RESTRUCTURE HIGHER EDUCATION FINANCIAL AID PROGRAMS TO INCREASE FEDERAL FUNDING AND STUDENT OPPORTUNITIES

Texas is a national leader in linking need-based student nancial aid programs to eective preparation in grade K12 public education. While policies such as the Recommended High School Program have had signicant success, state established gift aid programs, such as the Towards EXcellence, Access and Success (TEXAS) Grant program, could modify policies and procedures to maximize their ecacy and to secure additional Federal Funds for Texas. Existing ineciencies are largely created by incongruity between the student-level award of federal aid and the institution-level award of state nancial aid. Institutional control over the distribution of state nancial aid also creates inequities in funding for similar students in dierent institutions and diminishes the nancial incentives supporting Closing the Gaps, the states initiative for higher education. Shifting the TEXAS Grant program to a direct grant to students and changing the funding allocation mechanism to average room and board charges as opposed to average tuition and fees could increase the eciency and equity of state nancial aid. ese changes would result in an additional $32 million to $42 million in Federal Funds for TEXAS Grant recipients. Further, the TEXAS Grant program could be expanded from $168 million to $314 million without additional state appropriations if funds from two tuition setaside programs administered by higher education institutions were redirected into the program. is shift would nearly double the amount of need-based student nancial aid tied to rigorous preparation in high school. e current institution-based method of awarding TEXAS Grants dilutes the impact of the collegepreparation incentive the program is attempting to foster.

Tuition set-aside funds of $146 million are awarded as nancial aid without student performance requirements that support state higher education goals. When the benets of federal education tax-credit programs are fully accounted for, between $32 million and $42 million of the scal year 2005 TEXAS Grant appropriation (22 percent to 29 percent) may have provided no net benet to students. In addition, the rapid growth in state average tuition and fees jeopardizes the scope of the program. To address these concerns, it is recommeneded that the Texas Higher Education Coordinating Board engage in a set of directed implementation studies to ensure that potential barriers to successful implementation of the initiatives are explored in advance of authorizing legislation. Potential issues include ensuring that any changes are congruent with federal tax regulations, establishing a cost and method for statewide program implementation, and determining the eect of directing funds from existing student populations into the TEXAS Grant award structure.

RECOMMENDATIONS
Recommendation 1: Include a rider in the 200809 General Appropriations Bill that requires the Texas Higher Education Coordinating Board to study the impact of requiring the completion of the Free Application for Federal Student Aid form as a condition of enrollment in a public institution of higher education in Texas. Recommendation 2: Include a rider in the 200809 General Appropriations Bill that requires the Texas Higher Education Coordinating Board to study options for converting TEXAS Grant into a direct educational grant program. Recommendation 3: Include a rider in the 200809 General Appropriations Bill that requires the Texas Higher Education Coordinating Board to study

FACTS AND FINDINGS

From 1999 to 2005, average tuition and fees in Texas increased at rate of 10.3 percent per year compared to an average increase in room and board of 3.6 percent and a consumer price index increase of 2.9 percent. If current trends persist, average tuition and fees will be greater than the average cost of room and board by 2010.

CONCERNS
Federal higher education gift aid requires submission of the Free Application for Federal Student Aid, however many students do not complete this form and as a result are ineligible for federal student aid.

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shifting existing tuition set-aside funds from statutory and designated tuition to the TEXAS Grant program. Recommendation 4: Include a rider in the 200809 General Appropriations Bill that requires the Texas Higher Education Coordinating Board to study the viability of constraining the future growth of the TEXAS Grant program while enhancing federal education taxcredits by converting the program to a stipend-based aid program linked to state average cost of room and board (or other index of living expenses).

