Why are $1 billion endowments the new villains?

Even schools with large endowments may not be able to cover all of their institutional expenses

Lawmakers are targeting institutions with endowments worth at least $1 billion but do not understand how schools' expenses may justify greater endowments, Sarah Waldeck writes for The Conversation

House and Senate committees sent a joint letter to 56 private colleges and universities in early February, requesting detailed information about endowment spending and management policies. Rep. Thomas Reed (R-New York) is considering legislation that would require institutions with endowments of at least $1 billion to spend 25% of their endowment earnings on financial aid or lose their tax-exempt status.

However, "From my perspective as a professor who has studied endowments, the only real significance of $1 billion is that it shocks the public because it sounds like so much money," writes Waldeck, who serves as a professor of law at Seton Hall University.

According to Waldeck, a bigger budget necessitates a bigger endowment, so looking at a school's expenses in addition to its endowment provides a fuller picture.

To illustrate this reasoning, she points to three of the institutions that received congressional information requests. The National Association of College and University Business Officers ranked the following schools' endowments by absolute value in 2015:

  • Harvard University, at $36.4 billion;
  • Vanderbilt University, at $4.1 billion; and
  • Grinnell College, at $1.8 billion.

Waldeck notes that schools have very different expenses; Harvard and Vanderbilt are large research universities and Grinnell is a small liberal arts college. For example, in 2013:

  • Harvard had expenses of $4.4 billion;
  • Vanderbilt had expenses of $3.8 billion; and
  • Grinnell had expenses of $97.6 million.

Although Vanderbilt has a larger endowment than Grinnell, it is still not enough to cover two years' worth of expenses. Grinnell, even with its smaller endowment, can pay for 18 years of expenses. 

Endowments may be large enough to cover more expenses than needed at a certain point in time, but even multibillion dollar endowments take a hit when factoring in institutional costs. Therefore, Waldeck writes, Congress "cannot simply use $1 billion as some kind of magical threshold."

Schools are able to accumulate huge endowments because of favorable tax policies that allow institutions to qualify for charitable deductions. Waldeck argues that after a certain point, an endowment is so big that it no longer needs to be exempted by the government. However, she says it's important to understand why schools often need such large endowments in the first place.

"Legislators should stop fixating on the $1 billion mark and instead evaluate endowments in their larger institutional context," Waldeck concludes. "Before Congress singles out certain endowments for less preferential tax treatment, it needs to distinguish between endowments that sound obscenely large and those that actually are" (Waldeck, The Conversation, 2/24). 

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