BILL NUMBER: AB 2834 CHAPTERED 09/30/02 CHAPTER 1128 FILED WITH SECRETARY OF STATE SEPTEMBER 30, 2002 APPROVED BY GOVERNOR SEPTEMBER 30, 2002 PASSED THE ASSEMBLY AUGUST 30, 2002 PASSED THE SENATE AUGUST 29, 2002 AMENDED IN SENATE AUGUST 28, 2002 AMENDED IN SENATE AUGUST 5, 2002 AMENDED IN ASSEMBLY MAY 14, 2002 AMENDED IN ASSEMBLY MAY 2, 2002 INTRODUCED BY Assembly Member Migden (Principal coauthor: Senator Torlakson) FEBRUARY 25, 2002 An act to amend Sections 14501, 14503, 14504, 14504.2, 41020, 41020.3, and 41344 of, to amend and repeal Section 14502 of, to add Sections 14502.1, 41344.1, and 42238.75 to, and to repeal Section 41609 of, the Education Code, and to amend Section 17558.5 of the Government Code, relating to school districts, and making an appropriation therefor. LEGISLATIVE COUNSEL'S DIGEST AB 2834, Migden. School districts: audits. (1) Existing law requires the Controller, on an annual basis, to review and monitor the audit reports performed by independent auditors to determine the practicability and effectiveness of school district audits. This bill, instead, would require the Controller to review and monitor audits of local education agencies. The bill, in addition, would require the Controller to consult with the Director of Finance in developing a format for the audit reports. (2) Existing law requires the Controller, in consultation with the Department of Finance and the State Department of Education, to develop a plan to review and report on financial and compliance audits. Existing law requires the Controller, in consultation with the Department of Finance, the State Department of Education, a representative of the county offices of education, and representatives of the California Society of Certified Public Accountants, to recommend the statements and other information to be included in the audit reports filed with the state and to propose the content of an audit guide. Existing law requires the Controller to submit a copy of the audit guide to the Department of Finance for review. This bill would, on and after July 1, 2003, authorize a supplement to the audit guide to be suggested in the audit year, as prescribed, to address issues resulting from new legislation in that year that changes the conditions of apportionment. The bill would require the audit guide and any supplements to the audit guide to be submitted by the Controller to the Education Audits Appeal Panel, would require that panel to adopt the audit guide and any supplements to the audit guide pursuant to the rulemaking procedures of the Administrative Procedure Act, and would prescribe other, related matters. (3) Existing law requires the Controller, if a school district received an emergency apportionment, to conduct a quality control review of the audit working papers of the independent auditor who performed the audits for a school for the prior 3 fiscal years. This bill would change the reference in that requirement from a school district to a local education agency and would also require the Controller to conduct a quality control review if the budget of a local education agency is disapproved or if a local education agency has received an emergency apportionment or a negative certification on any budget or interim financial report during the current or preceding fiscal year. The bill would require a local education agency's audit to include an evaluation on whether there is substantial doubt about the agency's ability to continue as a going concern for a reasonable period of time. The bill would provide that a contract to perform the audit of a local education agency that has received a negative certification on any budget or interim financial report during the current fiscal year or either of the 2 preceding fiscal years, or for which the county superintendent of schools has otherwise determined that a lack of going concern exists, is not valid unless approved by the responsible county superintendent of schools and would prescribe related matters. (4) Existing law requires the audits be made by certified public accountants or licensed public accountants. This bill would require local education agencies to select these accountants from a directory approved by the Controller. The bill would require the directory to be published not later than December 31 of each year and would require the accountants included in the directory to be in good standing with the Board of Accountancy and to have no prior history of noncompliance in the education context. The bill would make it unlawful, commencing with the 2003-04 fiscal year and except as specified, for a public accounting firm to provide audit services to a local educational agency if the lead or coordinating audit partner having primary responsibility for the audit or the audit partner responsible for reviewing the audit, performed audit services for the local education agency for each of the 6 previous fiscal years. The bill would require that a nonauditing, management, or other consulting service provided to a local education agency by a certified public accounting firm while the certified public accounting firm is performing an audit of the agency pursuant to this section to be in accord with specified standards. (5) Existing law requires each county superintendent of schools to make certain specified certifications to the Superintendent of Public Instruction regarding audits of school districts under his or her jurisdiction. This bill, in addition, would require that the county superintendent of schools make those certifications to the Controller, as well, thereby imposing a state-mandated local program. (6) Existing law defines a compliance audit as an audit that verifies that funds provided for the support of a public school have been expended as required by either law or regulation. This bill would change that definition to include verification that funds provided for the support of a public school also have been disbursed as required by either law or regulation. (7) Under existing law, there is a panel consisting of the Superintendent of Public Instruction, the Director of the Department of Finance, and a Chief Administrative Officer of the Fiscal Crisis and Management Assistant Team with prescribed duties relating to the review of audit reports. This bill would establish the Education Audits Appeal Panel, comprised of the same members, as a separate state agency, and would authorize the panel to expend funds, hire staff, make contracts, sue and be sued, and to issue regulations in furtherance of its duties. The bill would authorize the panel to hear appeals of audit reports, and would prescribe related matters. (8) Existing law states the intent of the Legislature that responsible school district officials be held fully accountable for the sum and substance of attendance accounting and reporting and that minor and inadvertent instances of noncompliance be resolved in a fair and equitable manner to the satisfaction of the Superintendent of Public Instruction and the Department of Finance. Existing law authorizes the Superintendent of Public Instruction with the approval of the Department