oversight

Hallmark Institute of Aeronautics' Compliance with the 85 Percent Rule.

Published by the Department of Education, Office of Inspector General on 2000-03-06.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                     HALLMARK INSTITUTE OF
                         AERONAUTICS’
                      COMPLIANCE WITH THE
                        85 PERCENT RULE


                                FINAL AUDIT REPORT




                              Control Number ED-OIG/A06-80013

                                          March 2000



Our mission is to promote the efficient                         U.S Department of Education
and effective use of taxpayer dollars                             Office of Inspector General
in support of American education.                                               Dallas, Texas
                          NOTICE
Statements that management practices need improvement, as well as
other conclusions and recommendations in this report, represent the
opinions of the Office of Inspector General. Determinations of
corrective action to be taken will be made by appropriate
Department of Education officials.

In accordance with the Freedom of Information Act (5 U.S.C. §552),
reports issued by the Office of Inspector General are available, if
requested, to members of the press and general public to the extent
information contained therein is not subject to exemptions in the
Act.
                        TABLE OF CONTENTS

EXECUTIVE SUMMARY................................................................................. 1

AUDIT RESULTS ............................................................................................. 2

        Proprietary Schools Are Required To Generate At Least 15 Percent
         Of Revenue From Non-Title IV Funds..................................................... 2

        SEOG/Perkins Matching Funds Inappropriately Included In
         The Calculation....................................................................................... 3

        Tuition Waivers Inappropriately Included In The Calculation...................... 3

        Title IV Funds Misclassified As Non-Title IV Revenues............................. 3

        Non-Tuition Revenue Included As Non-Title IV Revenue .......................... 4


RECOMMENDATIONS .................................................................................... 6

HALLMARK INSTITUTE’S COMMENTS TO DRAFT REPORT..................... 7

OIG RESPONSE TO COMMENTS.................................................................... 7

BACKGROUND................................................................................................ 8

OBJECTIVE, SCOPE, AND METHODOLOGY................................................. 9

STATEMENT ON MANAGEMENT CONTROLS ............................................. 9

APPENDIX
                          EXECUTIVE SUMMARY

Hallmark Institute of Aeronautics (Hallmark Institute), a proprietary school located in
San Antonio, Texas, did not qualify as an eligible institution for participation in the Title
IV, Student Financial Assistance programs. We estimate Hallmark Institute received at
least 86.73 and 87.56 percent of its revenue from Title IV sources during its fiscal years
ending December 31, 1996 and 1997, respectively. As a result, Hallmark Institute was
not eligible to participate in the Title IV programs as of January 1, 1997. From January
1, 1997 through December 31, 1998, Hallmark Institute received $2,470,312 in Federal
Pell Grants and Federal Supplemental Education Opportunity Grants (SEOG) and
$2,734,274 in Federal Family Education Loan Program (FFELP) funds.

Under the Higher Education Act in effect during the audit period, proprietary institutions
must derive at least 15 percent of their revenues from non-Title IV sources to participate
in Title IV programs. Conversely, no more than 85 percent of total revenue may be
derived from Title IV programs. This institutional eligibility requirement is commonly
referred to as the 85 Percent Rule. Hallmark Institute reported that it met the 85 Percent
Rule in the notes to its fiscal year 1996 and 1997 financial statements. However,
Hallmark Institute did not meet the 85 Percent Rule because its calculations for both
fiscal years improperly included, as non-Title IV revenue, SEOG and Federal Perkins
Loan Program (Perkins) matching contributions, tuition waivers, Title IV revenue
misclassifed as non-Title IV revenue, and non-tuition or fee related revenue.

We recommend that the Chief Operating Officer for Student Financial Assistance take
action to terminate Hallmark Institute from participation in the Title IV programs unless
Hallmark Institute can demonstrate that it met eligibility requirements for its fiscal year
ended December 31, 1998. The Chief Operating Officer should also require that
Hallmark Institute return to the Department or lenders $2,470,312 of Pell Grant and
SEOG funds and $2,734,274 of FFELP funds received after the school became an
ineligible institution. The amounts apply to the period from January 1, 1997 to December
31, 1998.

