Benu Chhabra: So all these nutritious meals that's been served to the children we take care of, and then the cost of the running the business, the licensing fees, insurances, and if you have an employee, that's also the payroll cost, workman's comp. So if you add up, we barely make anything.

Jamee Herbert: This is Benu Chhabra. She's a child care provider based in California, and her experience is just one part of a much larger problem within the early education system across the US. Families feel like they're paying too much, yet providers are barely scraping by, and public investment at every level is not enough. This is the podcast that asks why America's child care system is built to break. I'm Jamee Herbert, CEO of BridgeCare, an organization that helps make navigating the minefield of early care and education easier. I spent years trying to understand why our child care system feels impossible to work through. Across this season, we're talking with parents, providers, and experts across the country to unpack how this system really works and why it breaks down. Every episode, we'll be looking at a different part of the equation, from economics to the workforce, to the policy barrier shaping what care looks like on the ground.

By the end of the season, you'll have a clearer picture of why America's child care system has been set up to fail, and more importantly, what we might be able to do to fix it. This is Child Care Matters: Built to Break. This week, let's follow the money. When people talk about child care being unaffordable, they're usually talking about what they are paying for care. But the truth is, the amount is often not reflective of the true cost of care, a problem that leads to a significant financial challenge for child care businesses. To explain, here's Erica Phillips. She's the executive director of the National Association for Family Child Care, a nonprofit supporting early childhood educators.

Erica Phillips: For most other people, when you set something like a market rate, it's generally the cost of doing business plus a little bit of margin so that that's your profit. And that's how we generally understand what would be sort of the market rate. But in child care, it's very different. And unfortunately, the market rate that is officially used in child care formulas for determining how much providers are paid is actually what parents can pay, which is often below the cost of what it takes to deliver that service.

Jamee Herbert: So from the very beginning, the system is balancing on a number that isn't real. We'll return to that point later, but first, it's important to understand that the funding model for child care is very unevenly distributed.

Erica Phillips: I began to realize the way in which child care was funded, was paid for, was different than a traditional business opportunity. The Federal Reserve chair was also really starting to talk about a market failure in child care, and that helped me understand it's not a problem between the parents or the providers, but it's the fact that we believe that the child care market can be wholly lifted up by parents and providers.

Jamee Herbert: The way child care is funded in the US can be a confusing mix of state, federal, local, and private funding. To make sense of it, I spoke to Simon Workman. He's the co-founder and principal of Prenatal to Five Fiscal Strategies, a nonprofit focused on addressing the imbalances in early care and education. He agrees that parents pay the bulk of the bills, but they don't have all that much power to determine the market because some 40% comes from a mix of state and federal funding sources. And those government entities have a significant say over the rate that providers get paid for care, not parents.

Simon Workman: So the US child care system is predominantly funded by families, right? About 60% of the industry receipts, as you say, of what's being paid for for child care is coming from families, and then the rest is coming from government. But governments have an outsized role in the GUS child care system because they are the regulators. So while they are not the biggest payers, they are the ones that say, "This is what a licensed child care program is."

Jamee Herbert: The primary source of public funding comes from the Child Care Development Block Grant, a 1990 act which authorizes just under $9 billion in annual funding today for what is known as the Child Care Development Fund. Each state receives a portion of that fund, then decides, within the federal guidelines, how the money will be allocated across state child care subsidies, quality improvement efforts, supply building initiatives, and more. Those states also set the reimbursement rate for providers. More on that in a bit.

Simon Workman: The federal government at the Department of Health and Human Services sets the rules around what a program needs to do to get funding under the Child Care Development Fund, which is the biggest federal funding source for child care programs, but it's a state federal partnership in that program. So the federal government, HHS, gives money to state governments, and then state governments actually set the rules and the regulations. And those regulations, they have to meet certain requirements from the feds, but they can also make their own sort of decisions within that.

Jamee Herbert: More than $30 billion goes into programs that support the education of children from birth through the age of five nationwide. But because the federal funding source is a block grant, that means that each state can administer those funds in its own way, leading to wildly different outcomes.

