The tax bill recently introduced by Congress — House Resolution 1 or HR1 — aims to reduce tax rates and to close tax loopholes. As a nation, we often speak of expanding opportunity for the middle class. Current tax law has a number of provisions aimed at doing just that by supporting access to higher education. It is my hope the new bill will preserve and enhance those existing provisions, especially as they apply to endowments and the deductibility of charitable contributions.
Higher education is unlike any other venture as it purposely operates at a loss. When we add tuition, fees, and room and board to state and federal assistance grants and loans, our revenue typically does not equal our cost of doing business. Donors who give back to their communities by supporting future students most often bridge the resulting deficit. Many of those donors choose to fund scholarships that subsidize students’ education decades after the initial donation. In these instances, donors may never meet many of the beneficiaries of their long-lasting generosity. Universities only spend a given portion of the scholarship earnings, thereby preserving the initial investment or corpus, permanently.
If a donor provides $100,000, for example, a university might choose to spend 4 percent of the earnings annually on a scholarship. The student receives a $4,000 scholarship and the original funds are invested so future collegians can receive a similar financial award, hopefully in perpetuity. Theoretically, the grandchildren of the original scholarship recipient could receive a scholarship from the same fund.
Our tax laws rightfully restrict the ability of the university to spend the original donation. In return, the donor receives a tax deduction and the university, as a nonprofit, does not pay taxes on the endowed scholarship funds.
Unfortunately, HR1 proposes to levy a “modest” 1.4 percent tax on endowment funds. The original proposal set a threshold of $100,000 in endowment per full-time student for the tax. The vast majority of private institutions in northeastern Pennsylvania do not meet this financial threshold and, therefore, would pay no tax. A more recent policy suggestion raised the ceiling to $250,000.
No matter what financial level federal lawmakers ultimately approve, they need to understand how this policy erodes the ability for colleges and universities to collaborate with generous donors to fund college educations for countless Americans. These gifts, which were made legally and completely with the intent to fund scholarships, will be siphoned away to pay for a tax cut.
There is little doubt in my mind the tax rate will increase and the threshold will decrease over time. Therefore, a tax aimed at the wealthiest private institutions will eventually also impact smaller institutions, such as Misericordia University where I serve as president. Coupled with an increase in the standard deduction, as proposed in the new bill, we can expect to see far less giving to endowed scholarships in the future should the bill pass.
Where will higher education go to make up the difference? If private colleges have less donor-supported funds to award to students, they may seek education in the public sector or draw more heavily on state and federal programs. Both of these options put additional strain on government and negate the benefits of any tax on endowments.
Conversely, if colleges and universities have to ask students for more, they ultimately will incur additional debt. Another likely result is that fewer students will enroll and complete degrees. Those missing students over time will pay less payroll and other taxes. Our tax cut, which seemed like such a good idea in 2017, will reduce future taxes and economic development.
A better path is to continue searching for ways that enable our tax code to support investment and economic growth. An educated workforce is key to increasing productivity, which in turn will increase both personal and corporate earnings. As a result, the federal government can achieve long-term growth in tax revenue without looking to tax gifts given in the hope of a better future for our children and grandchildren.
Thomas J. Botzman, Ph.D., is president of Misericordia University in Dallas, Pa., the oldest four-year institution of higher education in Luzerne County. Misericordia University ranks in the top tier of the Best Regional Universities — North category of U.S. News and World Report’s 2018 edition of Best Colleges and was designated a 2018 Best Northeastern College by the Princeton Review.