Hallmark Institute did not agree with our findings and recommendations. As a result of
Hallmark Institute’s response to our draft report, we performed additional work at the
school. Based on the school’s response and the additional work performed, we have not
changed our findings and recommendations. We paraphrased the school’s comments and
provided additional OIG comments after the Recommendations section of this report. A
copy of the school’s response is included as an Appendix to the report. Copies of
exhibits that were included with the response are available on request.
Control Number: ED-OIG/A06-80013                                                                                      Page 2


                                            AUDIT RESULTS
We concluded that Hallmark Institute had not derived 15 percent of its revenues from non-Title
IV sources during the fiscal years ending December 31, 1996 and 1997 and was not eligible to
participate in the Title IV programs as of January 1, 1997. Hallmark Institute received
$2,470,312 in Pell Grant and SEOG funds and $2,734,274 of FFELP funds from January 1, 1997
to December 31, 1998.

Hallmark Institute reported that it received 84.35 percent of total revenue from Title IV sources
in its 1996 financial statements. We estimate that Hallmark Institute received at least 86.73
percent of total revenue from Title IV sources. The amounts that Hallmark Institute used in its
1996 calculation improperly included $40,670 of SEOG and Perkins institutional matching
funds, $31,000 for tuition waivers classified as institutional scholarships, at least $6,132 in
misclassified Title IV revenue, and at least $3,027 that was not related to tuition and fees or other
institutional charges.

For fiscal year 1997, Hallmark Institute reported that it received 83.28 percent of total revenue
from Title IV sources. We estimate that Hallmark Institute received at least 87.56 percent of
total revenue from Title IV sources. The amounts that Hallmark Institute used in its 1997
calculation incorrectly included $38,600 of SEOG and Perkins institutional matching funds and
at least $149,606 in Title IV revenue misclassified as non-Title revenue.


Proprietary Schools Are                        Section 481(b) of the Higher Education Act (HEA), in
 Required To Generate                          effect during the audit period, stated: ...the term
At Least 15 Percent Of                         proprietary institution of higher education means a school
                                               ... which has at least 15 percent of its revenues from
 Revenue From Non-                             sources that are not derived from [HEA, Title IV] funds ….
    Title IV Funds                             This institutional eligibility requirement is codified in Title
                                               34 of the Code of Federal Regulations (CFR), Section
                                               600.5(a)(8) and is commonly referred to as the 85 Percent
                                               Rule. The regulations also provide the formula, at 34 CFR
                                               600.5(d)(1), for assessing whether an institution has
                                               satisfied the requirement and specifies that amounts used in
                                               the formula must be received by the institution during its
                                               fiscal year. The formula is as follows:

                       Title IV, HEA program funds the institution used to satisfy tuition, fees,
                                     and other institutional charges to students.
         ____________________________________________________________________________________

          The sum of revenues generated by the institution from: Tuition, fees, and other institutional charges for
                     students enrolled in eligible programs as defined in 34 CFR 668.8; and activities
                      conducted by the institution, to the extent not included in tuition, fees, and other
               institutional charges, that are necessary for the education or training of its students who are
                                             enrolled in those eligible programs.
Control Number: ED-OIG/A06-80013                                                     Page 3

     SEOG/Perkins              In both its 1996 and 1997 calculations, Hallmark Institute
    Matching Funds             included its SEOG and Perkins matching contributions as
    Inappropriately            non-Title IV revenue. The transactions did not represent an
                               inflow of cash to the institution because they neither
    Included In The            increased the institution’s assets nor decreased its
      Calculation              liabilities. In 1996, Hallmark Institute included $13,181 in
                               SEOG and $27,489 in Perkins matching funds as non-Title
                               IV revenue. In 1997, the amounts of SEOG and Perkins
                               matching funds included as non-Title IV revenue were
                               $20,951 and $17,649, respectively. We removed the
                               amounts from the denominator for the respective years as
                               shown in Tables 1 and 2.

