Base Higher Education Formula Funding on an All-Funds Approach

An all-funds formula funding approach should be reinstituted for the general operations of institutions of higher education.


Background
Unlike most state agencies, state institutions of higher education draw on several different sources of revenue to pay for current operations. Some are appropriated funds comprised of General Revenue Fund appropriations and locally generated Educational an d General (E&G) funds, and still others are institutional funds. Table 1 provides a profile of the major categories of current funds used by the universities, including the amount of revenue by source for fiscal 1991. General revenue only accounted for about 40 percent of the aggregate current revenues by the state universities in fiscal 1991. The existence of the several fund types imposes special challenges on the Legislature in making a fully informed state appropriation for higher education.

Table 1 Overview of Current Fund Revenues Available for University Operations (In thousands)
Fiscal 1991

Educational and General Auxiliary Total
Source of Funds State Local Subtotal Designated Enterprise Restricted Current Funds

Tuition and Fees $ 0 $355,077 $ 355,077 $ 108,757 $130,861 $ 293 $ 594,988
Government
Appropriations
Federal 0 16,931 16,931 150 0 8,674 25,755
State 2,288,244 2,288,244 100,000 0 2,387 2,390,631
Local 0 0 0 0 0 0 0 Government Grants
and Contracts
Federal 0 82,763 82,763 22,217 614 572,727 678,321
State 0 7,370 7,370 2,672 0 73,016 83,058
Local 0 452 452 289 4 19,202 19,947
Private Gifts, Grants,
and Contracts 0 15,630 15,630 11,894 5,276 288,858 321,658
Investment Income 0 5,152 5,152 22,634 9,410 46,920 84,116
Sales and Services of
Educational Activities 0 18,255 18,255 154,404 0 6,600 179,259
Sales and Services of
Auxiliary Enterprises 0 0 0 1,824 408,632 0 410,456
Sales and Services
of Hospitals 0 458,756 458,756 874 0 0 459,630
Professional Fees 0 0 0 325,275 0 0 325,275
Other Sources 0 39,163 39,163 72,703 11,743 16,790 140,399
Available University
Funds 0 0 0 252,495 0 0 252,495

Total Current
Funds Revenues $2,288,244 $999,549 $3,287,793 $1,076,188 $566,540 $1,035,467 $5,965,988
Percent Distribution 38.4% 16.7% 55.1% 18.0% 9.5% 17.4% 100.0%

Source: Texas Comptroller of Public Accounts. Texas 1991 Comprehensi ve Annual Financial Report, p. 34.

Universities historically have had access to many different funds for a variety of reasons. E&G funds are for general operations of the universities and are composed of two major subcategories. E&G-State General Revenue is the largest single revenue category for most institutions of higher education and represents the state s investment in the current general operations of the institutions, typically in the form of legislative appropriations. E&G-Local funds are used to deposit income from student tuiti on and fee revenues, indirect cost recovery from external agencies for conducting sponsored programs, and other miscellaneous sources for the general, unrestricted current operations of the universities. Most of the other categories are restricted at least to some degree in their use. Designated funds include fees collected from students, professional fees charged by faculty physicians and internal service departments that operate on a self-sustaining basis. Auxiliary enterprises funds are intended to provi de for the self-supporting operations of residence halls, food service, intercollegiate athletics and book stores, among others. Finally, restricted funds are for such purposes as externally-sponsored research and service programs.

Both E&G-State General Revenue Funds and most E&G-Local Funds are maintained as accounts in the State Treasury. Institutional funds (encompassing nearly 45 percent of all current fund revenues) are managed in local bank accounts under the direct control of institutional administrators.

A key characteristic of all self-generated funds (i.e., all funds but state general revenue) is that the institutions of higher education are permitted to carry over fund balances at the end of a fiscal period. In most cases, if the state general revenue s ources are not spent or obligated, the spending authority is lapsed. The ability to maintain fund balances is said to provide incentives for strong financial management at the campus level by permitting university administrators to set aside rese rves for future needs rather than feel pressured to spend every last dollar before the fiscal year is over. Table 2 shows how the rate of growth in the unrestricted fund balances has tended to slow over the past four years as the universities, along with o ther state agencies, have experienced tighter budgets.

Table 2 Analysis of Changes in Fund Balances
Fiscal 1987 through 1991
(Amounts in Thousands of Dollars)

Revenues and Unrestricted % Increase Balance as %
Year State Transfers % Increase Fund Balance (Decrease) of Revenue

1987 $ 3,321,014 % $ 1,090,273 % 32.8%
1988 3,792,595 14.2 1,168,970 7.2 30.8
1989 4,060,833 7.1 1,255,530 7.4 30.9
1990 4,743,778 16.8 1,319,446 5.1 27.8
1991 4,930,521 3.9 1,355,450 2.7 27.5

Source: Texas Comptroller of Public Accounts, Texas Annual Financial Reports , 1987 through 1991.

For many years, the Legislature considered each university s ability to generate E&G-Local funds as a key step in determining the amount of general reven ue appropriations needed. Projected local fund revenues were deducted from total formula-generated needs to derive general revenue requirements. Since 1988, however, the Legislature has only considered state general revenue in the state appropriations proc ess. The practice of estimating self-generated revenues was discontinued due to continuing difficulties in reaching consensus on the amount of projected local revenue. The Legislature has not historically considered institutional fund revenues, or the asso ciated spending requirements of the programs supported by institutional funds, in the state appropriations process.

