How to Stop Your Institution from Drowning in Financial Aid

Lynn Russo Whylly's picture
Thursday, October 18, 2012

During the last decade, institutionally funded financial aid has increased much faster than other institutional expenses and the higher education system as a whole. Many institutions now are saturated with financial aid costs which, on average, are more than one-third of total institutional expenses.

Unintended consequences are that the substantial annual increases in financial aid have become major unrecognized drivers of annual tuition increases. High institutional financial aid costs have also scavenged support of academic programs, delaying or preventing the strengthening existing programs and initiating new ones. Thus, financial aid has become a key, and sometimes dominant, expense which erodes support of academic endeavors on which institutions depend.

When used wisely, financial aid can help with recruiting and retaining students. However, there are much more effective ways to recruit students than currently occurs, more students can be treated more equitably, and institutions can use their money more wisely. Here, we take a look at where improvements can be made.

Financial Aid Merit Awards: Great Idea Gone Awry

Merit awards have become a major problem for colleges and universities, having gone astray through excesses and losing sight of what really attracts and retains students, what does not, and what helps students attend and graduate.

Merit awards are most frequently based on such measures as standardized test scores, SAT and ACT for example, or standing on competitions such as National Merit Scholarships, accounting for more than 80 percent. These awards now constitute a high percentage of all institutional financial aid and are increasing at a much faster rate than other financial aid awards. In addition, the substitution of merit awards for other aid has not been overt, but has been fast paced, and has incrementally changed the face of financial aid for many institutions.

Graduated Merit Awards: Expensive Bragging Rights

Merit awards are typically based on a graduated scale with differing amounts of aid for different qualifying criteria. Thus, the highest SAT/ACT scorer would receive the highest award, and the amounts would be scaled down by lower qualifying criteria and with substantial differences between amounts of the awards. This feature alone can easily cost an institution millions of dollars a year compared to a system in which the student qualifies for a merit award, but without gradations, or if gradations, by small amounts. A typical merit award table has 3-5 gradations varying by $500-3,000 per year per gradation. This relatively easy and straight forward approach, which is educationally sound, could reduce financial aid costs by 15-25 percent in four years for many institutions.

Financial Aid Drives Tuition Increases

If the amount of the award is based on test scores, and the scores are increasing, that usually increases total financial aid at rates which are above the rate of increase in tuition income and other revenues.

Those features can also easily lead to much higher total financial aid than expected, and frequently require tuition increases for the next year. The total impact can be especially damaging, since the financial commitment for merit awards will usually last for multiple years.

Many mid-range but not elite colleges lock themselves into annual tuition increases, then find their tuition is higher than parents are willing to pay. Enrollment often drops and financial aid is increased further, leading to what can become a fatal loop. This frequent response also leads to a further increase in financial aid as a percentage of tuition income, which can directly affect the academic program.

Students who receive financial aid upon entrance typically expect it to continue at the same or higher amount each year. College and university correspondence with students, statements in university publications and verbal comments typically indicate that financial aid will continue for the number of years the student is expected to take to complete his/her course of study. The institution’s “commitment” is not stated as a guarantee, but is usually stated as an expectation that students and families can depend on.

Unrecorded and Unreported Contingent Financial Liabilities

The amount of the expectation or commitment is a contingent liability of the college or university that does not show in most institutional internal financial reports or in audit reports, but is understood to be an obligation of the institution by students, parents, and the public. It typically is about 2 ½ times the most recent year’s annual cost of total institutional financial aid for years 1 through 4 for most colleges and universities and larger than total annual income from all sources for many institutions. It usually takes 3-4 years to work through this commitment and get out of the budget predicament which the high awards sometimes create. If the institution encounters enrollment problems or income is otherwise less than expected during this period, the commitment for high merit awards usually means that the college or university will be under substantial financial strain for the 3-4 years it takes to work through the problem.

If trustees had this commitment recorded as a contingent liability in internal financial statements, and possibly in audit reports, it would be enlightening and beneficial to them. It would heighten awareness of lessened net resources and lead to addressing the problem rather than ignoring it. The exceptions typically would be private institutions with endowments of $200,000 or more per student, or $10,000 or more enrollment income per student, or public institutions which receive 50 percent or more of their instructional costs from state appropriations.

Short-Term Pain for Long-Term Gain

While the specifics will vary by institutions, it’s clear that disabling financial aid patterns need to be reversed. Specific actions to deal with the matter should be initiated when financial aid is 35 percent of tuition and fee income, alarm-type actions at 40 percent, and crisis-type actions at 45 percent. The actions below taken at lower levels can avoid harsher actions later:

  • Stop increasing financial aid; hold the average award per student level for up to 3 or 4 years, or until total financial aid is no greater than prior years.
  • Forego tuition increases during the adjustment period. This may mean being willing to accept level enrollment or some decline while not increasing financial aid, and without placing additional financial burdens on students during the adjustment period.
  • Offer programs students and parents want and will pay for, but not by buying students through financial aid. Be willing to accept the fact that it may take 3-5 years to make the necessary adjustments to get the institution to a healthy financial status again.
  • Hold financial aid and tuition constant for a few years to restore balance (sometimes referred to as a “freeze” approach).

Strengthening Academic Programs

During this time, it is essential to strengthen or add new academic programs that will attract students and parents. Trustees and others need to assess carefully whether their higher ed institutions are offering majors and programs that today’s students and their parents most seek.

If prospective students and parents perceive that the institution has good quality programs which they seek, that is well above 50 percent of the reason why they will enroll. Not recognizing that basic feature, and not offering academic programs which prospective students seek, inverts the recruiting program and leads to ever-increasing emphasis on recruiting techniques and more financial aid.

Good things likely will happen to colleges and universities which strengthen their current academic programs, look at educational opportunities to add to their current offerings and do not depend on hyped admissions approaches and excessive financial aid to try to get new students.

First rate students will come if good quality programs which students seek are offered at prices which students and families can afford. That is today’s mantra and hope for the future.

DeBow Freed has been president of three colleges for a total of 32 years.

Read more »