Calculated Risk: How Tuition Hikes Could Threaten College Accountability

Some of the Obama administration’s efforts to hold colleges accountable for student debt, including the gainful employment rules slated to go into effect this January, may soon be rolled back by President-elect Donald Trump and the Republican-led Congress. And while that would mean for-profit colleges could temporarily be freed from some oversight, a bipartisan group  of policymakers is looking to implement a much broader accountability scheme that may impact even more institutions.

Despite the benefits of the  alternative “risk-sharing” models that have been proposed, many concede at least one potential drawback: Colleges could easily pass any financial consequence onto students with higher tuition, and this cost transfer may be difficult to prevent.

How Risk-sharing Works

The basic premise of risk-sharing involves the federal government charging colleges a penalty if they fail to meet a minimum threshold with regard to student outcomes. In practice, the measures that would typically inspire federal sanctions include low student loan repayment rates, high cohort default rates, or some combination of the two.

The penalties collected would not only punish institutions, but they would also protect taxpayer dollars from being wasted on subsidizing colleges that don’t adequately prepare students. If the majority of students at a college can't repay their loans, the federal government must settle the balance. Policymakers would prefer to see exploitive institutions cover their fair share, instead of burdening taxpayers with the cost of unpaid student debt.

Concern About Colleges Increasing Prices

A risk-sharing model, which would likely apply to all sectors of higher education, not just the career-oriented programs impacted by the gainful employment regulations, could be a viable alternative if designed correctly. But right now, that’s a big “if.”

For starters, not all colleges would be equally affected. Open access institutions, including many for-profits and community colleges that enroll a large share of  low-income students may be disproportionately penalized. In particular, community colleges, many of which have high default rates despite low overall borrowing rates, believe that fines levied against them could jeopardize their ability to serve students well. As a result, the Association of Community College Trustees warned last October that risk-sharing penalties “will inevitably result in either increased tuition or reduced educational services for students, and very likely both.”

Many experts and policymakers have brushed off these threats. They claim that tuition hikes won’t happen (at least not at an alarming scale) for several reasons.

Some note that market constraints, primarily imposed by federal loan limits, will dampen the extent to which colleges can realistically raise prices. While true for higher-priced, four-year institutions and for-profit colleges, this logic does not necessarily apply to community colleges where there is much more room for tuition growth. Since average tuition at public two-year colleges is less than $3,500, and fewer than half of community college students reach their annual loan limits, these restrictions may not prevent them from charging far more relative to current tuition.

Others point to the difficulty some public colleges have in raising prices, since many cannot set tuition independently of the state legislature. But as of 2012, local community college boards in over 21 states had tuition setting authority, allowing them to increase tuition at their discretion. And even for the remaining states with more central tuition setting authority, college leaders can often create new fees to raise revenue when increasing tuition is not an option. 

How to Prevent Colleges from Increasing Tuition

At the end of the day, there’s reason to believe colleges when they threaten to increase prices. For the few who acknowledge that colleges could act on their threat, several hope to discourage reactive tuition hikes through the design of their proposals. For instance, the financial penalty a college must pay could be calculated as a percentage of an institution’s total student loan volume. By constructing the sanctions in this way, any amount that an institution increases its tuition will necessarily lead to an increase in the amount it remits to the federal government. But since colleges would only be penalized for pennies on every dollar of additional tuition under this model, it may not pose a strong deterrent for raising prices.

For purposes of illustration, say Central State Community College has a total enrollment of 3,000 students and is charged a five percent fee on their federal student loan volume for having a high default rate. If the institution has a $5 million federal student loan portfolio, the college would pay $250,000. But if the school raised tuition by just $100 across the board, it would be more than able to cover the cost of this fee. The school would bring in an additional $285,000 in revenue after accounting for a maximum loss of $15,000 for the additional 5 percent fee assessed on the amount students may have borrowed to cover the tuition hike.

A minor tweak to this structure could solve the problem. Instead of assessing a small percentage fee on the college’s total loan volume, risk-sharing sanctions should instead impose a more substantial fee tied to the lesser of either the average amount borrowed or the amount charged for direct costs like tuition, fees and supplies. The penalty could be finessed to cover the desired amount of financial risk in terms of total dollars. But colleges would be much less inclined to raise tuition given that pricing changes would in turn, generate a heftier penalty.

This model tied to direct costs may also earn more institutional buy-in. Many colleges face pressure for debt that students have taken out to cover living costs. Administrators believe these costs are outside their control -- something that has spurred some policymakers to consider giving institutions local authority to limit borrowing for certain student subgroups. By only holding colleges responsible for direct costs under a risk-sharing scheme, this design may garner more support from colleges while still being more effective at keeping tuition prices at bay.

To be sure, there are some valid concerns with only penalizing colleges for borrowing amounts related to direct costs. Living expenses are integrally connected to student success. Furthermore, in their role as gatekeepers of federal aid, college leaders may focus less attention on their cost of attendance estimates or may charge on-campus students more for room and board if these amounts become inconsequential. But even though living expenses are important to monitor, this does not necessarily mean they need to be included in accountability metrics. In fact, a policy tied to just borrowing for tuition even has federal precedent: those ill-fated gainful employment regulations  measure student earnings relative to the price of the program -- not the complete cost of attendance -- to determine whether it is up to par.  

By holding colleges financially accountable for just direct costs, the federal government can generate wider support for the policy change and can ensure that taxpayers and students aren’t left holding the bill when colleges don’t provide a quality education.