portion of nancial aid packages. In scal year 2004, for example, 77 percent of student aid ($3.4 billion of $4.4 billion) in Texas was funded with Federal Funds. Students who fail to complete the FAFSA short-circuit the awarding of federal aid at the beginning of the process. Recommendation 1 would direct the Texas Higher Education Coordinating Board (THECB) to study requiring FAFSA completion as a condition of enrollment for all students attending a public institution of higher education in Texas in an eort to maximize federal education funds for Texas students. Even with signicant outreach eorts, many students who are eligible for federal nancial aid do not receive it simply because they do not complete this form. All in-state students at a public institution receive some state subsidy for their education through the higher education formula. Requiring FAFSA completion ensures that all students able to access available Federal Funds do so. STUDENT-DEPENDENT SOURCES OF FEDERAL GRANT AID Student nancial aid is most broadly divided into gift aid (which does not need to be repaid by the student) and loans (which must be repaid). One important, yet largely unspecied distinction among gift aid programs involves the method or formula used to determine whether aid is granted as well as the amount of any award. Student-dependent awards are those which the administering institution does not directly determine the distribution of funds. e lack of institutional control means the programs are more transparent in their operation than institution-directed aid (as any interested student could determine the award they should receive by knowing their nancial situation and the calculation used to generate the award amount). Federal Pell Grant Program: e cornerstone federal nancial aid program is the Pell Grant program, with a maximum award of $4,050 per academic year. In scal year 2005, $881 million in Pell Grants were awarded to Texas students across all sectors of higher education in the state. To be eligible for consideration for a Pell Grant, students must be U.S. citizens or legal, permanent residents. ey must have a high school diploma, passed the General Educational Development Test (GED), or be able to establish ability to benet. ey must also be working towards their rst undergraduate degree and meet satisfactory academic progress as dened by their institution. If these threshold criteria are met, Pell Grants are then awarded to students with signicant nancial need under federal guidelines. e amount a student receives as a Pell
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DISCUSSION
e rst step in developing a students nancial aid award package is to determine the amount the student or family is expected to contribute to their education. A federal formula on the Free Application for Federal Student Aid (FAFSA) determines this expected family contribution (EFC) amount from income and asset information supplied by the student and his or her family. Financial aid ocers have some discretion to modify EFC for changes in family circumstance as a special condition. ese special conditions include: (1) reduction of income due to unemployment or change of profession; (2) experiencing a divorce or separation; (3) reduction of income due to loss of government benets; (4) child support; (5) non-recurring income in the FAFSAreported year; or (6) unusually high medical or dental expenses not covered by insurance. Institutions are required to determine a cost of attendance (COA) for various categories of students (e.g., a full-time student, living on campus). e major categories of expenses included in a COA are: tuition and fees, room and board, and an allowance for books, supplies, transportation, and personal expenses. Institutions have signicant exibility in determining these costs. e gap between EFC and the COA is referred to as unmet need and nancial aid awards are designed to cover some amount of this need. EFC is not aected by the cost of an institution of higher education. Two students with the same income and asset proles will have the same EFC at Harvard University that they have at South Texas College (unless the COA at the institution is lower than EFC). However, due to the higher COA, unmet need after federal grant aid is larger for more expensive institutions (or institutions in more expensive locales). Federal nancial aid calculations are the basis of college nancial award planning because federal support is a large
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Grant is dictated by that students EFC. A student with zero EFC is fully funded for the rst $4,050 of higher education expenses. e award is reduced proportionally at higher levels of EFC. Students with an EFC of over $3,850 receive no award. e minimum Pell Grant is $400. New Federal Education Grant Programs: ere are two new federal grant programs that began in the 200607 academic year: the Academic Competitiveness Grant (ACG) program and the National Science and Mathematics to Retain Talent (SMART) Grant program. ACG grants are awarded to full-time, Pell Grant-eligible students who complete a rigorous high school course of study. A student must also be a U.S. citizen, be a Pell Grant recipient, and be enrolled full-time in a degree program. Currently in Texas, the rigorous high school course of study has been determined by the U.S. Department of Education to be the state-established Recommended High School Program or the Distinguished Achievement Plan. In the rst year of higher education, a student eligible to receive an ACG will receive an award of $750. is amount is not adjusted according to EFC. us, a rst-year student who is ACG-eligible will receive a total federal grant award ranging from $1,150 ($400 Pell Grant plus $750 ACG) to $4,800 ($4,050 Pell Grant plus $750 ACG). In the second year, if the student maintained a 3.0 grade point average (GPA), the ACG award increases to $1,300. e SMART Grant program provides $4,000 in each of the junior and senior years for students who are enrolled in specic majors. Like the ACG Grant, SMART Grants require that the recipient be a U.S. citizen, be a Pell Grant recipient (of any dollar amount), and be enrolled full-time in a degree program. e grant program does not require completion of a specic course of study in high school; rather, the student must major in physical, life, or computer sciences, mathematics, technology, or engineering or a foreign language that the Secretary [of Education], in consultation with the Director of National Intelligence, determines is
FIGURE 1 POTENTIAL FEDERAL GRANT AID, FULL-TIME STUDENT PROJECTED 2006-2010 ACADEMIC YEARS
FRESHMAN Pell Grant ACG SMART TOTAL
SOURCE: U.S. Department of Education.