    Tuition Waivers            In its 1996 calculation, Hallmark Institute included tuition
    Inappropriately            waivers classified as institutional scholarships and non-
    Included In The            Title IV revenue. The tuition waivers did not represent an
                               inflow of cash revenue to the institution. The tuition
      Calculation              waivers recorded by the school represented a non-cash
                               accounting entry that reduced the amount owed by students
                               for tuition and fees. Hallmark Institute’s calculation
                               included $31,000 in non-Title IV tuition waivers that it
                               classified as institutional scholarships and non-Title IV
                               revenue. We reduced the denominator by the amount of
                               the scholarships as shown in Table 1. Hallmark Institute
                               did not use tuition waivers in 1997.

    Title IV Funds             Our review of the 1996 and 1997 calculations disclosed
 Misclassified As Non-         that Hallmark Institute misclassified Title IV transactions
                               as non-Title IV revenue. For example, the school provided
  Title IV Revenues
                               a Federal PLUS Program (PLUS) loan check for $1,786 to
                               the borrower who endorsed the check and returned it to the
                               school. The school accepted the check as payment for the
                               student’s tuition and classified the $1,786 as non-Title IV
                               tuition revenue. A total of $6,132 was misclassified in this
                               manner in 1996 and $128,391 in 1997.
Control Number: ED-OIG/A06-80013                                                       Page 4

                               In the 1997 calculation, Hallmark Institute also changed the
                               identity of an additional $21,215 from Title IV revenue to
                               non-Title IV revenue. As an example, a student paid cash
                               of $150 and Hallmark Institute received Pell Grant funds of
                               $2,428 and FFELP loan funds of $6,360 for the student.
                               Hallmark applied the funds toward charges for tuition, fees,
                               and books during the academic year. At the end of the
                               academic year, the student’s account showed a credit
                               balance of $148. Hallmark Institute disbursed $1,360 to
                               the student using a school check and created a debit balance
                               of $1,211 in the student’s account. Hallmark Institute
                               reduced its Title IV tuition revenue by $1,360. Two weeks
                               later, the student provided Hallmark Institute with a check
                               for $1,360 or the exact amount of the original disbursement
                               to the student. Hallmark Institute applied the $1,360 to the
                               student’s account and then classified it as non-Title IV
                               revenue. A total of $21,215 was misclassified in this
                               manner in 1997.

                               Hallmark Institute posted a total of at least $6,132 and
                               $149,606 ($128,391 + $21,215) in error as non-Title IV
                               revenue in 1996 and 1997 respectively. We adjusted the
                               numerator and denominator for these transactions as shown
                               in Tables 1 and 2.


 Non-Tuition Revenue           In its 1996 calculation, Hallmark Institute included $3,027
 Included As Non-Title         as revenue that was not for tuition, fees, or other
                               institutional charges. The revenues included in the 85
      IV Revenue
                               Percent Rule calculation are limited to revenues generated
                               by the institution from: Tuition, fees, and other institutional
                               charges [34 CFR 600.5 (d)(1)]. For example, Hallmark
                               Institute received $1,734 for an insurance premium
                               reimbursement and included the funds as tuition revenue.
                               We reduced the denominator by $3,027 as shown in Table
                               1.
Control Number: ED-OIG/A06-80013                                                                                Page 5

                                                      Table 1
              Hallmark Institute’s and OIG Calculated Percentage of Title IV Revenue
                               January 1, 1996 to December 31, 1996.

