income and low-wealth communities finance needs such as affordable housing, community facilities, supermarkets, and childcare centers. More recently, a subset of CDLFs have specialized in financing charter school facilities, committing substantial resources to the sector.

How We Got Here

Charter schools are created via state laws, with significant variability among states as to who has authority to approve or oversee them, how they are funded, what regulations they must adhere to, and whether they may be for-profit. The only consistency across all U.S. charter schools is that they are publicly funded and privately managed.

The earliest charter schools were created shortly after Minnesota’s 1991 adoption of its first-in-the-nation charter school legislation. Minnesota’s law, like most of those that followed, provided charter schools with public funding for tuition but not for facilities. Conventional lenders were reluctant to provide facility loans for charter schools, which operate under renewable, usually five-year, charters that can be cancelled by the state for many reasons. By 1993, some CDLFs had begun to step into this market gap.

Over the subsequent two decades, CDLFs became a substantial source of charter school facility financing. According to LISC, by the end of 2013, 19 CDLFs had provided more than $2 billion in grants, recoverable grants, loans, and loan guarantees to charter schools, as well as almost $1 billion in New Markets Tax Credit financing for charter school facilities. And this support is growing. The CDLFs profiled by LISC doubled their financial support for charter schools between 2009 and 2013.

As CDLF lending to charter schools has increased, some CDLF leaders have become close political allies of the charter school industry—not only serving on charter school boards of directors and openly lobbying for further charter school expansion, but also embracing the rhetoric of public school failure promoted by some charter school proponents.

What explains these CDLF’s uncritical support of charter schools, even as many of their usual allies express growing concerns that the expansion of charter schools may be negatively affecting public education and low-income communities? We will examine five possible reasons.

1. Charter School Performance

Some CDLFs support charter school expansion because they believe that “charter schools are improving the quality of education for low-income students in many communities,” in the words of Annie Donovan, former chief operating officer of the CDLF Capital Impact Partners (then NCB Capital Impact). They point to the high percentages of charter school students who are low-income and note that, as Donovan has written in report for the Federal Reserve, “in communities where children have less than a 50 percent chance of completing high school, some charters are preparing and sending them to college [which] is a significant poverty alleviation strategy.”

The research surrounding charter schools’ academic performance is highly contested. Charter school supporters refer to studies that find some charter schools have higher standardized test scores and graduation rates than their sending school districts. Charter school critics counter with studies that show the academic results for charter schools are as variable as those for local public schools. There are major methodological hurdles to charter versus district performance comparisons, including selection bias; substantial differences in charter school regulations among states; and differential student demographics, attrition rates, and resource levels among charter and district schools. These hurdles make comparisons very challenging, even for educational assessment experts.

While school performance continues to spark ongoing debate, research based on multiple states documents that charter schools as a whole educate fewer students with special needs, particularly more severe needs; fewer English Language Learners; and fewer very-low income students than the charters’ sending school districts. As a result, these more challenging and expensive-to-educate students become concentrated in the district schools, even as charter school expansion diminishes the financial resources that districts require to pay for those students’ education.

Moody’s Investor Service notes that this is particularly problematic for urban districts with high rates of student poverty and fewer resources to counter the financial drain of charter school expansion:

“Charter schools can pull students and revenues away from districts faster than the districts can reduce their costs. . . . As some of these districts trim costs to balance out declining revenues, cuts in programs and services will further drive students to seek alternative institutions including charter schools.”

Researchers, community members, and former teachers have also raised concerns about a subset of charter schools called “no-excuses,” which are found almost exclusively in low-income, urban communities. No-excuses charter schools impose rigid discipline, including public shaming, on a population of students that consists primarily of low-income children of color, resulting in these children being treated very differently than their white and middle-class peers. The extensive use of suspension and expulsion by some no-excuses charter schools, starting as early as kindergarten, also produce very high attrition rates, particularly for black boys. Numerous studies have documented that suspensions and expulsions contribute to a school to prison pipeline.

2. Urban Revitalization

CDLFs may support charter schools because they perceive them as a good urban revitalization strategy. As Donovan noted in a 2008 paper:

“Charter schools are proving to be an effective tool for community development and revitalization. Because they tend to serve low-income, minority students, charter schools are disproportionately located in urban areas that are financially underserved—a prime market for CDFIs. Charter schools often redevelop underused or dilapidated properties and convert them into attractive spaces. The adaptive reuse of existing facilities helps to preserve land and reduce sprawl. These smart growth principles contribute to community and neighborhood sustainability. The schools create jobs and attract ancillary businesses and services to the immediate neighborhood, helping to anchor community development efforts.”