critical to the national security of the United States. e student must also have achieved a 3.0 GPA in coursework required for the major. Both the ACG and SMART Grant programs are funded by a sum-certain $790 million in Federal Funds in scal year 2006. e appropriated amount increases yearly until scal year 2010, when it is funded at $1 billion. Texas share of this appropriation has not yet been determined and will depend on how many students in the state apply for and receive these grants. If the programs are oversubscribed, the grants will be reduced in a pro rata fashion. Figure 1 shows the potential sources of federal grant funds to students in each of their four years in a university. For students with the greatest need, who enroll in a designated major as a junior or senior, and who maximize their federal grant aid through high school preparation, there is a potential of $26,300 in federal grant funding available over four years. Figure 2 compares potential federal grant aid to average tuition at a four-year institution in Texas as well as to a transfer path from the average cost community college to the average cost four-year institution. With the exception of freshmen at four-year institutions, potential federal grant aid exceeds Texas average tuition and fees. However, the limited list of majors eligible for the SMART Grant means that many students cannot take advantage of these funds. Nevertheless, for students with the greatest need, the nancial barrier to higher education involves paying for living expenses rather than paying tuition. INSTITUTION-DEPENDENT GRANT AID e student-dependent federal grants detailed above represent the core of Federal Funds available for students in higher education. In addition to student-dependent programs, grant aid is provided to higher education institutions from federal and state sources, with institutions given some amount of discretion in the awarding these funds. Because of this

SOPHOMORE $4,050 1,350 na $5,400

JUNIOR $4,050 na 4,000 $8,050

SENIOR $4,050 na 4,000 $8,050

TOTAL $16,200 2,100 8,000 $26,300

$4,050 750 na $4,800

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FIGURE 2 POTENTIAL FEDERAL GRANT AID COMPARED TO AVERAGE TUITION AND FEES TEXAS PUBLIC INSTITUTIONS OF HIGHER EDUCATION PROJECTED 2006-2010 ACADEMIC YEARS
FRESHMAN Potential Federal Grant Aid 4-Year Average Tuition and Fees Difference $4,800 4,857 ($57) FRESHMAN Potential Federal Grant Aid Avg. Community College Transfer Tuition and Fees Difference $4,800 1,495 $3,305 SOPHOMORE $5,400 4,857 $543 SOPHOMORE $5,400 1,495 $3,905 JUNIOR $8,050 4,857 $3,193 JUNIOR $8,050 4,857 $3,193 SENIOR $8,050 4,857 $3,193 SENIOR $8,050 4,857 $3,193 TOTAL $26,300 19,428 $6,872 TOTAL $26,300 12,704 $13,596

SOURCES: U.S. Department of Education; Texas Higher Education Coordinating Board.

discretion, and because institutions do not receive funding proportional to their student population, it is impossible to model the funding that might be available to a student under these institution-dependent programs. e key federal grant aid program in this category is the Supplemental Educational Opportunity Grant (SEOG). e program provides additional grant support for highly needy students. SEOG awards range from $100 to $4,000 per year. ere is no federal calculation that determines the amount for which a specic student is eligible. e program awards a sum-certain amount to higher education institutions, based on a formula that heavily favors institutions that have been long term participants. Texas share of this federal program in scal year 2005 was $48 million in Federal Funds. In Texas, the most signicant state grant aid program under institutional control is the TEXAS Grant. To be eligible for an initial TEXAS Grant, a student must have nancial need, complete the Recommended High School Program, and enroll in an institution of higher education three-quarter time within 16 months of high school graduation. For students in four-year institutions the value of the TEXAS Grant is set by statute (Texas Education Code 56.307a) as: the average statewide amount of tuition and required fees that a resident student enrolled full-time in a baccalaureate degree program would be charged for that semester or term at general academic teaching institutions. Students who receive a TEXAS Grant are also exempt from tuition and fees in excess of the statewide average under THECB Rules 22.234b(5) unless the institution provides non-loan awards to make up the dierence. is provision allows institutions with tuition above the statewide average

