O.K., so it’s not really fake news. But most folks keeping up on current events over the last year would think colleges are hoarding millions and even billions of dollars that could be used to help students and their families offset the increasing cost to attend. Although that is not the case, Congress put a tax on about 30 of the largest private college endowments as part of its tax reform legislation.
So, you better have the financial literacy to explain the situation to donors concerned about the issue and possibly reluctant to make gifts to endowment. Here are some of the facts you will need to do so:
- An endowment is not just a pot of money set aside for use however an institution chooses. That total endowment number typically is made up of hundreds to thousands of individual funds established by donors who in most cases restricted the use of the income for specific purposes. While those restrictions include scholarships, they also include support for faculty positions and specific programs. Thus, the institution is not free to spend from those non-scholarship funds for student financial aid.
- Endowment funds come in different flavors. There are:
- True endowments where a donor specified that the gift be held in perpetuity and invested with only a portion of the income available for expenditure.
- Term endowments are just like true endowments except the donor establishes them for a term of years after which the fund is no longer endowed.
- Quasi-endowments where the Board has decided that unrestricted gifts or miscellaneous revenue be treated as endowments but has reserved the right to change that restriction. These are often funds from estate gifts.
All three flavors can be unrestricted or restricted, and most are the latter. Again, the institution has limited flexibility to devote more to student financial aid.
- Institutions have a responsibility to invest their endowments mindful of both the present and the future. Generally, they invest in stocks, bonds, and other vehicles such as hedge funds to seek a long-term return in the range of seven to eight percent. This will maintain the endowment’s purchasing power for the future while providing for current spending. The annual endowment study by the National Association of College and University Business Officers reported average spending of 4.4% of the endowment’s value in the 2017 fiscal year.
- Returns can vary widely over time. The NACUBO study reported an average return of 12.2% for FY 2017 prompting many to call for higher current spending. But the returns for FY 16 and 15 were minus 1.9% and 2.4%, respectively. To avoid wide swings in spending because of large swings in returns, most institutions base their spending on a percentage of the endowment’s average value over three to five years to smooth out spending. The 10-year average was 4.6%, because of the impact of the Great Recession, well below what was needed to cover both inflation and spending.
Learn the specifics on all of these points about your institution so that you can articulate the real situation to your donors who may have had a distorted perception.