Simon Workman: So state governments usually within sort of a social services department, sometimes within a department of education, set a lot of those requirements. So they have this outsized role about saying, "What is a legally operating licensed child care provider in our state?" But the funding that comes with that is limited. So it's this interesting place where you have sort of a lever that's policy, but you don't have the lever of finance.

Jamee Herbert: A variety of funding sources can often lead to a sort of piecemeal system where the delivery of child care is up to the fragmentation across and within each state. That creates challenges for providers too. If the rate is determined by affordability, that leaves very little margin for them, hampering their ability to set rates that make their businesses viable.

Benu Chhabra: So all these nutritious meals that's been served to the children we take care of, and then the cost of the running the business, the licensing fees, insurances, and if you have an employee, that's also the payroll cost, workman's comp. So if you add up, we barely make anything. Then again, we cannot be keep asking the families to raise our fees because we know that. It's very challenges for them as well.

Jamee Herbert: Benu's point that funding is a challenge for providers and families once again drives home the fact that paying for child care falls disproportionately on families. That creates a system where there's two groups, financially stressed families and underpaid educators, trying to do what's best for each other while simultaneously pushing each other to the edge of what's sustainable.

Erica Phillips: We rely fully on families who many of them are at the beginning of their careers, so their earnings are not sort of as high as they might be later on in their careers. Additionally, families don't have an opportunity to really save up for child care. I mean, you learn that you're having a baby and then you might need child care within a year or two, so there's not really an opportunity for families to be able to save up for this. The providers who offer the child care services, they get into this often because they love children, because they see an opportunity to support the families around them, but they often don't have business training and resources to understand what is the full cost of delivering child care, what are ways in which you can make your business sustainable. And so we sort of see a churning, particularly in the type of child care that I specialize in, which is the home-based child care. We see a churning of people coming in and out of this field because they're not able to make enough money to cover all their expenses for the longer term.

Jamee Herbert: The financial stress cause by this system is not just felt by the individual families and providers in a vacuum. Families are making significant career choices. Remember the work by the Federal Reserve chair that Erica mentioned? In 2021, the US Treasury Department put out an entire report on the economics of child care. The report's bottom line, the math just doesn't add up. Secretary Yellen's takeaway was that it's past time that we treat child care as what it is. An element whose contribution to economic growth is as essential as infrastructure or energy. How essential? According to recent studies, child care challenges are costing the US economy an estimated $122 billion a year.

While many families carry the burden for child care expenses, the government does play a massive role in funding child care nationally for lower income families through subsidies, but the structure of the system and the myriad of funds creates a logistical challenge.

Simon Workman: So you have these sort of silos of pots of money and different requirements. And you could be a provider sitting there saying, "Okay, so I get five different funding streams. I get the federal food program. I get universal pre-K from the state. I get subsidy." And all five funding streams have different requirements and different reporting requirements, right? It just becomes this really disconnected system that really doesn't work for most people.

Jamee Herbert: Millions of Americans also rely on subsidies in order to pay for child care. It's an acknowledgement that the private sector can't fund child care wholly by itself. The problem Simon is referring to is that they are historically underutilized due to the lack of awareness and time-consuming, hard to navigate application and enrollment processes.

Simon Workman: The market can't cover the true cost, but then we're going to have public funds come in at some level of that. And so-

Jamee Herbert: And some lower level.

Simon Workman: And often some lower level.

Jamee Herbert: It's not higher level.

Simon Workman: Right. Yeah. And in sort of historically, you can see a reasoning behind that of like, okay, the government shouldn't pay more than the market, but if you've got a broker market, maybe the government should pay more because then you have this sort of race to the bottom and the economics of child care mean that about 70% of the cost of running a child care program goes towards personnel expenses. So that means yes, you can look for some efficiencies. Maybe there's some way you can have some better back office support, right? But you're talking about 10, 20% of the expenses of a program that you can do something with. You really can't do anything with AI or technology to do anything among that 70%.