The recent focus on only state general revenue in the appropriations process for higher education means that the Legislature now ignores a substantial portion (about 17 percent) of the universities general operations funding sources. Further, the practice has inadvertently contributed to growing concerns about funding equity among the institutions, since the universities have greatly differi ng abilities to generate non-resident tuition and fees and indirect cost recovery irrespective of their formula-generated relative needs for funding.

Institutions that are not able to generate significant revenues from non-resident student tuition, indirect cost recoveries and provide primarily low-cost academic programs (like liberal arts programs) would win under an all-funds formula approach, since t he current process does not take those (potentially) significant revenue streams into account in the formulation. For example, the University of Texas at Brownsville would benefit with the return to an all-funds formula.

State universities in Texas, of course, are not the only state universities that levy student charges or that are reimbursed by the federal government and others for the indirect costs incurred in operating sponsored programs. In most other states, however , the state appropriation process includes some provision for taking these other sources of funds into account prior to determining the a mount of the required state appropriation. In some states, detailed revenue projections are developed for each source of self-generated funds, while in other states the universities are responsible for setting tuition at an established percentage of total funds. Table 3 summarizes the process used for budgeting self-generated funds in the 15 states that are members of the Southern Regional Education Board.

Table 3 Comparison of Budgeting Processes for
State Universities in the Southern Regional Education Board

Legislative
State Approach to Budgeting Inclusion of Local Funds in Appropriation

Alabama Formula 90% of prior year student fees
Arkansas Formula Tuition X estimated enrollment
Florida Formula Tuition X funded enrollment+prior actual
Georgia Formula Tuition @ 25% instructional cost
Kentucky Formula Tuition X base enrollment; portion of indirect costs and interest
Louisiana Formula Tuition X estimated enrollment
Maryland Targeted Investment Not applicable
Mississippi Formula Tuition X base enrollment
North Carolina No Formula Tuition X authorized enrollment + prior actual
Oklahoma Formula Tuition X base enrollment
South Carolina Formula % of appropriation, adjusted for non-resident
Tennessee Formula % of appropriation, adjusted for non-resident
Texas Formula Institutional projections
Virginia Formula % of appropriation adjusted for portion of indirect costs
West Virginia Formula % of appropriation adjusted for non-resident

Source: Southern Regional Education Board, Survey of State Higher Education Finance Officers, 1992.

Issues surrounding the universities and their access to funds other than state general revenue have received considerable attention over the years. Many different groups at many different times have addressed some aspect of the local and institutional fund s issue.

The Senate Select Committee on Agency Funds Management in 1984 recommended clarification in the Education Code on what revenues are to be deposited in the State Treasury. Then, in 1986, the Subcommi ttee on Dedicated and Local Funds of the House Appropriations Committee recommended more comprehensive reporting on the status of local and institutional funds.

The State Auditor suggested in a 1991 report that all funds of state universities are state funds . . . (and are) subject to appropriation by the Legislature. The State Auditor s report proposed that the appropriation bill include a section for Institutional Funds Reappropriated.

Breaking the Mold recommended that interest income earned on unreserved balances in institutional funds should be used to offset state general revenue appropriations to the universities.

Finally, the Texas Higher Education Coordinating Board (THECB) reported in October 1992 that fund balances did not appear to be excessive and that the substitution of unrestricted, unreserved fund balances for general revenue appropriations would have serious detrimental consequences on the state s system of higher education.

Even with implementation of some of the prior recommendations, the existence and separate treatment of local and institutional funds continues to be of concern. State resources should be accounted for as fully as possible in the appropriations process.


Recommendations
A. The Legislature should reinstitute an all funds formula funding approach for the general operations of the universities.

The ability of each university to generate Educational and General (E&G) Local Fund revenue through student charges, indirect cost recovery and other sources should be considered as an offset to their formula-generated requirements for general revenue. Not only would implementation of this recommendation address issues of whether the universities should get to keep certain investment income, it also would resolve concer n about funding equity among the institutions, since the formulas would again take into account each institution s ability to generate income.

B. For those universities attaining their minority enrollment goals by attracting non-resident students, the Coordinating Board should make adjustments specifically for these schools to the all-funds formula to ensure that they do not receive less general revenue funding as a result of the new formula process.

Information submitted by universities to the Access and Equity Division of THECB in voluntary compliance with the Texas Educational Opportunity Plan should be used by THECB to determine which universities are affected by the proposed change and warrant a n adjustment.

The Legislature, THECB and the institutions will need to work together to design a process for estimating self-generated revenue, perhaps taking into account authorized tuition and fee rates, funded enrollment levels and prior year actual collections from other E&G-Local sources of rev enue.


Implications
Since the revised formula process will recognize universities abilities to generate funds outside general revenue appropriations, institutions that are able to generate significant revenues from non-resident student tuition and indi rect cost recoveries, and provide primarily low-cost academic programs (like liberal arts programs), will receive less support from general revenue. This will result in a more equitable distribution of limited state resources.


Fiscal Impact
The adoption of all-funds budgeting is not expected to lead to significant cost savings to the state, except when coupled with any increases in student tuition and fees that may occur, since tuition and fee increases would now be incorporated into the for mula funding process. However, the recommended appropriations process may lead to a significant redistribution of state general revenue among the universities. Moreover, this approach would provide the Legislature with a clearer picture of each institution s fiscal abilities and would, therefore, promote more efficient allocation of state general revenues.