Some CDLF practitioners also believe that charter schools are conducive to urban revitalization because they provide middle-class families with “safe” educational alternatives that encourage them to move to and stay in urban areas, helping to break up the concentrated poverty found in many of those areas. Research documents that charter schools are used by higher-income, primarily white urban residents who do not want to send their children to local public schools serving large numbers of low-income, black and brown students.

Other studies provide evidence that charter schools are used by more affluent whites in non-urban communities as well, as a means of facilitating segregation. More generally, numerous studies have found that charter schools lead to increases in segregation in education by race, ethnicity, and income, across metropolitan areas.

3. It’s Where the Money Is

CDLFs are mission-driven organizations, but they also respond to the market. There are substantial and growing public and private incentives for investing in charter schools. Those incentives are particularly attractive given the limited availability of other forms of subsidy.

One of the most effective forms of subsidy to encourage CDLFs to support charter school expansion is the U.S. Department of Education’s (USDOE) Credit Enhancement for Charter School Facilities (CECSF) program. The USDOE awarded $280.9 million in CECSF grants between 2002 and 2015 “to public and nonprofit entities to develop innovative credit enhancement models that assist charter schools in leveraging capital from the private sector.” CDLFs received at least 75 percent of these CECSF grant dollars.

The CECSF program is intended to attract new capital to charter school facility funding by demonstrating “the creditworthiness of [charter] schools.” USDOE notes that “less than one percent of all CECSF funds awarded were lost to default,” and says that this information “over time, is likely to … encourage private lenders to make loans and other financial arrangements with charter schools without the need for credit enhancement.”

Indeed, the program has been very successful in leveraging private capital with federal funding sources. LISC calculated that, through 2012, approximately $250 million in CECSF dollars leveraged an additional $3.2 billion in charter school facility financing, with private investors attracted by the lower risk and greater financial profitability.

The financially “safer” nature of charter school facility finance makes charter schools a very attractive investment for the CDLFs as well. As financial intermediaries, CDLFs must keep loss rates low or risk alienating their own investors. Yet the very nature of the work that CDLFs do makes that very challenging. By design, CDLFs demonstrate to conventional financial institutions the viability of investments in low-income communities. If CDLFs are successful, they face increased competition from those conventional institutions. This forces CDLFs to undertake continually riskier investments, as larger and better financed mainstream financial institutions move into their existing markets.

This has been true for charter school facility finance as well. As conventional financial institutions have recognized that charter schools are a safe and financially attractive investment, they have begun to offer facility loans and bond financing directly to the charter schools. CDLFs are able to remain competitive in the charter school facility market by funding start-up charter schools, which most conventional financial institutions still perceive as too risky, and by accessing subsidy to support their charter school lending, enabling them to offer pricing competitive with that of conventional financial institutions. In addition to the CECSF program, CDLFs use New Markets Tax Credits and the new CDFI Bond Guarantee program to finance charter school facilities.

CDLFs are also increasingly able to access private sources of subsidy for financing charter school facilities. The private subsidy comes from conventional financial institutions such as Goldman Sachs and JP Morgan Chase, which are looking to partner with CDLFs in funding charter school facilities, and from foundations such as Gates and Walton which support charter school expansion. In this way, financing charter school facilities not only enables CDLFs to access federal subsidy dollars and private financing for charter schools, it also enables them to build relationships with funders that may result in future support for other areas of CDLF activity.

4. Power and Politics

A fourth factor in why some CDLFs support charter school expansion is the Obama administration’s strong commitment to growing the charter school sector. The administration’s $4.3 billion competitive grant program called Race to the Top distributed federal funds to states that adopted specific policies, including ones that expanded the number of charter schools. The Obama administration has also maintained the Bush administration’s generous funding of charter schools.

There are political incentives for CDLFs to align their goals with those of the administration. CDLF leaders interact with the administration frequently in promoting industry priorities such as the annual budget allocations for the CDFI Fund and the New Markets Tax Credit program, or in advocating for new programs that provide financing for CDLFs, such as the Healthy Food Financing Initiative. As is the case with foundations and conventional financial institutions, by helping to further the Obama administration’s objectives surrounding charter school expansion, CDLFs can build relationships with administration members that may foster opportunities in other areas of CDLF finance.

The Obama administration’s support for charter schools is likely to have particular influence on the CDLF industry because of the many connections between CDLFs and the administration. Most prominently, Annie Donovan, the former COO of Capital Impact Partners, served as a senior policy advisor at the Obama White House before becoming the director of the CDFI Fund. The support of a democratic administration for charter school expansion also may help to buffer CDLFs against the charge that charter schools are part of an ideologically conservative agenda of public sector privatization and destruction of teachers’ unions.