to compensate themselves for tuition waivers rather than allowing students to use gift awards (such as Pell Grants) to help defray living expenses. While the nominal value of the TEXAS Grant is set by the THECB as a statewide average of tuition and fees, the average grant award is signicantly lower than this amount. In scal year 2005, the average award of dispersed TEXAS Grants across all institution types (public and private) was $2,789 ($168 million in General Revenue Funds distributed among 124,254 students). For students in public four-year institutions in scal year 2005, $129 million was dispersed among 39,017 students (average award value $3,301). Awarded amounts are lower than the value set by statute ($4,857) because institutions with lower than average tuition are not required to award TEXAS Grant funds to students in excess of their tuition and fees. TEXAS Grants are not awarded directly to students. Rather, institutions are given an initial allocation of TEXAS Grant funds to disperse according to institutional nancial aid practices. Institutions are to allocate TEXAS Grants as specied in THECB Rules 22.233: Priority in Awards to Students In determining who should receive an initial year TEXAS Grant, an institution shall give highest priority to students who demonstrate the greatest nancial need at the time the award is made. Figure 3 summarizes EFC data for students awarded initial TEXAS Grants at public four-year institutions in academic year 2005. In academic year 2005, most four-year institutions in Texas awarded at least one TEXAS Grant to a student who was

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FIGURE 3 INITIAL TEXAS GRANT AWARD RECIPIENTS BY EFC OF STUDENT, TEXAS PUBLIC FOUR-YEAR INSTITUTIONS OF HIGHER EDUCATION, ACADEMIC YEAR 2005
HIGHEST EFC Highest Institution State Average Lowest Institution $13,148 5,634 0 AVERAGE EFC $1,399 852 0

educational costs are not met in whole or in part from other sources and to provide institutions of higher education with funds to supplement and add exibility to existing nancial aid programs. In addition, under tuition deregulation institutions are required to set-aside an additional pool of funds out of designated tuition (Local Funds) in return for tuition exibility (Texas Education Code 56.011): e governing board of each institution of higher education shall cause to be set-aside not less than 20 percent of any amount of tuition charged to a resident undergraduate student under Section 54.0513 in excess of $46 per semester credit hour. e funds set-aside under this section by an institution shall be used to provide nancial assistance for resident undergraduate students enrolled in the institution. e distribution of these Local Funds is also specied: Priority shall be given to students who meet the coordinating board denition of nancial need and whose cost for tuition and required fees is not met through other non-loan nancial assistance programs. Finally, Texas Education Code 56.011(c) also provides wide latitude for institutions in the aid provided by these Local Funds: e nancial assistance provided under this section may include grants, scholarships, work-study programs, student loans, and student loan repayment assistance. Total grant funds available to students under tuition set-aside state grant programs are shown in Figure 4. (A small amount of tuition deregulation set-aside funds are used to fund 297 work study positions statewide. No funds are used for loans even though this is allowed by statute.) e $146 million available to higher education institutions under these provisions is similar in scope to the $168 million available as a state appropriation under the TEXAS Grant program. Unlike TEXAS Grant funds, however, there is no uniformity in the award of these funds, their allocation is not tied to Closing the Gaps goals for higher education, and students can receive these funds regardless of their level of preparation. ese dierences, while enhancing the ability of institutions to ne-tune their nancial aid and admission decisions, sharply limit the ability of these funds to inuence student preparation in high school. In contrast, the well-marketed and dened TEXAS Grant can aect student behavior

SOURCE: Texas Higher Education Coordinating Board.