And that is where the core of child care is. We always talk to them of like, every good business should have some profit built in, 5 to 10% built into their budget, which it's not about lining your pockets, but it's about having money for when the boiler breaks or when the roof needs repairing or when you have a lack of children there for a while. But most providers do not build that in because they're trying to make it as affordable as possible for families.

Jamee Herbert: Most states have intentionally chosen a reimbursement rate that they know is below the market rate so they can serve more families. But in doing so, they're asking providers to sacrifice even more. In an effort to change one piece of the puzzle, there's been traction to change the formula that sets these subsidy reimbursement rates to providers.

Erica Phillips: One of the moves, the policy moves that we've been advocating for and many others is that states, when they do reimbursements for child care, they use what's called a cost of care model versus the market rate model. So they're actually basing it on what does it cost for the provider to deliver the child care as opposed to what are parents able to pay. So most states are not there. Many are moving towards cost of care models and we're seeing really good results when they're able to do that.

Jamee Herbert: This would be a welcome change. Without true cost of care reimbursement models, even the slightest drop in revenue could put a program underwater. While child care costs have rapidly outpaced inflation for over a decade, funding has only increased incrementally, leading to growing wait lists, reduced reimbursement rates, and an increased strain on the system. To put this into perspective, a 2024 report from Child Care Aware of America show that the average cost to have two children in a child care center exceeded mortgage payments in 45 states. Underinvestment is not the only concern. Volatility is also a problem.

Simon Workman: If you qualify as a family for the child care subsidy voucher, you can take that voucher and go and spend it at any child care provider that takes the subsidy voucher. But if that family picks up and moves next month to another town and takes their child care slots and their child care voucher to another place, that provider has lost that income. And there's no stability for the provider in that, right? Because it's really flexible for families that you can choose your provider and you can choose where you go. But if you're that provider who is serving a mostly low income population that is reliant on the subsidy, because the money follows the child, it doesn't lead to stability for the program.

Jamee Herbert: One child out for a week, that's lost revenue. A family moves, lost revenue. And for families relying on subsidy, these things happen even more frequently. Housing issues are more common, they can't afford to be as picky about job opportunities, and any unexpected expenses can lead to a change in living situation.

Benu Chhabra: This is my almost year and a half that I have openings in my program. For first 24, 23 and a half years, I always had two years waiting list because some of the families have moved from here because of the cost of the care.

Jamee Herbert: The cost of care model is an improvement because it confronts the truth our current system doesn't acknowledge. Quality care costs more than families can pay, and someone has always been absorbing that loss. But again, funding levels aren't the only problem with the way money flows through this system. Administrative backlogs and inefficient processes are all too common in this space. Erica says some states are months behind in paying providers, so even if a cost model promises better rates, the money can still arrive too late to keep the lights on.

Erica Phillips: We have providers telling us that their state is six, seven months behind in paying them, and that's really difficult for them to sort of float those expenses, right? Their rent or mortgage, if they have any assistance, food costs, those happen at the time. They have to pay it.

Jamee Herbert: Benu knows firsthand how difficult the current payment model can be.

Benu Chhabra: So today is 21st. So today, I got paid for the last month. Now, think about all these other educators during COVID. Some of them only had subsidized children. The families who were on subsidized care, they couldn't pay for their mortgage because of that's the only income they had. So I think it needs to be changed. We need to get paid in advance because as a family child care educators, we have our bills keep coming. We cannot say, "Oh, I didn't get paid and I cannot pay my mortgage." So that's kind of really, really hard for us to take that wait to get paid.

Jamee Herbert: This is another reminder that policymakers need to be thinking about more than just the dollars and cents. Modern infrastructure, leadership, and administrative investment are all considerations that need to be addressed to create a sustainable system. There are a variety of solutions in the works, not just at the state and federal levels, but locally as well.