of Finance, to waive strict compliance by school districts with the statutes and regulations relating to attendance accounting for purposes of making apportionments from Section A of the State School Fund if the superintendent makes a specified determination. This bill would recast and revise those provisions. (9) Existing law requires, for purposes of computing average daily attendance, a local educational agency's prior fiscal year average daily attendance to be reduced by an amount equal to the average daily attendance disallowed in the current fiscal year by an audit or review. Under existing law, a local education agency may be required to repay an apportionment significant audit exception resulting from an audit or review, which may not be waived by the State Board of Education. This bill would hold in abeyance all completed audits and appeals of audits, withdraw any findings made pursuant to audits, and provide that no loss of apportionment pursuant to an audit shall be realized, as specified. The bill would, in addition, discontinue all ongoing audits to excused absences for specified fiscal years, and would require the Controller to notify all school districts, charter schools, and county offices of education that it is no longer necessary to retain records supporting pupil attendance and reported excused absences used for purposes of calculating average daily attendance for the 1996-97 fiscal year, as specified. (10) The bill would appropriate $2,950,000 from the General Fund for allocation as follows: $525,000 to the Controller for purposes of reviewing annual financial and compliance audits performed for local education agencies and developing and maintaining the directory of certified public accountants and public accountants, $1,600,000 to the Controller for the purpose of auditing reimbursable state mandate claims filed by local government entities and local education agencies; and $750,000 to the Controller for allocation to the Education Audits Appeal Panel established by the bill for general support of hearing appeals of audit reports, and $75,000 to the State Department of Education for a staff position and operating expense for workload associated with implementing this act. (11) This bill would make other conforming changes. (12) This bill would incorporate additional changes to Section 17558.5 of the Government Code proposed by AB 3000, to be operative only if this bill and AB 3000 are both enacted and become effective on or before January 1, 2003, and this bill is enacted last. (13) The California Constitution requires the state to reimburse local agencies and school districts for certain costs mandated by the state. Statutory provisions establish procedures for making that reimbursement, including the creation of a State Mandates Claims Fund to pay the costs of mandates that do not exceed $1,000,000 statewide and other procedures for claims whose statewide costs exceed $1,000,000. This bill would provide that, if the Commission on State Mandates determines that the bill contains costs mandated by the state, reimbursement for those costs shall be made pursuant to these statutory provisions. Appropriation: yes. THE PEOPLE OF THE STATE OF CALIFORNIA DO ENACT AS FOLLOWS: SECTION 1. The Legislature finds and declares all of the following: (a) The administration has expressed an intent to discontinue audits of school districts, charter schools, and county offices of education, funded by Item 8860-025-0001 of Section 2.00 of Chapter 50 of the Statutes of 1999, Item 8860-025-0001 of Section 2.00 of Chapter 52 of the Statutes of 2000, and Item 8860-025-0001 of Section 2.00 of Chapter 106 of the Statutes of 2001, and an intent to withdraw the findings of those audits. (b) The Director of Finance has requested the Education Audits Appeal Panel to hold in abeyance any appeals of findings resulting from these audits. (c) The administration and the public education community are committed to collaborating on development of an audit process that holds schools fiscally responsible in a fair and reasonable manner. (d) Legislative action is required to effectuate termination of these audits and establish a new audit process. SEC. 2. Section 14501 of the Education Code is amended to read: 14501. (a) As used in this chapter, "financial and compliance audit" shall be consistent with the definition provided in the "Standards for Audits of Governmental Organizations, Programs, Activities, and Functions" promulgated by the Comptroller General of the United States. Financial and compliance audits conducted under this chapter shall fulfill federal single audit requirements. (b) As used in this chapter, "compliance audit" means an audit which ascertains and verifies whether or not funds provided through apportionment, contract, or grant, either federal or state, have been properly disbursed and expended as required by law or regulation or both. SEC. 3. Section 14502 of the Education Code is amended to read: 14502. (a) The Controller, in consultation with the Department of Finance and the State Department of Education, shall develop a plan to review and report on financial and compliance audits. The plan shall commence with the 1984-85 fiscal year for audits of school districts and the offices of county superintendents of schools. The Controller, in consultation with the Department of Finance, the State Department of Education, representatives of the California School Boards Association, the California Association of School Business Officials, the California County Superintendents Educational Service Association, the California Teachers Association, and the California Society of Certified Public Accountants, shall prescribe the statements and other information to be included in the audit reports filed with the state and shall develop an audit guide to carry out the purposes of this chapter. (b) For the audit of school districts or county offices of education electing to take formal action pursuant to Sections 22714 and 44929, the audit guide shall be in the form and require the information prescribed by the Controller, including, but not limited to, the following: (1) The number and type of positions vacated. (2) The age and service credit of the retirees receiving the additional service credit provided by Sections 22714 and 44929. (3) A comparison of the salary and benefits of each retiree receiving the additional service credit with the salary and benefits of the replacement employee, if any. (4) The resulting retirement cost, including interest, if any, and postretirement health care benefits costs, incurred by the employer. (c) The Controller shall annually prepare a cost analysis, based on the information included in the audit reports for the prior fiscal year, to determine the net savings or costs resulting from formal actions taken by school districts and county offices of education pursuant to Sections 22714 and 44929, and shall report the results of the cost analysis to the Governor and the Legislature by April 1 of each year. (d) All costs incurred by the Controller to implement subdivision (b) shall be absorbed by