5. Market and Ideology

CDLFs are hybrid organizations, leveraging market capital with subsidies in order to fulfill a social mission. It is not surprising that they frequently look for market-based solutions to communities’ social and economic problems. Some CDLFs even see their mission as restoring or creating viable markets in low-income communities beset by excessively high cost of capital and a lack of access to things like housing and healthy, affordable food. CDLFs address these market “imperfections” by investing subsidized capital to create affordable housing, new businesses, and supermarkets—features that wealthier communities access through a functioning private sector.

However, not all social problems can be effectively addressed with market solutions. Markets create competition, foster winners and losers, and increase inequality—outcomes many would hesitate to inflict on children. The quality of K-12 education is also much more challenging to evaluate than housing or food, which increases opportunities for fraud and malfeasance, and makes education poorly suited for market-based solutions.

The methods most frequently used to evaluate school quality rely primarily on standardized test scores and graduation rates. However, those outcomes are inversely correlated to factors found in abundance in low-income communities—family poverty, students with special needs, and students who lack English proficiency. Furthermore, in communities with high rates of poverty, schools must tackle the additional challenges that poverty brings, such as students who are traumatized by family and community violence; unable to concentrate because they are hungry; or exhausted because they are homeless, living in a shelter, or constantly changing residences.

An additional complexity in evaluating educational outcomes is the strong influence that peers have on students’ academic performance, resulting in another boost for those schools that educate a population of students with fewer challenges. Test scores and graduation rates are also strongly influenced by adequate school funding, which most states fail to provide to schools in low-income communities.

In light of these factors, it is not surprising that schools that educate fewer very-low income, special needs, or Limited English Proficient students—whether those are local public schools in wealthier communities, magnet schools, or charter schools—have higher standardized test scores and graduation rates. However, this does not mean that those schools are providing a higher quality of education to their students any more than a hospital that treats only the healthy can take credit for high survival rates.

A recent Duke University study documented some of the problems with a market-based model of education provision. The study found that North Carolina charter schools were attracting students who are wealthier and more academically able “than their peers who remained in the public schools.” Although North Carolina charter schools were “no more effective than traditional public schools in raising the achievement of students,” they were able to achieve higher test scores over time because of their increasingly privileged student population.

The study further found that North Carolina charter schools had become increasingly racially segregated over time, with some “serving primarily minority students and others . . . serving primarily white students.” The study attributed this to the fact that parents “care not only about the quality of a school’s program but also the mix of students in the school. As a result, market forces will tend to lead . . . to market segmentation, which in the case of schools is typically by the race of the student.”

While parental school choice is a compelling sound bite, and charter school wait lists are a good marketing mechanism, both fail to address the limitations of applying a market-based model to the provision of difficult-to-evaluate goods like education, without strict regulations to counter the propensity to cheat, segregate, or otherwise hurt the most vulnerable children. Without such regulations, market-based models like charter schools and taxpayer-funded vouchers for private schools actually worsen the quality of education at local public schools by taking funding and the easier-to-educate students from those schools.

Some CDLFs may be resistant to these concerns because their perceptions have been shaped by ongoing relationships with the charter school industry. CDLFs that finance charter school facilities regularly interact with charter school trade associations, charter school management networks, and advocacy organizations that promote charter school expansion. As CDLFs have become increasingly embedded in these networks, their perspective may have come to reflect the charter school industry’s framing of public education as “failing,” making it easier to ignore the rising chorus of concerns and avoid serious consideration of the role that charter schools may play in undermining public education.

In contrast to these close relationships, CDLFs may not be hearing enough from residents of the communities that they serve. As individual CDLFs have grown larger and taken on more complex financial transactions, it has become increasingly challenging for low-income community members to play a substantial role in their operations or governance. Instead, CDLF boards frequently rely on surrogates for low-income community members, such as academics who study poverty or executives at other nonprofits that serve those communities.

CDLFs also may see charter schools as a more manageable way to “solve” the problems faced by high-poverty public schools than trying to change the policies that drive our country’s growing economic inequality and segregation. CDLFs have generally been reluctant to wade into policy advocacy that falls outside the acquisition of additional resources to support their work—an understandable position for organizations that rely primarily on governments and financial institutions for their operating subsidies.

CDLFs should approach charter school finance with caution. Under current state laws, charter schools are having a negative financial and educational impact on local public schools. They are also increasing segregation by income, race, special needs, and language proficiency. Given the growing grassroots and progressive resistance to charter school expansion, investing in charter schools presents substantial reputational risks for CDLFs. These innovative financial intermediaries—so critical for low-income communities—risk being perceived as more motivated by financial considerations than by their social missions of aligning capital with justice.


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