its tax base associated with federal installations and a second time by the state which provides assistance also geared to that reduced tax base. Unless the state aid formula recognizes the federal payments, the LEA enjoys a "windfall" at the expense of other state and federal taxpayers.

Recognizing this, some state legislatures, in fashioning equalization programs, provided that some or all impact aid payments should be treated as local revenues for the purpose of computing state aid. Prior to 1973 such provisions in state laws were in conflict with Section 5(d) (2) of P.L. 31-874 which prohibited recognition of such federal aid as local resources. This conflict between state and

federal law existed in Kansas, Maine, New Mexico and North Dakota. These states objected to this provision in federal law and pointed out that it was an impediment to state equalization at the very time that various elements of the Executive Branch and Congress were encouraging states to reform their school aid systems.

As a result, this committee recognized this contradiction and in 1974 P.L. 81-874 was amended to provide an exemption from the general prohibition and permit a state to recognize impact aid as a local resource in those states that have a school finance program "designed to equalize expenditures for free, public education among the local education agencies of that state." The Commissioner of Education was given authority to define the terms "state aid" and "equalize expenditures" by regulation. Thus, the conditions under which a state could recognize impact aid as a local resource was. left to the Commissioner. Further, the statute provides that a state may consider impact aid as local resources "only in proportion

to the share that local revenues covered under a state equalization program are of total local revenues."

Since the amendment of the statute in 1974, the Office of Education has been trying to develop regulations to define the phrase "equalize expenditures." Most recently OE issued effective regulations establishing two means whereby a state can qualify. There are a disparity test and a more subjective "commissioner discretion" approach. In addition, on March 22, 1977, OE issued a Notice of Proposed Rulemaking to add an additional test based on a concept of "fiscal neutrality."

Recognizing that the long delay in the development and issuance of regulations had created uncertainty and potential hardship in the affected states, the Congress, in the Education Amendments of 1976, enacted a "hold harmless" provision that is effective through June of 1977. Accordingly, the standards set by regulation will become effective with the 1977-78 school year.

ECS has worked closely with the National Conference of State Legislatures and the National Governors' Conference in advocating the development of regulatory standards that are equitable and addressed to the elimination of the "windfall" problem.

Most of the difficulties that have arisen in the development of regulations stem from the fact that the Office of Education has attempted to use the impact aid program in a negative manner to compel states to equalize, rather than addressing the more limited problem of eliminating the potential for windfalls. This negative approach tries to superimpose uniform conditions where none can exist due to the large differences among states' revenue and taxation

policies. The statute as amended is in our view intended not to be a federal incentive program but is to remove an impediment for states which, at their own iniative, are undertaking school finance Positive federal incentives to encourage states

reform programs.

to equalize exist in other statutes

93-380.

primarily Section 842 of P.L.

The position taken by the Office of Education is that for a state program to recognize any impact aid payments in its school aid program it must have an overly stringent equalization program for all districts. The Office of Education has adopted two sets of criteria under which states may count impact aid as local resources and has proposed a third. Let me reiterate: these regulations do not reflect state financial realities.

The first test in the regulations by the federal government is a disparity test in which there should be no more than twentyfive percent difference between per pupil expenditures at the 5th and 95th percentiles of districts within a state. Funds spent for disadvantaged, handicapped, bilingual or other special populations may be excluded in making these computations. This is a poor test of equalization because the differences in the size of the districts and in the kinds of pupils being served (other than the differences included above), might require greather than a twenty-five percent difference in expenditures to provide an equalized education for pupils. If a state has a small number of districts of fairly uniform size with similar kinds of pupils, then the disparity test proposed by the federal government would be appropriate.

However, this is not the case. To the extent that state finance systems recognize the need for different expenditures in different-sized districts and different levels of expenditures for different kinds of pupils, they may fail the current disparity test. Indeed, current research by the National Conference of State Legislators (NCSL) indicates that in several states per pupil spending disparities decline dramatically when very small districts are excluded from the existing disparity test.

Secondly, the regulations provide that the Commissioner may determine that a state qualifies under "exceptional circumstances" which are largely subjective. This loophole helps OE out of tough situations but does not provide a standard which any state can objectively assess.

A third set of criteria is proposed as a "fiscal neutrality" test, which requires that at least eighty-five percent of the state and local expenditures for education be either equalizing for fiscally neutral. This proposal was published in the Federal Register

of March 22, 1977, but has not been finalized. This test purports to measure the amount of total spending which is equalized. more than fifteen percent (as proposed) is unequalized, the state qualifies. The fiscal neutrality test as currently modified, however, would seriously impair a state's ability to design equalizing aid plans which relieve school tax burdens in poorer communities and which provide prudent state controls on the growth of school taxes and spending.

All of these tests measure whether a state's total program is

equalizing

as defined by someone in the Office of Education rather than whether LEA's receiving 874 funds are fairly treated,

Moreover, it should be recognized that the penalties under the statute run to the LEA, not the state, and this leads to a very strange situation. The states that have this problem are concerned with starting a fair and equitable finance system for all districts. Under present law if a state's aid system takes into account impact aid but does not qualify under the OE regulations, the ultimate penalty is for the Commissioner to terminate payments to impacted districts. As we noted in recent comments on the pending rulemaking, this is the equivalent of doing away with the potential for bank robbery by eliminating banks.

In all fairness the lengthy delays in the development and promulgation of regulations and the overly complex regulations which have emerged from this process stem from confusion as to the basic intent of the Congress in the 1974 amendments dealing with the problem. Those of us at the state level who have been concerned with the design of state finance programs which are equitable to all taxpayers believe that the Congress intended to allow impact aid payments to local districts to be recognized in computing state aid in those circumstances where the alternative would be a windfall to the impacted district. The issue has become interwined with the more general question of encouraging states to equalize. In 1974 and since that time, ECS, NCSL and other organizations concerned with school finance reform at the state level have advocated that the federal government remove an impediment to equalization and replace it with an incentive such as Section 842 (Education Amendments