the Controller. (e) This section shall be used to prepare the audit guide for school district audits for the 2002-03 fiscal year. (f) This section shall become inoperative on July 1, 2003, and, as of January 1, 2004, is repealed, unless a later enacted statute, that becomes operative on or before January 1, 2004, deletes or extends the dates on which it becomes inoperative and is repealed. SEC. 4. Section 14502.1 is added to the Education Code, to read: 14502.1. (a) The Controller, in consultation with the Department of Finance and the State Department of Education, shall develop a plan to review and report on financial and compliance audits. The plan shall commence with the 2003-04 fiscal year for audits of school districts, other local education agencies, and the offices of county superintendents of schools. The Controller, in consultation with the Department of Finance, the State Department of Education, and representatives of the California School Boards Association, the California Association of School Business Officials, the California County Superintendents Educational Service Association, the California Teachers Association, the California Society of Certified Public Accountants, shall recommend the statements and other information to be included in the audit reports filed with the state, and shall propose the content of an audit guide to carry out the purposes of this chapter. A supplement to the audit guide may be suggested in the audit year, following the above process, to address issues resulting from new legislation in that year that changes the conditions of apportionment. The proposed content of the audit guide and any supplement to the audit guide shall be submitted by the Controller to the Education Audits Appeal Panel for review and possible amendment. (b) The audit guide and any supplement shall be adopted by the Education Audits Appeal Panel pursuant to the rulemaking procedures of the Administrative Procedure Act as set forth in Chapter 3.5 (commencing with Section 11340) of Part 1 of Division 3 of Title 2 of the Government Code. It is the intent of the Legislature that, for the 2003-04 fiscal year, the audit guide be adopted by July 1 of the fiscal year to be audited. A supplemental audit guide may be adopted to address legislative changes to the conditions of apportionment. It is the intent of the Legislature that supplements be adopted before March 1 of the audit year. Commencing with the 2004-05 fiscal year, and each fiscal year thereafter, the audit guide shall be adopted by July 1 of the fiscal year to be audited. A supplemental audit guide may be adopted to address legislative changes to the conditions of apportionment. The supplements shall be adopted before March 1 of the audit year. To meet these goals and to ensure the accuracy of the audit guide, the process for adopting emergency regulations set forth in Section 11346.1 of the Government Code may be followed to adopt the guide and supplemental audit guide. It is the intent of the Legislature that once the audit guide has been adopted for a fiscal year, as well as any supplement for that year, thereafter only suggested changes to the audit guide and any additional supplements need be adopted pursuant to the rulemaking procedures of the Administrative Procedure Act. The audit guide and any supplement shall be issued in booklet form and may be made available by any means deemed appropriate. The Controller and consultants in the development of the suggested audit guide and any supplement shall work cooperatively on a timeline that will allow the education audits appeal panel to meet the July 1 and March 1 issuance dates. Consistent with current practices for development of the audit guide before the 2003-04 fiscal year, the Controller shall provide for the adoption of procedures and timetables for the development of the suggested audit guide, any supplement, and the format for additions, deletions, and revisions. (c) For the audit of school districts or county offices of education electing to take formal action pursuant to Sections 22714 and 44929, the audit guide content proposed by the Controller shall include, but not be limited to, the following: (1) The number and type of positions vacated. (2) The age and service credit of the retirees receiving the additional service credit provided by Sections 22714 and 44929. (3) A comparison of the salary and benefits of each retiree receiving the additional service credit with the salary and benefits of the replacement employee, if any. (4) The resulting retirement cost, including interest, if any, and postretirement health care benefits costs, incurred by the employer. (d) The Controller shall annually prepare a cost analysis, based on the information included in the audit reports for the prior fiscal year, to determine the net savings or costs resulting from formal actions taken by school districts and county offices of education pursuant to Sections 22714 and 44929, and shall report the results of the cost analysis to the Governor and the Legislature by April 1 of each year. (e) All costs incurred by the Controller to implement subdivision (c) shall be absorbed by the Controller. (f) This section shall become operative July 1, 2003 and shall apply to the preparation of the audit guide for school district audits commencing with the 2003-04 fiscal year. SEC. 5. Section 14503 of the Education Code is amended to read: 14503. (a) Financial and compliance audits shall be performed in accordance with General Accounting Office standards for financial and compliance audits. The audit guide prepared by the Controller shall be used in the performance of these audits until an audit guide is adopted by the Education Audits Appeal Panel pursuant to Section 14502.1. When an audit guide is adopted by that panel, the adopted audit guide shall be used in the performance of these audits. Every audit report shall specifically and separately address each of the state program compliance requirements included in the audit guide, stating whether or not the district is in compliance with those requirements. For each state program compliance requirement included in the audit guide, every audit report shall further state that the suggested audit procedures included in the audit guide for that requirement were followed in the making of the audit, if that is the case, or, if not, what other procedures were followed. If a local education agency is not in compliance with a requirement that is a condition of eligibility for the receipt of state funds, the audit report shall include a statement of the number of units of average daily attendance, if any, that were inappropriately reported for apportionment. (b) An independent auditor shall not engage in financial or compliance audits unless, within three years of commencing the first of the audits, and every successive three years thereafter, the auditor completes a quality control review in accordance with General Accounting Office standards. The time period between commencement of the first audit, or completion of a quality control review, and completion of a subsequent quality control