ineligible for a Pell Grant. is is one indication that the statutory greatest nancial need criterion is applied unevenly in the current grant allocation system. In addition, the average family contribution of all students awarded TEXAS grants varied signicantly by institution, from zero at the bottom of the range to $1,399 at the top. e data in Figure 3 suggest that students with identical need proles are not equally likely to receive a TEXAS Grant and that their award depends on the institution that they attend rather then their need relative to other students in the state. Variation in student EFC by institution is an unintended consequence of an institution-dependent award system for TEXAS Grants. Higher education institutions serve dierent student populations because they have diering missions and are located in geographical areas with diering demographics. As a result, any award system for TEXAS Grant that is not administered at the state level will create an inequitable distribution of these awards. Recommendation 2 directs THECB to study options for converting TEXAS Grant funds into a direct grant program, with funds awarded to students up to a set EFC level in any given year (depending on the level of funds appropriated for the program). e study should also examine what student populations lose nancial aid award funds as a result of the proposed change and model the eect on statewide higher education facility use from changes in student enrollment arising out of the program. TUITION SET-ASIDE STATE GRANT PROGRAMS Texas Public Educational Grants (TPEG) are need-based nancial aid awards established under the Texas Education Code 56.031. All institutions of higher education are required to set-aside a percentage out of appropriated tuition (General RevenueDedicated Funds) for these grants. e purpose of this program is: [T]o supply grants of money to students attending institutions of higher education in Texas whose

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FIGURE 4 TUITION SET-ASIDE STATE GRANT PROGRAM EXPENDITURES FISCAL YEAR 2005
TEXAS PUBLIC EDUCATIONAL GRANTS (TPEG) Four-Year Institutions Community Colleges Health-Related Institutions Public State and Technical Colleges Total
* House Bill 3015, Seventy-Eighth Legislature, 2003. SOURCE: Texas Higher Education Coordinating Board.

TUITION DEREGULATION* $33,507,972 N/A 10,750 197,644 $33,716,366

TOTAL $115,437,877 20,688,592 6,880,193 2,793,145 $145,799,807

$81,929,905 20,688,592 6,869,443 2,595,501 $112,083,441

because it is linked to high school preparation through its requirement that grantees complete the Recommended High School Program. An underlying theme that unies these institution-dependent grant programs is that allocation decisions to students are not made through any transparent process. Institutional rules determine who gets what and students who qualify for one program (for example, a TEXAS Grant) may nd themselves eliminated from SEOG or TPEG funding by the institution. As a result, programs like the TEXAS Grant program that are intended to inuence student behavior through economic incentives may fail to change student behavior because similar funding is available through programs such as SEOG and TPEG that do not have a qualication tied to student preparation. Recommendation 3 directs THECB to study the eects of using TPEG General RevenueDedicated Funds and tuition deregulation set-asides (Local Funds) to increase the size of the TEXAS Grant program without additional state appropriations. In 200506, this shift would have increased the size of the TEXAS Grant program by 87 percent. In addition, merging tuition set-asides into the TEXAS Grant program would signicantly increase the transparency of state nancial aid awards in Texas and would have the potential to create a clear set of incentives supporting student preparation and success among low-income and minority populations. RESTRAINING TEXAS GRANT COSTS WHILE MAXIMIZING FEDERAL TAX EFFICIENCY In contrast to traditional student nancial aid administered through institutions of higher education, the federal government also provides a number of nancial incentives through the tax system designed to defray college costs.

While a potentially signicant source of education aid, these tax credit programs require action on the part of students (if they are independent) or their families (if they are dependent). A recent federal study suggests that, as a result, many students who are eligible for this support never receive it. ere are two major federal tax credits, the Hope Credit and the Lifetime Learning Credit. e Hope Credit provides for $1,500 in tax relief for tuition and related expenses arising in the rst two years of an undergraduate program. Related expenses do not include charges for room and board or other living expenses. Students must be enrolled at least half-time. is is a credit, not a deduction, and as a result reduces federal tax liability on a dollar-for-dollar basis. In scal year 2005, the full $1,500 credit would completely eliminate federal taxes for students with an adjusted gross annual income of $12,400 as a single ler or $14,850 for married ling jointly. In contrast, the Lifetime Learning Credit is available for all students regardless of their academic status or course load. is credit functions the same way as the Hope Credit, however it is granted for 20 percent of tuition and related expenses; a credit of up to $2,000 is available. (Again, related expenses do not include charges for room and board or other living expenses.) In 2005, the full $2,000 credit would completely eliminate federal taxes for students with an adjusted gross income of $15,750 as a single ler or $18,200 for married ling jointly. Students may choose either the Hope Credit or the Lifetime Learning Credit; they are not eligible for both in the same tax year. Structuring TEXAS Grants as a tuition and fee-based award reduces the overall federal tax credit subsidy a student can receive through the Hope and Lifetime Learning Credits, as these apply only to tuition and fees. In scal year 2005, public institutions (both four-year and two-year) participating
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in the TEXAS Grant program received an appropriation of $145 million and served 53,355 students. e value of tuition tax credits for low-income students has been estimated by the U.S. Department of Education at $600 per year, while the average for all full-time undergraduates is $800. If these estimates are correct, between $32 million and $42 million of the scal year 2005 TEXAS Grant appropriation (22 percent to 29 percent) provided no net benet to students receiving the grant (aside from precluding the need to claim the tax credit). Historically, tying the value of the TEXAS Grant to average tuition made sense because tuition was a relatively small share of the total expenses incurred by students who were attending a university. Figure 5 compares average tuition and average room and board charges at Texas public fouryear institutions. (While this gure shows room and board, all students are granted a category of living expenses as part of their COA.)