                           Hallmark                                            Misclassified       Non-
                           Institute’s    SEOG        Perkins     Tuition       Title IV       Institutional     OIG’s
      Funding Source      Calculation *   Match       Match       Waivers        Funds           Charges        Estimate
    Title IV Receipts        $2,517,478                                             $6,132                      $2,523,610
    Non-Title IV
    Receipts                  $ 466,985   ($13,181)   ($27,489)   ($31,000)1        ($6,132)         ($3,027)    $386,156
    Total Revenue
    (Cash Basis)             $2,984,463   ($13,181)   ($27,489)   ($31,000)                          ($3,027)   $2,909,766
    Title IV Funds as a
    Percent of Total
    Revenue                     84.35%                                                                            86.73%


*Hallmark Institute's calculation included the Title IV Receipts and Total Revenue. The Non-Title IV Receipts is a
mathematical calculation made by the OIG.

Table 1 above illustrates that Title IV revenues represented 86.73 percent of total revenue rather
than the 84.35 percent reported by Hallmark Institute for the fiscal year ending December 31,
1996. Institutions that fail to satisfy the 85 Percent Rule lose their eligibility to participate in
Title IV programs on the last day of the fiscal year covering the period that the institution failed
to meet the requirement [34 CFR, 600.40(a)(2)]. As a result, Hallmark Institute was not eligible
to participate as of January 1, 1997.

Table 2 shows that Title IV revenues represented 87.56 percent of total revenue and not the
reported 83.28 percent for Hallmark Institute’s fiscal year ending December 31, 1997.




1
 Subsequent to issuing our draft report, the Department of Education has stated that: … absent
unusual circumstances, [it] does not intend to exercise its enforcement authority against
institutions that count these loans and scholarships as revenue solely on the grounds that the
loans and scholarships fail to comply with cash basis accounting requirements. We determined
that the institutional scholarships were valid. However, even if these non-cash, institutional
scholarships were included as 1996 revenue, Hallmark Institute would still not meet the
institutional eligibility requirement with a score of 85.81 percent.
Control Number: ED-OIG/A06-80013                                                                           Page 6

                                                    Table 2
           Hallmark Institute's and OIG Calculated Percentage of Title IV Revenue
                            January 1, 1997 to December 31, 1997

                                  Hallmark Institute’s    SEOG         Perkins     Misclassified Title    OIG’s
     Funding Source                  Calculation *        Match        Match           IV Funds          Estimate
 Title IV Receipts                          $3,571,602                                       $149,606    $3,721,208
 Non-Title IV Receipts                       $717,062     ($20,951)    ($17,649)           ($149,606)     $ 528,856
 Total Revenue (Cash Basis)                 $4,288,664    ($20,951)    ($17,649)                         $4,250,064
 Title IV Funds as a Percent of
 Total Revenue                                 83.28%                                                      87.56%


*Hallmark Institute's calculation included the Title IV Receipts and Total Revenue. The Non-Title IV Receipts are a
mathematical calculation made by the OIG. Hallmark Institute did not use tuition waivers in 1997.




                                    RECOMMENDATIONS
We recommend that the Chief Operating Officer for Student Financial Assistance:

1.      Take action to terminate the participation of Hallmark Institute in Title IV programs
        unless Hallmark Institute can demonstrate that it met eligibility requirements for its fiscal
        year ended December 31, 1998.

2.      Require that Hallmark Institute return to the Department $2,470,312 of Federal Pell Grant
        and Federal SEOG funds received during January 1, 1997 through December 31, 1998.

3.      Require Hallmark Institute to return to lenders $2,734,274 of FFELP funds received
        during January 1, 1997 through December 31, 1998. This amount does not include loan
        origination fees, interest, or special allowance costs incurred by the Department for the
        loans.
Control Number: ED-OIG/A06-80013                                                           Page 7

 HALLMARK INSTITUTE’S COMMENTS TO DRAFT REPORT
Hallmark Institute disagreed with our conclusion that the institution did not comply with the 85
Percent Rule for fiscal years ending December 31, 1996 and 1997. A copy of the letter from
Hallmark Institute is included as an Appendix to this report. Exhibits that were included with the
letter are available on request.