review shall be calculated from the first day of the month following commencement of the audit or completion of the quality control review. Notwithstanding this subdivision, independent auditors may continue to perform any financial and compliance audits until January 1, 1994. SEC. 6. Section 14504 of the Education Code is amended to read: 14504. To determine the practicability and effectiveness of the audits and audit guide, the Controller shall, on an annual basis, review and monitor the audit reports performed by independent auditors. The Controller shall determine whether audit reports are in conformance with reporting provisions of subdivision (a) of Section 14503 and shall notify each local education agency, office of the responsible county superintendent of schools, the Superintendent of Public Instruction, the Department of Finance, and the auditor regarding each determination. The local education agency or the county superintendent of schools contracting for the financial and compliance audit shall include a statement that will provide the Controller access to audit working papers. SEC. 7. Section 14504.2 of the Education Code is amended to read: 14504.2. (a) The Controller may perform quality control reviews of audit working papers to determine whether audits are performed in conformity with subdivision (a) of Section 14503. The Department of Finance may refer an independent auditor of a school district to the Controller for a review pursuant to this section if the Department of Finance finds that an audit of a school district was conducted in a manner that may constitute noncompliance with subdivision (a) of Section 14503. The Controller shall communicate the results of his or her reviews to the Department of Finance, the independent auditor, and the school district or office of the county superintendent of schools for which the audit was performed, and shall review his or her findings with the independent auditor. (b) Prior to the performance of any quality control reviews, the Controller shall develop and publish guidelines and standards for those reviews. Pursuant to the development of those guidelines and standards, the Controller shall provide opportunity for public comment. (c) (1) The Controller shall conduct a quality control review of the audit working papers of the independent auditor who performed the audits for a local education agency for the prior three fiscal years if any of the following circumstances exists: (A) The local education agency has received an emergency apportionment pursuant to Article 2 (commencing with Section 41320) or Article 2.5 (commencing with Section 41325) of Chapter 3 of Part 24. (B) The budget of the local education agency is disapproved or the local education agency has received a negative certification on any budget or interim financial report, as defined in Section 42131, during the current or preceding fiscal year. (C) The responsible county superintendent of schools has otherwise determined that a lack of going concern exists for a local education agency pursuant to Section 42127.6. (2) If the quality control review of the Controller indicates that the audit was conducted in a manner that may constitute unprofessional conduct as defined pursuant to Section 5100 of the Business and Professions Code, including, but not limited to, gross negligence resulting in a material misstatement in the audit, the Controller shall refer the case to the California Board of Accountancy. If the California Board of Accountancy finds that the independent auditor conducted an audit in an unprofessional manner, the independent auditor is prohibited from performing any audit of a local education agency for a period of three years, in addition to any other penalties that the California Board of Accountancy may impose. (d) In any matter that is referred to the California Board of Accountancy under subparagraph (A) of paragraph (1) of subdivision (c), the Controller may suspend the independent auditor from performing any local education agency audits pending final disposition of the matter by the California Board of Accountancy if the Controller gives the independent auditor notice and an opportunity to respond to that suspension. The independent auditor shall be given credit for any period of suspension if the California Board of Accountancy prohibits the independent auditor from performing audits of the local education agency under subdivision (c). In no event may the Controller suspend an independent auditor under this subdivision for a period of longer than three years. (e) The county superintendent of schools or the county board of education may refer an independent auditor of a local education agency to the California Board of Accountancy for action pursuant to subdivision (c) if an audit of a local education agency was conducted in a manner that may constitute unprofessional conduct as defined by Section 5100 of the Business and Professions Code, including, but not limited to, gross negligence resulting in a material misstatement in the audit. SEC. 8. Section 41020 of the Education Code is amended to read: 41020. (a) It is the intent of the Legislature to encourage sound fiscal management practices among school districts for the most efficient and effective use of public funds for the education of children in California by strengthening fiscal accountability at the district, county, and state levels. (b) (1) Not later than the first day of May of each fiscal year, each county superintendent of schools shall provide for an audit of all funds under his or her jurisdiction and control and the governing board of each local education agency shall either provide for an audit of the books and accounts of the local education agency, including an audit of income and expenditures by source of funds, or make arrangements with the county superintendent of schools having jurisdiction over the local education agency to provide for that auditing. (2) A contract to perform the audit of a local education agency that has a disapproved budget or has received a negative certification on any budget or interim financial report during the current fiscal year or either of the two preceding fiscal years, or for which the county superintendent of schools has otherwise determined that a lack of going concern exists, is not valid unless approved by the responsible county superintendent of schools and the governing board. (3) If the governing board of a local education agency has not provided for an audit of the books and accounts of the local education agency by April 1, the county superintendent of schools having jurisdiction over the local education agency shall provide for the audit of each local education agency. (4) An audit conducted pursuant to this section shall fully comply with the Government Auditing Standards issued by the Comptroller General of the United States. (5) For purposes of this section, "local education agency" does not include community colleges. (c) Each audit conducted in accordance with this section shall include all funds of the local education agency, including the student body and