Simon Workman: You are seeing communities saying, "We're not going to wait for the federal government. We're not going to wait for our state. We're going to go and do something." And because this does often feel like a local problem, it's like you can't recruit people to work in this business, right? It feels very local. We've seen states, we've seen communities over the years sort of pass a ballot initiative, put a new sales tax on or property tax or so called syntaxes, a sugar tax on fizzy drinks, so on. And then those have been used to fund a preschool program because that was sort of an easier thing to sell to the public on like, here's this new tax and it funds a pre-K slot. And in people's minds, they can understand what a pre-K slot is. It's like a kid kind of in a classroom, but a bit more. Whereas when you start talking about like funding for infant and toddler care, it becomes a bit more fraught with the politics of like, "Well, maybe people should just stay home and look after their kids."

Jamee Herbert: There are also limits to local funding and what it can accomplish.

Simon Workman: Historically, there's places like Ohio where the state's not investing so much, but there's like four cities that have four different pre-K programs and that's great, but it's great if you live in those four cities. And I think that's always been my worry about the local funding is that it's really good if you were in that locality, but if you live just outside that locality, then there's nothing for you. And if you live in a state where it feels like politically that's never going to happen and they're never going to pass a statewide tax increase, then we're sort of again having to a place of the haves and the have-nots.

Jamee Herbert: One of the biggest problems is that we treat child care like a private service, not a public good. Even though families rely on it just as much as they rely on public schools.

Simon Workman: In the K-12 system, you move to a new town, you assume there's going to be K-12 education available for your child, right? That is just the assumption. There's a school district that that's what they do, right? It's a public good and it's a right, a constitutional right in most states. For child care, there's nothing like that as a sort of backbone to say, "This community, we're going to make sure there's child care there." It is, does a private provider open or not?

Jamee Herbert: For a long time, providers have carried the burden of trying to work through the system alone, but today, they're coming together to advocate for systemic change.

Erica Phillips: We have a program called Leaders Shaping Leaders where over 100 family child care educators have went through this, they've completed this program. And following the program, they're more likely to testify in front of their elected officials to join public commissions or committees to host an elected official to their family child care program to talk about the value of what they're doing. And so we're seeing just tremendous advocacy that is resulting in increases in funding. It's resulting in passing some legislation to enable more people to run a home-based child care program in their states or in their communities, which has been really, really powerful.

Jamee Herbert: Change is slow, but there is some hope. Some of the clearest signs of progress are happening at the state level.

Simon Workman: Denver preschool program started 10, 15 years ago, very good if you lived in Denver, right? But you live just across the border into Jefferson County and suddenly you don't get it, but that was a great proof point. And now they have universal pre-K in Colorado, not full day, full year yet, but it is that incremental that you've got a proof point that you can show. So I do think there's an ability there for also some more innovation. I'm working with a few counties right now where they are really trying to dig into what is the specific need in our county? Is it these zip codes? And let's talk about some program to really support those zip codes because that's where our biggest needs are and use that as a proof point and then grow out from there. So it's definitely an emerging trend of bright spots. I think the question is always, how are you funding it and are you funding it in a sustainable way?

Jamee Herbert: Benu is very explicit about what she thinks will happen if the system isn't addressed.

Benu Chhabra: Our childrens can suffer and we're the people who are taking care of these younger children. If they're not going to have this safe and nurturing environment, because if nothing's going to change, like I said, many of them are closing or thinking about closing their businesses as a family child care. Where are our children going to go?

Jamee Herbert: Across this series, we're showing you every piece of a puzzle of a system that has been built to break. Next week, we go to the very heart of it, the small businesses, the home-based providers, the early childhood educators keeping child care alive in America.

Benu Chhabra: My niece who grew up, she takes care of some of my family's children. She makes more than I do. She would make $25 an hour. We make 2 or $3 an hour.

Jamee Herbert: We can only fix the system if we first understand why and where it's broken. So subscribe and share this podcast with others who are navigating the system too. And go to getbridgecare.com if you want to learn more about what can be done to help families access high quality, affordable child care. The link is in the show description.