Do Donations Tied to Scholarships Increase Tuition?

The cost of higher education has reached the point where the House Ways and Means Committee had hearings in September of 2016 about the uses of college endowments. During the hearing Rep. Peter Roskam (R-Ill.), chairman of the Ways and Means Oversight committee, asked whether the tax code should be used to encourage people to donate money specifically for scholarships at universities.

Representative Roskam might be surprised to learn that his suggestion would most likely raise tuition costs rather than lower them.

In the U.S., the prices of goods and services are typically based on what people are willing to pay. It is difficult for colleges and universities to resist these market forces.

For example, imagine that you are one of the leaders at a small college responsible for setting tuition rates. Let's assume your college counts on $1 million dollars of tuition revenue each year from fifty incoming freshmen, with each student required to pay twenty thousand dollars a year. Some students can easily afford this amount; most require some assistance, and some can't afford to pay any tuition at all. For those that need assistance, there are scholarship funds to make up the difference between what they can afford and the twenty thousand dollars required.

Your college struggles to provide students with the amount of scholarship assistance they need, maintain the facilities, fulfill all administrative obligations and pay the faculty reasonable wages.

Now imagine that a generous donor has just given a $20 million dollar endowment gift to your college that is restricted to tuition reducing scholarships for freshmen. Your college's endowment annual withdrawal rate is 5%, so the $20 million dollar gift will provide $1 million dollars of annual scholarship income--covering the entirety of your budget's tuition expectations for incoming freshmen. If the endowment investment does well, this amount will increase over time and keep pace with inflation.

This is great news! But now you are faced with a decision. Do you:

a) Make the first year of your college tuition free?
b) Have those students who can afford it pay some amount of tuition?

Which do you choose?

Remember, for some students, paying full tuition is not an issue. You might decide to decrease the amount of tuition revenue you receive from students but you also might decide to keep the amount the same as it was in the past. After all, students have already demonstrated they are prepared to pay this amount and you know that some students can afford to pay full tuition. Why should a student who can easily afford to pay tuition be given a free ride?

If you choose to make your college tuition free, you might be able to attract different students but in other ways the quality of your institution will remain the same.

If you choose to have students continue to pay some amount of tuition, you will need to raise your school's costs. The additional $1 million dollars now provided by the endowment must be used for tuition reducing scholarships. The only way to get more than the $1 million dollars of tuition revenue provided from the endowment is for tuition to be raised from twenty thousand dollars per year to something higher. The additional funds that show up on your budget's tuition line will be used to provide much-needed institutional upgrades and improve the overall quality of your school.

Raising tuition from twenty thousand dollars per year to forty thousand dollars per year will keep students contributing the same amount as they did in the past while providing your institution with an additional $1 million dollars it can allocate to other pressing concerns. If you want to provide students with some tuition relief, tuition could be raised to some number between twenty and forty thousand least for next year. Tuition can always be increased in the future.

In this scenario, instead of lowering the cost of tuition, the $20 million dollar scholarship gift has contributed to tuition increases.

Well-intentioned donors who want to make college more affordable often restrict their gifts to scholarships. Indeed, fundraising offices will tell you that scholarships are one of the most appealing areas for donors. But money given for scholarships is at least as likely to raise the "sticker price" of a college education as it is to lower it.

Don't get me wrong. I fully support donors giving generously to scholarship funds. For those who believe in the value of higher education, helping to fund a college or university is money well spent. And scholarships are one important way to support these institutions and the students who benefit from them. But if the goal is to keep college tuition costs from rising, don't expect scholarship gifts alone to accomplish the task.

Representative Roskam and others focused on the rising cost of higher education should be aware that there are, unfortunately, no easy solutions.

Higher education is a vital building block of our economy. There are numerous state and federal initiatives that help make college more accessible. But the existing initiatives are clearly not enough. Instead of wasting taxpayer time and money by pointing fingers at college endowments, members of Congress should look for ways that government itself can do more to make a college education affordable for all qualified students.