cafeteria funds and accounts and any other funds under the control or jurisdiction of the local education agency. Each audit shall also include an audit of pupil attendance procedures. (d) All audit reports for the 2002-03 fiscal year, and for each subsequent fiscal year, shall be developed and reported using a format established by the Controller after consultation with the Superintendent of Public Instruction and the Director of Finance. (e) (1) The cost of the audits provided for by the county superintendent of schools shall be paid from the county school service fund and the county superintendent of schools shall transfer the pro rata share of the cost chargeable to each district from district funds. (2) The cost of the audit provided for by a governing board shall be paid from local education agency funds. The audit of the funds under the jurisdiction and control of the county superintendent of schools shall be paid from the county school service fund. (f) (1) The audits shall be made by a certified public accountant or a public accountant, licensed by the California Board of Accountancy, and selected by the local education agency, as applicable, from a directory of certified public accountants and public accountants deemed by the Controller as qualified to conduct audits of local education agencies, which shall be published by the Controller not later than December 31 of each year. (2) Commencing with the 2003-04 fiscal year and except as provided in subdivision (d) of Section 41320.1, it is unlawful for a public accounting firm to provide audit services to a local educational agency if the lead audit partner, or coordinating audit partner, having primary responsibility for the audit, or the audit partner responsible for reviewing the audit, has performed audit services for that local educational agency in each of the six previous fiscal years. The Education Audits Appeal Panel may waive this requirement if the panel finds that no otherwise eligible auditor is available to perform the audit. (3) It is the intent of the Legislature that, notwithstanding paragraph (2) of this subdivision, the rotation within public accounting firms conform to provisions of the federal Sarbanes-Oxley Act of 2002 (P.L. 107-204; 15 U.S.C. Sec. 7201, et seq.), and upon release of the report required by the act of the Comptroller General of the United States addressing the mandatory rotation of registered public accounting firms, the Legislature intends to reconsider the provisions of paragraph (2). In determining which certified public accountants and public accountants shall be included in the directory, the Controller shall use the following criteria: (A) The certified public accountants or public accountants shall be in good standing as certified by the Board of Accountancy. (B) The certified public accountants or public accountants, as a result of a quality control review conducted by the Controller pursuant to Section 14504.2, shall not have been found to have conducted an audit in a manner constituting noncompliance with subdivision (a) of Section 14503. (g) (1) The auditor's report shall include each of the following: (A) A statement that the audit was conducted pursuant to standards and procedures developed in accordance with Chapter 3 (commencing with Section 14500) of Part 9 of Division 1 of Title 1. (B) A summary of audit exceptions and management improvement recommendations. (C) Each local education agency's audit shall include an auditor's evaluation on whether there is substantial doubt about the local agency's ability to continue as a going concern for a reasonable period of time. This evaluation shall be based on the Statement of Auditing Standards (SAS) No. 59, as issued by the AICPA regarding disclosure requirements relating the entity's ability to continue as a going concern. (2) To the extent possible, a description of correction or plan of correction shall be incorporated in the audit report, describing the specific actions that are planned to be taken, or that have been taken, to correct the problem identified by the auditor. The descriptions of specific actions to be taken or that have been taken shall not solely consist of general comments such as "will implement," "accepted the recommendation," or "will discuss at a later date." (h) Not later than December 15, a report of each local education agency audit for the preceding fiscal year shall be filed with the county superintendent of schools of the county in which the local education agency is located, the State Department of Education, and the Controller. The Superintendent of Public Instruction shall make any adjustments necessary in future apportionments of all state funds, to correct any audit exceptions revealed by those audit reports. (i) Commencing with the 2002-03 audit of local education agencies pursuant to this section, each county superintendent of schools shall be responsible for reviewing the audit exceptions contained in an audit of a local education agency under his or her jurisdiction related to attendance, inventory of equipment, internal control, and any miscellaneous items, and determining whether the exceptions have been either corrected or an acceptable plan of correction has been developed. (j) Upon submission of the final audit report to the governing board of each local education agency and subsequent receipt of the audit by the county superintendent of schools having jurisdiction over the local education agency, the county office of education shall do all of the following: (1) Review audit exceptions related to attendance, inventory of equipment, internal control, and other miscellaneous exceptions. Attendance exceptions or issues shall include, but not be limited to, those related to revenue limits, adult education, and independent study. (2) If a description of the correction or plan of correction has not been provided as part of the audit required by this section, then the county superintendent of schools shall notify the local education agency and request the governing board of the local education agency to provide to the county superintendent of schools a description of the corrections or plan of correction by March 15. (3) Review the description of correction or plan of correction and determine its adequacy. If the description of the correction or plan of correction is not adequate, the county superintendent of schools shall require the local education agency to resubmit that portion of its response that is inadequate. (k) Each county superintendent of schools shall certify to the Superintendent of Public Instruction and the Controller, not later than May 15, that his or her staff has reviewed all audits of local education agencies under his or her jurisdiction for the prior fiscal year, that all exceptions that the county superintendent was required to review were reviewed, and that all of those exceptions, except as otherwise noted in the certification, have been corrected by the local education agency or that an acceptable plan of correction has been submitted to the county superintendent of schools. In addition, the county superintendent