Dependent Schools – How the Public Pays More to Educate Students in Wealthy Private Schools Than Those in Public Schools

(3rd of 5 installments)

Industrial Revenue Bonds

Many of America’s biggest banks were bailed out in 2008 with below-market rate TARP loans from the Federal Reserve. The loans were supposed to thaw the freeze in lending that occurred at the onset of the Great Recession. When the housing market too began to crumble, it was decided the bailout money might also be used to soften the foreclosure crisis. But there was no requirement that the money be used for either purpose or that the banks report even half-heartedly on what they did with it.

What happened to that money? In his book, Bailout, Neil Barofsky, Special Inspector General in Charge of Oversight of TARP, reports that it varied from bank to bank and within particular banks. Many, however, just “took the money and ran” … right to the nearest government bond auction, where they snapped up treasury bills paying over 1% with money they’d just borrowed from the Federal Reserve at only 0.1% to 0.25%. That’s right – they immediately loaned to the Treasury money they’d borrowed from the Fed at 4 to 10 times what they paid for it.

Government also supplies well-heeled schools and colleges, not just big banks, with cheap money. It comes in the form of tax-free industrial revenue bonds (IRBs), which finance construction. IRBs are as much a “can’t lose” proposition for financially sound educational institutions as TARP was for banks, and they help explain why many of the nation’s campuses resemble country clubs today.

In the early 1990’s, when Mercersburg obtained its first IRB, it had already received gifts and pledges of $9 million toward the $13 million in construction projects it would finance. The interest rate was 3.75%, a bargain at the time. There would be interest payments only – no payment of principal – for the first 25 years; balloon payments of interest and principal would follow in the last 5 years. And we could begin construction at once, rather than waiting for the remainder of the necessary gifts and pledge payments to roll in.

If this weren’t compelling enough, our bankers went on to show us a spreadsheet similar to Appendix C outlining how the $13 million in gift receipts might grow over 25 years. It illustrated that, if we could just invest those funds, like our endowment, with returns comfortably above the 3.75% interest rate – say, at the historic returns of the 60:40 stock to bond index – we might pay off in full the bond principal and interest after 25 years and pocket a cool $10 million.

I was beginning to understand why Albert Einstein called compound interest “the 8th wonder of the world.” There was more, though. We might even refinance before the big balloon payments began, folding a second new construction project and the old debt into a fresh IRB – getting the same compounding effect, but on a larger sum. Maybe we could put off those balloon payments forever. Alan Greenspan would wag his “irrational exuberance” finger at such speculation.

In fact, there was nothing “irrational” about that exuberance. Mercersburg has returned twice to the IRB well, and is drawing on it now for nearly $50 million at 3.6%. The cost to the taxpayers is not much – bondholders save about $0.3 million per year in taxes. But the 2.6-point spread between the 3.6% bond rate and the 6.2% average annual investment return of the 60:40 index (1987 to 2012) is enormous – possibly an average tax-free $1.9 million per year for 25 years (Appendix C.) The IRBs didn’t just build buildings – they also built serious endowment.

Subsidy Summary

Adding the $0.3 million above to the earlier tax expenditures, we see that Mercersburg may well have been subsidized from SY2008 through SY2012 by local, state, and federal governments by an average $5.7 million per year. There are schools with larger endowments and grander facilities receiving similar subsidies and still other wealthy universities, museums, and performance halls doing likewise. Everett Dirksen said it best, “Pretty soon, we’re talking about real money.”

One way to look at that $5.7 million is as $13,194 received indirectly from government in SY2012 for each of the school’s 432 students (not counting the average $1.9 million addition per year to the endowment from its IRB.) We might also see that figure as a 21% supplement to the $63,289 per student Mercersburg spent on its own that year. In fact, had the increased 2013 tax rates on earned income (wages) and unearned income (investments) been in effect in 2012, the subsidy would have far exceeded the $13,653 it cost that year to educate a student in Pennsylvania’s public schools. Utah spends the least per student; it could have schooled two.

(It should be noted here that the local public schools also received indirect subsidies which are not included in this calculation – no property tax, no sales tax on purchases from in-state vendors, and tax-free bonds. Their estimate of the value of these subsidies is $1,000,000 or $387 per student in 2012.)

We look in the next (4th ) installment of this series at some reasons the budgets of private schools have grown in the last 20 years at more than twice the rate of inflation.

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Source: Black Voices Huffington Post
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