Nonprofit and for-profit institutions are fundamentally different animals. While corporations classified as nonprofits must be organized and operated exclusively for purposes—determined by the federal government—to benefit the public good (e.g. educational, charitable, religious), for-profits are in business to make money for their shareholders. Among policy wonks, this distinction is known as the nondistribution constraint: those who run nonprofits are constrained in the use of organizational funds, with the law prohibiting them from distributing the money among themselves; in contrast, those who run for-profits are there for exactly that purpose.
With these different motivations come different responsibilities related to reporting, taxation, and allocation. While for-profit owners benefit from the ability to use the company’s money for any purpose they choose—including taking it for themselves—nonprofits are granted benefits, such as tax exemption, because they have agreed to always reinvest available funding toward pursuing the organization’s educational or charitable goal.
However, as reported in The Covert For-Profit, the boundary between nonprofit and for-profit is not well-policed. Colleges and universities are claiming that they are nonprofits without embracing the nondistribution constraint, continuing to maintain close ties with those who stand to reap the financial rewards of organizational decisions. In doing so, these schools are avoiding the internal mechanisms that have traditionally steered nonprofits toward what’s best for students and the public interest rather than private gain. To understand why for-profit owners would want to deceptively affix the nonprofit label to their institution, take a look at the five most significant benefits nonprofit schools enjoy:
- Dodging the 90–10 Rule
Federal law mandates that for-profit colleges and universities earn no more than 90 percent of their total revenue from the federal grant and loan programs outlined in Title IV of the Higher Education Act (e.g. Federal Perkins Loans, Federal Pell Grants, National SMART Grant, Federal Work-Study). The purpose of this policy is to ensure that the education provided by for-profit schools—and paid for with federal funds—really is worth the price tag. The idea is that so long as at least 10 percent of a school’s revenue is coming from a nongovernmental source, namely private individuals, this would imply that the education provided is worth the price tag. Think of it as a free market safeguard to prevent a bureaucrat from spending $500 of government money on a lightbulb when a $5 one would have worked just as well. Nonprofit schools, however, do not have this requirement.
- Skirting the Gainful Employment Requirement
Similar to the 90–10 Rule, the federal gainful employment regulation was put in place to ensure for-profit schools were providing real value to their students and not just raking in federal funds. When for-profit schools were first allowed to enroll students participating in national student loan programs, loans were available only for job-specific training leading to what the federal government labelled as “gainful employment in a recognized occupation.” So long as for-profit schools could provide easily measurable results, such as employment directly after graduation, policy-makers believed there would be no reason to worry about these students taking out federal loans to fund their education.
Up until 2009, the federal government never bothered to define exactly what classified as “gainful employment.” Under the most recent version of these regulations, which went into effect in July 2015, a program is considered to lead to gainful employment if the estimated annual loan payment of a typical graduate does not exceed 20 percent of her discretionary income—what is left after basic necessities have been paid for—or 8 percent of her total earnings. Programs that exceed these levels are at risk of losing their ability to participate in the taxpayer-funded federal student aid programs contained in Title IV. Though all schools are affected by these regulations, only some non-degree and certificate programs must abide by these regulations at nonprofit schools, while all certificate and degree programs at for-profit institutions must do so. Therefore, these rules are more lenient for institutions operating under the nonprofit umbrella.
- Advertising the Supposed Lack of a Profit Motive
All of the four schools featured in The Covert For-Profit prominently display the nonprofit label on their websites. Stevens Henager College, part of the Center for Excellence in Higher Education (CEHE) consortium, for example, insists its nonprofit status “means that Stevens-Henager College can put your needs and goals first.” Especially in the wake of the collapse of for-profits like Corinthian Colleges, colleges labeled as “for-profit” are now immediately raising red flags among consumers in terms of where exactly tuition money is going. In contrast, when most people hear the words nonprofit, organizations such as the Red Cross and Habitat for Humanity often come to mind—organizations that are relatively unobjectionable and largely a force of good in the world. Educational institutions would like consumers to see them in that light too. Who wouldn’t?
- Finding the Loopholes in State Regulation
As indicated above, there are many advantages to claiming nonprofit status under federal law but, because institutions of higher education are monitored at both the federal and state levels, the state context must also be considered. As it turns out, like the federal government, state regulations grant a higher level of leniency to nonprofit educational institutions than their for-profit counterparts. In Wisconsin, for example, where Herzing University is based, the university’s new nonprofit status, combined with the fact that Herzing first established headquarters in Wisconsin in 1965, has allowed the school to skirt oversight by the Wisconsin Educational Approval Board. Other perks for nonprofits at the state level, in some cases, also include lower property tax rates.
- (Some) Income Tax Benefits
While the difference between for-profit and nonprofit colleges is often described as “tax status,” the tax benefits afforded to nonprofits are often overstated and misunderstood. Most of the tax benefits of a 501(c)3 charity go to individual donors, who can reduce their taxes paid by deducting personal donations from their reported income on yearly tax forms. The nonprofit’s fundraising is helped by being able to offer donors this benefit.
Nonprofits themselves are exempt from paying income taxes on any profit—revenue minus expenses—and are allowed to instead reinvest these funds in the nonprofit organization itself. For-profits, on the other hand, are taxed on this income, which is normally distributed among the owners or retained for later uses that benefit the for-profit’s shareholders. The idea behind this tax advantage is that since nonprofits serve the public good, usually the government’s role, the government shouldn’t tax future investments in these nonprofits.