shall identify, by local education agency, any attendance-related audit exception or exceptions involving state funds, and require the local education agency to which the audit exceptions were directed to submit appropriate reporting forms for processing by the Superintendent of Public Instruction. (l) In the audit of a local education agency for a subsequent year, the auditor shall review the correction or plan or plans of correction submitted by the local education agency to determine if the exceptions have been resolved. If not, the auditor shall immediately notify the appropriate county office of education and the State Department of Education and restate the exception in the audit report. After receiving that notification, the State Department of Education shall either consult with the local education agency to resolve the exception or require the county superintendent of schools to follow up with the local education agency. (m) (1) The Superintendent of Public Instruction shall be responsible for ensuring that local education agencies have either corrected or developed plans of correction for any one or more of the following: (A) All federal and state compliance audit exceptions identified in the audit. (B) Any exceptions that the county superintendent certifies as of May 15 have not been corrected. (C) Any repeat audit exceptions that are not assigned to a county superintendent to correct. (2) In addition, the Superintendent of Public Instruction shall be responsible for ensuring that county superintendents of schools and each county board of education that serves as the governing board of a local education agency either correct all audit exceptions identified in the audits of county superintendents of schools and of the local education agencies for which the county boards of education serve as the governing boards or develop acceptable plans of correction for those exceptions. (3) The Superintendent of Public Instruction shall report annually to the Controller on his or her actions to ensure that school districts, county superintendents of schools, and each county board of education that serves as the governing board of a school district have either corrected or developed plans of correction for any of the exceptions noted pursuant to paragraph (1). (n) To facilitate correction of the exceptions identified by the audits issued pursuant to this section, commencing with 2002-03 audits pursuant to this section, the Controller shall require auditors to categorize audit exceptions in each audit report in a manner that will make it clear to both the county superintendent of schools and the Superintendent of Public Instruction which exceptions they are responsible for ensuring the correction of by a local education agency. In addition, the Controller annually shall select a sampling of county superintendents of schools and perform a followup of the audit resolution process of those county superintendents of schools and report the results of that followup to the Superintendent of Public Instruction and the county superintendents of schools that were reviewed. (o) County superintendents of schools shall adjust subsequent local property tax requirements to correct audit exceptions relating to local education agency tax rates and tax revenues. (p) If a governing board or county superintendent of schools fails or is unable to make satisfactory arrangements for the audit pursuant to this section, the Controller shall make arrangements for the audit and the cost of the audit shall be paid from local education agency funds or the county school service fund, as the case may be. (q) Audits of regional occupational centers and programs are subject to the provisions of this section. (r) Nothing in this section shall be construed to authorize examination of, or reports on, the curriculum used or provided for in any local education agency. (s) Notwithstanding any other provision of law, a nonauditing, management, or other consulting service to be provided to a local education agency by a certified public accounting firm while the certified public accounting firm is performing an audit of the agency pursuant to this section must be in accord with Government Accounting Standards, Amendment No. 3, as published by the United States General Accounting Office. SEC. 9. Section 41020.3 of the Education Code is amended to read: 41020.3. By January 31 of each year, the governing body of each local education agency shall review, at a public meeting, the annual audit of the local education agency for the prior year, any audit exceptions identified in that audit, the recommendations or findings of any management letter issued by the auditor, and any description of correction or plans to correct any exceptions or management letter issue. This review shall be placed on the agenda of the meeting pursuant to Section 35145. SEC. 10. Section 41344 of the Education Code is amended to read: 41344. (a) If, as the result of an audit or review, a local education agency is required to repay an apportionment significant audit exception, the Superintendent of Public Instruction and the Director of Finance, or their designees shall jointly establish a plan for repayment of state school funds that the local education agency received on the basis of average daily attendance, or other data, that did not comply with statutory or regulatory requirements that were conditions of the apportionments. A local education agency must request a repayment plan within 90 days of receiving the final audit report or review, within 30 days of receiving a final determination regarding an appeal pursuant to subdivision (d), or, in the absence of an appeal pursuant to subdivision (d), within 30 days of receiving a determination of a summary review pursuant to subdivision (d) of Section 41344.1. At the time the local education agency is notified, the Controller shall also be notified of the repayment plan. The repayment plan shall be established in accordance with the following: (1) The Controller shall withhold the disallowed amount at the next principal apportionment or pursuant to paragraph (2), unless subdivision (d) or subdivision (d) of Section 41344.1 applies, in which case the disallowed amount shall be withheld, at the next principal apportionment or pursuant to paragraph (2) following the determination regarding the appeal or summary appeal. In calculating the disallowed amount, the Controller shall determine the total amount of overpayment received by the local education agency on the basis of average daily attendance, or other data, reported by the local education agency that did not comply with one or more statutory or regulatory requirements that are conditions of apportionment. (2) If the Superintendent of Public Instruction and the Director of the Department of Finance concur that repayment of the full liability in the current fiscal year would constitute a severe financial hardship for the local agency, they may approve a repayment plan of equal annual payments over a period of up to eight years. The repayment plan shall include interest on each year's outstanding balance