Hallmark Institute contended that it made its calculations in good faith and that the school would
have been in compliance with the 90 Percent Rule for fiscal years 1996, 1997, 1998. Hallmark
Institute disagreed that $6,132 and $149,606 had been misclassified as non-Title IV revenues for
the FY 1996 and FY 1997 calculations respectively. Hallmark Institute agreed that most of these
funds were originally PLUS loans and credit balances that subsequently lost their identity. At
some later time, that same or similar sum that was disbursed to the borrower was paid to the
school by the borrower or student with checks from personal accounts, such as credit unions and
banks, for the students’ tuition, fees or institutional charges. …The fact that these funds match
up with the PLUS loan disbursement does not render the funds Title IV revenue. In fact, it is
impossible to tell what character the funds are made up of after they have been deposited into
personal accounts and commingled with other funds.

Hallmark Institute also argued that it offered a valid scholarship program and had properly
included institutional scholarships in the calculation. Hallmark Institute also submitted that it
should have included as non-Title IV revenue, significant amounts of institutional loans made to
students but not paid back during the fiscal year. A review of Hallmark’s institutional loans
reveals that about $353,001 and $259,151 were paid out to students in FY 1996 and FY 1997,
respectively. …about $202,515 and about $64,462 in FY 1996 and FY 1997, respectively,
represent the amounts made in those fiscal years that were not counted in the denominator.

Hallmark submits that the amounts that were not treated as revenue should also be counted as
non-Title IV revenue in the fiscal years in which the loans were made.


                       OIG RESPONSE TO COMMENTS

Hallmark Institute’s comments did not persuade us to change our findings or recommendations.

Regarding Hallmark Institute’s assertion that PLUS loan funds lost their identity when deposited
in borrower accounts, the regulations state: …With regard to the numerator, any title IV, HEA
program funds disbursed or delivered to or on behalf of a student shall be presumed to be used
to pay the student’s tuition, fees, or other institutional charges, regardless of whether the
institution credits those funds to the student’s account or pays those funds directly to the
student… [34 CFR 600.5(d)(2)(v)].
Control Number: ED-OIG/A06-80013                                                              Page 8

We returned to the school to verify the school’s claim that it had found additional revenue in the
form of unpaid institutional loans. We reviewed 28 files for students that Hallmark Institute
claimed had an institutional loan. The regulations provide that ...the title IV, HEA program funds
included in the numerator and the revenue included in the denominator are the amount of title
IV, HEA program funds and revenues received by the institution during the institution’s last
complete fiscal year [34 CFR 600.5 (d)(2)(i)]. The regulations stipulate that the revenue to
include in the denominator is the sum of revenues generated by the institution from tuition, fees,
and other institutional charges. Only those amounts from institutional loans that are applied to
tuition, fees and other institutional charges may be included in the calculation. We determined
that none of the amounts claimed by Hallmark Institute as additional loan principal were applied
to student accounts for tuition, fees, and other institutional charges. We allowed all amounts
from the “institutional loans” applied against tuition, fees and other institutional charges as non-
Title IV revenue in our calculation during the audit.

We verified that Hallmark Institute had a valid scholarship or tuition waiver selection process.
Since issuing our draft report, the Department has stated that: …absent unusual circumstances,
[it] does not intend to exercise its enforcement authority against institutions that count these
loans and scholarships as revenue solely on the grounds that the loans and scholarships fail to
comply with cash basis accounting requirements [GEN - 99-33]. After adding the institutional
scholarships back for the 1996 calculation, Hallmark Institute still failed to meet the institutional
eligibility requirement with a score of 85.81 percent. The scholarship or tuition waiver amounts
claimed by Hallmark Institute will not count as revenue for the calculation for audits submitted
to the Department after June 30, 2000.


