Paul L. Caron

Wednesday, August 19, 2015

Fleischer: Stop Universities From Hoarding Money By Requiring Them To Spend 8% Of Endowment Each Year

8%New York Times op-ed:  Stop Universities From Hoarding Money, by Victor Fleischer (San Diego):

Who do you think received more cash from Yale’s endowment last year: Yale students, or the private equity fund managers hired to invest the university’s money?

It’s not even close.

Last year, Yale paid about $480 million to private equity fund managers as compensation — about $137 million in annual management fees, and another $343 million in performance fees, also known as carried interest — to manage about $8 billion, one-third of Yale’s endowment.

In contrast, of the $1 billion the endowment contributed to the university’s operating budget, only $170 million was earmarked for tuition assistance, fellowships and prizes. Private equity fund managers also received more than students at four other endowments I researched: Harvard, the University of Texas, Stanford and Princeton.

Endowments are exempt from corporate income tax because universities support the advancement and dissemination of knowledge. But instead of holding down tuition or expanding faculty research, endowments are hoarding money. Private foundations are required to spend at least 5 percent of assets each year. Similarly, we should require universities to spend at least 8 percent of their endowments each year.

Despite the success of its endowment, in 2014 Yale charged its students $291 million, net of scholarships, for tuition, room and board.

In 2012, Harvard spent about $242 million from its endowment on tuition assistance; in 2014, it paid $362 million in private-equity fees, and nearly $1 billion in total investment management fees.

Smaller institutions aren’t any better. The University of San Diego, where I teach, spent about $2 million from the endowment on tuition assistance in 2012, compared with $5 million in private-equity fees in 2014 and $13 million in overall investment management fees. ...

We’ve lost sight of the idea that students, not fund managers, should be the primary beneficiaries of a university’s endowment. The private-equity folks get cash; students take out loans.

As part of the reauthorization of the Higher Education Act expected later this year, Congress should require universities with endowments in excess of $100 million to spend at least 8 percent of the endowment each year. Universities could avoid this rule by shrinking assets to $99 million, but only by spending the endowment on educational purposes, which is exactly the goal. ...

[U]nder my proposal, the sky-high tuition increases would stop, and maybe even reverse themselves. Faculty members would benefit from greater research support. University libraries, museums, hospitals and laboratories would have better facilities. Donors would see the tangible benefits of philanthropy. Only fund managers would be worse off.

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So universities aren't subject to the annual 5% spend requirement that foundations have to live by?

Posted by: ParatrooperJJ | Aug 20, 2015 1:17:45 PM

Treeamigo, that is an excellent and novel suggestion.

Posted by: AMT buff | Aug 20, 2015 10:11:13 AM

On the symbiotic relationship between universities and private equity: Universities' tax exemption plays a key role in the real tax benefit of carried interest. When the fund manager/general partner takes a profit interest instead of salary, the fund manager effectively trades ordinary income for capital gains with its limited partner, which is happy to oblige if its rate on both kinds of income is the same (e.g., zero). See "The Tax Advantage to Paying Private Equity Fund Managers with Profit Shares: What is it? Why is it Bad?" University of Chicago Law Review, Vol. 75, 2008. Available at SSRN:

Posted by: Chris Sanchirico | Aug 20, 2015 7:47:50 AM

Instead change the tax laws so that charitable contributions to endowments or foundations where the donations are not dispensed within 12 months do not get the full charitable deduction- instead allow deductions of only 5 pct of the donated amount annually over 20 years. This will shift donations toward annual fund gifts and eliminate the tax subsidy for tycoons that transfer principle to foundations/endowments but never ever disburse the principal that they got the tax deduction for

Posted by: Treeamigo | Aug 20, 2015 7:15:17 AM

I think it is more complicated than this. Some gifts are restricted so that they must be used for non-tuition purposes such as building additions. A lot of these institutions probably do not realize an 8% return so requiring such a distribution would cause the endowment to be reduced over time. There is nothing wrong with requring them to spend an amount not in excess of the earnnings of the unrestricted funds.

Posted by: gator | Aug 20, 2015 6:06:10 AM

I am not sure why the relevant comparison is between (a) money paid to advisers and (b) scholarships to students. Endowment income can be used in lots of other ways to (at least theoretically) benefit students besides by giving them scholarships. Fancy buildings, the best professors, etc. Fleischer's comparison seems dubious to me.

Posted by: jason Yackee | Aug 20, 2015 5:26:54 AM

Bravo! (Thunderous applause) Bravo!

Posted by: Bobby D | Aug 19, 2015 1:39:45 PM

This would help future students, but how about those who have already graduated? Perhaps the legislation should permit some of this money to go to cover existing student loans.

Posted by: Michael W. Perry | Aug 19, 2015 1:34:04 PM