at the rate earned on the state's short-term pooled investment fund during that year. The Superintendent of Public Instruction and the Director of the Department of Finance shall jointly establish this repayment plan. The Controller shall withhold amounts pursuant to the repayment plan. (3) If the Superintendent of Public Instruction and the Director of the Department of Finance do not jointly establish a repayment plan, the State Controller shall withhold the entire disallowed amount determined pursuant to paragraph (1) at the next principal apportionment. (b) For purposes of computing average daily attendance pursuant to Section 42238.5, a local educational agency's prior fiscal year average daily attendance shall be reduced by an amount equal to any average daily attendance disallowed in the current year, by an audit or review, as defined in subdivision (e). (c) Notwithstanding any other provision of law, this section may not be waived under any authority set forth in this code except as provided in this section or Section 41344.1. (d) Within 60 days of the date on which a local education agency receives a final audit report resulting from an audit or review or within 30 days of receiving a determination of a summary review pursuant to subdivision (d) Section 41344.1, a local agency may appeal a finding contained in the final report, pursuant to Section 41344.1. Within 90 days of the date on which the appeal is received by the panel, a hearing shall be held at which the local agency may present evidence or arguments if the local education agency believes that the final report contains any finding that was based on errors of fact or interpretation of law. A repayment schedule may not commence until the panel reaches a determination regarding the appeal. If the panel determines that the local agency is correct in its assertion, in whole or in part, the allowable portion of any apportionment payment that was withheld shall be paid at the next principal apportionment. (e) As used in this section, "audit or review" means an audit conducted by the Controller's office, an annual audit conducted by a certified public accountant or a public accountant firm pursuant to Section 41020, and an audit or review conducted by a governmental agency that provided the local education agency with an opportunity to provide a written response. SEC. 11. Section 41344.1 is added to the Education Code, to read: 41344.1. (a) The Education Audit Appeals Panel is hereby established as a separate state agency. Its membership shall consist of the Superintendent of Public Instruction, the Director of the Department of Finance, and the Chief Executive Officer of the Fiscal Crisis and Management Assistance Team established pursuant to Section 42127.8 or their designees. The panel shall have the authority to expend funds, hire staff, make contracts, sue and be sued, and issue regulations in furtherance of its duties. (b) The panel shall hear appeals filed pursuant to subdivision (d) of Section 41344. The Controller shall be a party to all appeals. The State Department of Education and the Department of Finance may, at their election, timely intervene as a party in any appeal. The panel shall consider audit appeals pursuant to the administrative adjudication provisions of the Administrative Procedure Act (Chapter 4.5 (commencing with Section 11400) and Chapter 5 (commencing with Section 11500) of Part 1 of Division 3 of Title 2 of the Government Code), except that it may adopt regulations specifying special pleadings that shall govern audit appeals. The panel may approve settlements and make findings of fact and interpretations of law. (c) Compliance with all legal requirements is a condition to the state's obligation to make apportionments. A condition may be deemed satisfied if the panel finds there has been compliance or substantial compliance with all legal requirements. "Substantial compliance" means nearly complete satisfaction of all material requirements of a funding program that provide an educational benefit substantially consistent with the program's purpose. A minor or inadvertent noncompliance may be grounds for a finding of substantial compliance provided that the local education agency can demonstrate it acted in good faith to comply with the conditions established in law or regulation necessary for apportionment of funding. The panel may further define "substantial compliance" by issuing regulations or through adjudicative opinions, or both. If the panel finds there has been substantial compliance, the panel may waive or reduce the reimbursement and may also order other remedial measures sufficient to induce full compliance in the future. Other remedial measures may include, but are not limited to, restoration of a reduction if full compliance is not rendered in the future, ordering special audits, and requiring special training. (d) In addition to the normal appeal process specified above, there is hereby created a voluntary, informal, summary appeals process for noncompliant audit exceptions that clearly constitute substantial compliance as that term is defined in subdivision (c). Requests for summary review shall be made to the executive officer of the panel who may seek comment from the Department of Finance or Superintendent of Public Instruction. Summary review shall be sought within 30 days of the date on which a local education agency receives a final audit report resulting from an audit or review. (1) If the executive officer concludes the conditions for finding substantial compliance are not clearly met or involve substantial questions of fact, the executive officer may deny the request for summary review and the appellant may pursue its claim through the normal appeal process. (2) For appeals in which the total audit exceptions for full repayment constitute less than 150 units of average daily attendance or seven hundred fifty thousand dollars ($750,000), whichever is less, the executive officer may order reduced reimbursement upon a finding of substantial compliance and that other remedial measures are sufficient to induce full compliance in the future. (3) For appeals in which the total audit exceptions for full repayment meet or exceed 150 units of average daily attendance or seven hundred fifty thousand dollars ($750,000), whichever is greater, the executive officer may propose reduced reimbursement upon a finding of substantial compliance and order other remedial measures that are sufficient to induce full compliance in the future, if he or she has the written approval of the Department of Finance and the Superintendent of Public Instruction. The executive officer shall provide the details of the proposed settlement and the rationale in writing to the Department of Finance and Superintendent of Public Instruction and allow at least 30 days for their review. (4) The right to appeal pursuant to subdivision (d) of Section 41344 is independent of this subdivision and an appellant may pursue his or her appeal under subdivision (b) regardless of the result under this subdivision. Local education agencies that have unresolved audit