From 1999 to 2005, tuition increased at an average rate of 10.3 percent per year. During the same period, room and board increased at a more moderate rate of 3.6 percent per year. e average consumer price index (CPI) increase for this period was 2.9 percent. If current trends continue, by 2010 average tuition and fees at a Texas public four-year institution will exceed average room and board charges. Recommendation 4 directs the THECB to study the feasibility of delivering TEXAS Grants as a stipend-based award tied to cost of room and board (or other index of living expenses). Student aid that is delivered as a periodic stipend over the course of an academic period prevents those funds from being applied directly to tuition. As a result, a nonzero tuition and fee bill is generated, rendering the student eligible to claim the federal education tax credits. Further, basing the TEXAS Grant award amount on room and board as opposed to tuition and fees will naturally constrain the

FIGURE 5 ANNUAL TUITION AND FEES VERSUS ROOM AND BOARD CHARGES TEXAS PUBLIC FOUR-YEAR INSTITUTIONS SCHOOL YEARS 1999 TO 2010
$9,000

$8,000

$7,000

$6,000

Fees/Charges

$5,000

$4,000

$3,000

$2,000

$1,000

$1999 2000 2001 2002 2003 2004 2005 2006 (Est.) 2007 (Est.) 2008 (Est.) 2009 (Est.) 2010 (Est.) Fiscal Year Tuition and Fees (Average) Room and Board (Average)

NOTE: Fiscal years 2006 to 2010 are projections. SOURCES: Legislative Budget Board; Texas Higher Education Coordinating Board.

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growth of the program to a rate slightly above the historical CPI level. Converting the TEXAS Grant program to a stipend for room and board has the potential to increase the net cost of higher education for recipients attending a high-tuition institution that awards a waiver of tuition above the state average. A requirement that TEXAS Grant recipients, in addition to a room and board stipend, also receive a tuition and fee waiver at institutions with tuition and fees above the state average would preserve access to higher education for these students. e following Texas Higher Education Coordinating Board rider provisions could be included in the 200809 General Appropriations Bill to implement Recommendations 1 through 4: Review Structure of State Financial Aid Programs. Out of funds appropriated above, the Texas Higher Education Coordinating Board shall use at least $150,000 to conduct a feasibility study of restructuring state nancial aid programs. At a minimum, the feasibility study shall consist of: a. An analysis of the eects of requiring completion of the Free Application for Federal Student Aid as a condition of enrollment in a Texas public higher education institution; A proposal for converting the TEXAS Grant program into a direct student grant program based on a uniform assessment of nancial need, including an estimate of changes in statewide facility use as a result of changes in student enrollment patterns; An analysis of the eects of using tuition deregulation and TPEG state tuition set-asides as an additional funding source for TEXAS Grants and a projection of the number of additional TEXAS Grants that could be oered with the additional funds; A proposal to convert the index used to establish the value of TEXAS Grants from statewide average tuition and fees to statewide average room and board (or other index of living expenses) and to determine the cost of providing tuition waivers for students at institutions with tuition and fees above the state average;

e.

A proposal or proposals for delivering TEXAS Grants as a stipend-based award that would allow students to access higher education tax credits through the federal tax system.

THECB shall report the ndings of the study to the Governor and the Legislative Budget Board by July 1, 2008.

FISCAL IMPACT OF RECOMMENDATIONS

Recommendations 1 to 4 would have no scal impact for the 200809 biennium. e introduced 200809 General Appropriations Bill includes a rider to implement Recommendations 1 to 4.

b.

c.

d.

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