Loading icon

Banks Audit the “Well-Endowed”

News & Features | February 26, 2010

Ruth Tam

In the wake of the economic crisis, it seems like people have been keeping a close eye on their pocketbooks. Corporate giants have crumbled, and millions of jobs have vanished. Thrifty has become the new name brand, and no couch cushion has been left unturned in the search for loose change. What hasn’t disappeared has at least deflated. In the wake of this anxiety, the loss of sizeable portions of school endowments has stirred up increased scrutiny about universities’ accountability for their budgets.

The Internal Revenue Service is now concerned with how tax-exempt schools are using their money and are taking a closer look at private universities’ finances for the first time. In an effort to better understand tax-exempt institutions, the IRS sent surveys to 400 schools and universities in October 2008 inquiring into how they manage taxable operations and how they invest and use endowment funds.

The IRS It then chose 40 schools for further auditing this year, including Boston-area Suffolk and Harvard Universities. The questionnaires delved further into the inner workings of schools’ finances than ever before, with unusually detailed questions about compensation of upper-level employees and business activities. While the universities were not required to respond to these questionnaires, not responding would put them at greater risk of an audit. This year’s impending audits will look at how schools invest their endowment and compensate their employees, as well as how they report and classify exempt and taxable activities. The audits are modeled after a similar investigation into hospital funding that began in 2006; the scrutiny of the health care system led to audits, legislative hearings and stricter tax-filing requirements.

While Harvard has stated that it “has no reason to believe that the examination will have an adverse effect on the tax-exempt status of the university or any other aspect of the university’s operations,” some speculate that the IRS audits are a long-overdue look into university investments. While Harvard is tax-exempt, some believe that its wide range of investment activity might not be entirely related to its educational mission. The audits came as Harvard made plans to sell $480 million in tax-exempt securities to pay for an expansion of the law school and other capital as well as to refinance debt, according to the Boston Globe. In 2003, a Harvard alumni group criticized the Harvard endowment, known as Harvard Management Co., for paying its six in-house managers a combined $107.5 million in 2002.

Headlines have been pointing fingers at Suffolk University for its president’s astronomical salary. The university president’s $2.8 million income made him the highest-paid private college administrator of 2007, though university officials say that the amount included deferred bonuses. Nevertheless, he still made second on the list in 2008, when he earned a nominally more modest $1.5 million.

Tufts Economics Professor John Straub noted that this is not the first time the government has looked to universities and even hospitals to cushion the blow of the financial crisis. Pittsburgh, a city rich in hospitals and higher education, made headlines in late 2009 when the mayor floated the idea of taxing nonprofit universities and hospitals. Ultimately, the institutions agreed to pay a one-time “voluntary contribution” to avoid the permanent tax.

“It’s pretty clear that there’s not a lot different in terms of the finances of these hospitals and universities from ten years ago; it’s just that the cities, states, federal government are in a difficult revenue situation right now,” said Straub. “So they’re just looking for lots of ways to raise money.”

Straub said that he believed the audits to have been mostly politically motivated. “I think it’s pretty much straight-up that governments are running low on cash and this is something that they’re trying,” he said. “To me it’s kind of analogous to legalizing gambling or something like that, instituting lotteries. Twenty-five years ago, there weren’t that many lotteries. Now every state has a lottery. It was just a way to get more money without raising taxes. So I think it’s more of a political phenomenon than an economic phenomenon.”

While they might provoke some changes in university finances, Straub said that universities had long been expected to inform the government of their business. “It’s already been the case for a long time that nonprofits of all types submit a form to the IRS,” he said. “Nonprofits are allowed to pay certain people salaries, but they have to disclose what’s going on.

Higher education is especially important to Massachusetts, where independent colleges and universities pump $23 billion into the state’s economy each year. While these educational institutions have long proven to be a source of stability in rocky economic times, there are visible effects of the financial crisis across campuses. For example, many colleges are facing a slowdown in building projects, which has repercussions beyond the limits of campus.

Whether the IRS audits are a much-needed check on university spending or a political scheme to salvage drained state economies, one thing is certain: issued in the wake of disaster, the audits embody the financial crisis and highlight the growing need for fiscal responsibility across college campuses.