                                      BACKGROUND
Hallmark Institute of Aeronautics is a proprietary institution located in San Antonio, Texas.
Hallmark Institute received initial approval to participate in Title IV programs in March 1985
and is accredited by the Accrediting Commission of Career Schools and Colleges of Technology.
The institution offers a variety of programs including Aviation Technology, Airframe
Technology, Electronics Technology, and Office Management.

During the period January 1, 1996 through December 31, 1998, Hallmark Institute received
$7,728,198 of Federal Pell Grant, Federal Supplemental Educational Opportunity Grant, and
Federal Family Education Loan Program funds.
Control Number: ED-OIG/A06-80013                                                              Page 9

              OBJECTIVE, SCOPE, AND METHODOLOGY
The objective of our audit was to determine whether Hallmark Institute derived at least 15
percent of its revenues from non-Title IV sources and properly reported its 85 Percent Rule
percentage.

To accomplish our objective, we obtained background information about the institution. We
reviewed selected Hallmark Institute student files and Department records. We reviewed
Hallmark Institute’s fiscal year 1996 and 1997 audited financial statements and Title IV
compliance audit reports. We also conducted interviews with Hallmark Institute officials and
staff.

We performed an analysis of and used information extracted from Hallmark Institute’s student
account ledgers, which are maintained on a computerized database. We tested the reliability of
the computerized information by verifying that amounts agreed with amounts from other sources
such as institutional bank statements and student records. We concluded that the computerized
information was sufficiently reliable for the purposes of our audit. We also used data applicable
to the school that we obtained from the Department’s National Student Loan Data System and
Postsecondary Education Participants System.

Our audit covered Hallmark Institute's fiscal years ending December 31, 1996 and 1997. We
performed fieldwork at Hallmark Institute from October 5, 1998 through October 21, 1998. We
revisited the school on September 7, 1999 to evaluate elements of Hallmark Institute’s response
to our draft report. Our audit was performed in accordance with generally accepted government
auditing standards appropriate to the scope of the review described above.


             STATEMENT ON MANAGEMENT CONTROLS
As part of the review, we assessed Hallmark Institute’s management control structure, as well as
its policies, procedures, and practices applicable to the scope of the audit. For the purpose of this
report, we assessed management controls related to Hallmark Institute’s calculation and
reporting of the percentage of revenues received as required by the 85 Percent Rule.

Because of inherent limitations, a study and evaluation made for the limited purposes described
above would not necessarily disclose all material weaknesses in the control structure. However,
our assessment disclosed weaknesses in the procedures used to calculate the percentage. The
weaknesses are discussed in the Audit Results section of this report.
                    DISTRIBUTION SCHEDULE
                        Audit Control Number OIG/A06-80013

                                                                                     Copies

Auditee                                                                                  1

Action Official

       Greg Woods, Chief Operating Officer
       Student Financial Assistance
       Department of Education
       ROB-3, Room 4004
       7th and D Streets, SW
       Washington, DC 20202-5132                                                         1

Other ED Offices

       General Manager for Schools Channel, Student Financial Assistance                 1

       Chief Financial Officer, Student Financial Assistance                             1

       Director, Case Management & Oversight, Schools Channel,
        Student Financial Assistance                                                     1

       Area Case Director, Dallas Case Management Team,
        Case Management & Oversight, Schools Channel, Student Financial Assistance       1

       General Counsel, Office of the General Counsel                                    1

       Assistant General Counsel, Postsecondary Education,
        Office of the General Counsel                                                    1
OIG

       Inspector General                                                                 1
       Deputy Inspector General                                                          1
       Assistant Inspector General for Investigation (A)                                 1
       Assistant Inspector General for Audit                                             1
       Deputy Assistant Inspector General for Audit                                      1
       Director, Student Financial Assistance Advisory and Assistance Team               1
       Regional Audit Offices                                                            6
       Dallas Audit Office                                                               6