appeals pursuant to subdivision (d) of Section 41344 pending on January 1, 2003, may file a request for summary review under this subdivision for a period of 60 days after January 1, 2003. SEC. 12. Section 41609 of the Education Code is repealed. SEC. 13. Section 42238.75 is added to the Education Code, to read: 42238.75. Notwithstanding any other provision of law: (a) All completed audits, including those on appeal, of school districts, charter schools, and county offices of education funded by Item 8860-025-0001 of Section 2.00 of Chapter 50 of the Statutes of 1999, Item 8860-025-0001 of Section 2.00 of Chapter 52 of the Statutes of 2000, and Item 8860-025-0001 of Section 2.00 of Chapter 106 of the Statutes of 2001, and any findings of those audits, are withdrawn, and no loss of apportionment arising from the findings of those audits shall be realized. (b) All audits funded by Item 8860-025-0001 of Section 2.00 of Chapter 50 of the Statutes of 1999, Item 8860-025-0001 of Section 2.00 of Chapter 52 of the Statutes of 2000, and Item 8860-025-0001 of Section 2.00 of Chapter 106 of the Statutes of 2001, shall be discontinued. (c) The Controller shall notify all school districts, charter schools, and county offices of education that it is no longer necessary to retain records supporting pupil attendance and excused absences used for purposes of calculating average daily attendance during the 1996-97 fiscal year. SEC. 14. Section 17558.5 of the Government Code is amended to read: 17558.5. (a) A reimbursement claim for actual costs filed by a local agency or school district pursuant to this chapter is subject to the initiation of an audit by the Controller no later than three years after the date that the actual reimbursement claim is filed or last amended, whichever is later. However, if no funds are appropriated or no payment is made to a claimant for the program for the fiscal year for which the claim is filed, the time for the Controller to initiate an audit shall commence to run from the date of initial payment of the claim. (b) The Controller shall notify the claimant in writing within 30 days after issuance of a remittance advice of any adjustment to a claim for reimbursement that results from an audit or review. The notification shall specify the claim components adjusted, the amounts adjusted, and the reason for the adjustment. Remittance advices and other notices of payment action shall not constitute notice of adjustment from an audit or review. (c) Nothing in this section shall be construed to limit the adjustment of payments when inaccuracies are determined to be the result of the intent to defraud, or when a delay in the completion of an audit is the result of willful acts by the claimant or inability to reach agreement on terms of final settlement. (d) This section shall become operative on July 1, 1996. SEC. 14.5. Section 17558.5 of the Government Code is amended to read: 17558.5. (a) A reimbursement claim for actual costs filed by a local agency or school district pursuant to this chapter is subject to the initiation of an audit by the Controller no later than three years after the date that the actual reimbursement claim is filed or last amended, whichever is later. However, if no funds are appropriated or no payment is made to a claimant for the program for the fiscal year for which the claim is filed, the time for the Controller to initiate an audit shall commence to run from the date of initial payment of the claim. (b) The Controller shall notify the claimant in writing within 30 days after issuance of a remittance advice of any adjustment to a claim for reimbursement that results from an audit or review. The notification shall specify the claim components adjusted, the amounts adjusted, interest charges on claims adjusted to reduce the overall reimbursement to the local agency or school district, and the reason for the adjustment. Remittance advices and other notices of payment action shall not constitute notice of adjustment from an audit or review. (c) The interest rate charged by the Controller on reduced claims shall be set at the Pooled Money Investment Account rate and shall be imposed on the dollar amount of the overpaid claim from the time the claim was paid until overpayment is satisfied. (d) Nothing in this section shall be construed to limit the adjustment of payments when inaccuracies are determined to be the result of the intent to defraud, or when a delay in the completion of an audit is the result of willful acts by the claimant or inability to reach agreement on terms of final settlement. SEC. 15. The sum of two million nine hundred fifty thousand dollars ($2,950,000) is hereby appropriated from the General Fund according to the following schedule: (a) The sum of five hundred twenty-five thousand dollars ($525,000) to the Controller for the purposes of reviewing annual financial and compliance audits performed for local education agencies and developing and maintaining the directory of certified public accountant and public accountant pursuant to subdivision (f) of Section 41020 of the Education Code, and for work associated with audit appeals pursuant to Article 3 (commencing with Section 41344) of Chapter 3 of Part 24 of the Education Code. (b) The sum of one million six hundred thousand dollars ($1,600,000) to the Controller for the purposes of auditing reimbursable state mandate claims filed by local government entities and local education agencies. (c) The sum of seven hundred fifty thousand dollars ($750,000) to the Controller for allocation to the Education Audit Appeals Panel established pursuant to Section 41344.1 of the Education Code for general support of hearing appeals as set forth under Section 41344.1 of the Education Code. (d) The sum of seventy-five thousand dollars ($75,000) to the State Department of Education for one Staff Services Analyst/Associate Governmental Program Analyst position and operating expense for workload associated with the implementation of this act. SEC. 16. Section 14.5 of this bill incorporates amendments to Section 17558.5 of the Government Code proposed by this bill and AB 3000. It shall only become operative if (1) both bills are enacted and become effective on or before January 1, 2003, (2) each bill amends Section 17558.5 of the Government Code, and (3) this bill is enacted after AB 3000, in which case Section 17558.5 of the Government Code, as amended by AB 3000, shall remain operative only until the operative date of this bill, at which time Section 14.5 of this bill shall become operative, and Section 14 of this bill shall not become operative. SEC. 17. Notwithstanding Section 17610 of the Government Code, if the Commission on State Mandates determines that this act contains costs mandated by the state, reimbursement to local agencies and school districts for those costs shall be made pursuant to Part 7 (commencing with Section 17500) of Division 4 of Title 2 of the Government Code. If the statewide cost of the claim for reimbursement does not exceed one million dollars ($1,000,000), reimbursement shall be made from the State Mandates Claims Fund.