oversight

Southern Careers Institute's Compliance with the 85 Percent Rule.

Published by the Department of Education, Office of Inspector General on 2000-03-30.

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

       SOUTHERN CAREERS INSTITUTE’S
            COMPLIANCE WITH
           THE 85 PERCENT RULE


                         FINAL AUDIT REPORT




                                 Control Number ED-OIG/A06-90008
                                            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 Sources..............................................................................................2

RECOMMENDATIONS..................................................................................................................4

SCI’S RESPONSE TO DRAFT REPORT........................................................................................5

OIG’S REPLY TO RESPONSE.......................................................................................................5

BACKGROUND..............................................................................................................................5

OBJECTIVES, SCOPE AND METHODOLOGY............................................................................5

STATEMENT ON MANAGEMENT CONTROLS .........................................................................6

APPENDIX
                      EXECUTIVE SUMMARY
Southern Careers Institute, Inc. (SCI), a proprietary school headquartered in Austin, Texas, did not
qualify as an eligible institution for participation in the Title IV, Student Financial Assistance Programs
because it received 86.7 percent of its revenue from Title IV sources during its fiscal year ended
December 31, 1997. As a result, the school was ineligible to participate in the Title IV programs for
the period January 1 through December 31, 1998. During 1998, SCI received $7,233,741 of Title IV
funds.

Under the Higher Education Act, 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 (now the 90 Percent Rule). SCI reported in its audited
financial statements for the fiscal year ended December 31, 1997, that it met the requirements of the 85
Percent Rule. However, based on our review of cash revenue recorded in student ledger accounts for
the year, we determined SCI had not met the 85 Percent Rule, primarily because it included a portion of
its institutional scholarships in non-Title IV cash revenue. Although the institutional scholarships did not
generate any cash revenue for the school, we determined that SCI had a valid scholarship selection
process.

After our audit fieldwork was completed, the Department notified schools that with respect to valid
institutional scholarships . . . absent unusual circumstances, [it] does not intend to exercise its
enforcement authority against institutions that count . . . scholarships as revenue solely on the
grounds that the . . . scholarships fail to comply with cash basis accounting requirements. By
allowing institutional scholarships to be counted as non-Title IV cash revenue for 1997, SCI can
demonstrate that it met the eligibility requirement with a score of 80.8 percent. The scholarship amounts
claimed by SCI will not count as revenue for the calculation for audits submitted to the Department after
June 30, 2000.

As a result of the Department’s decision not to enforce the institutional eligibility requirement, we are not
recommending that SCI return the $7,233,741 of Title IV funds it disbursed during January 1 through
December 31, 1998. However, we recommend that the Chief Operating Officer for Student Financial
Assistance require SCI to amend its procedures for calculating the 90 Percent Rule for any audits
submitted after June 30, 2000, to ensure institutional scholarships that do not generate cash revenue are
not counted in the calculation.

SCI did not agree with our audit findings. However, the school stated it does not plan to contest the
recommendation. We have paraphrased the school’s response and provided additional OIG comments
after the Recommendation section of this report. A copy of the response is included as an Appendix to
this report.
Control Number: ED-OIG/A06-90008                                                                           Page 2

                                       AUDIT RESULTS
Southern Careers Institute, Inc. (SCI), did not derive at least 15 percent of its revenues from non-Title
IV sources during its fiscal year ended December 31, 1997, and was not eligible to participate in the
Title IV programs for the period January 1 through December 31, 1998. SCI reported in its 1997
audited financial statements that it received 81.0 percent of total revenue from Title IV sources. Based
on our analysis of all fiscal year 1997 student ledger accounts, SCI actually received 86.7 percent of its
total cash revenue from Title IV sources. SCI’s calculation of the reported percentage could not be
supported and included non-cash revenue from institutional scholarships.

Proprietary Schools are Required to Generate at least 15 Percent of Revenue from
Non-Title IV Sources

The Higher Education Act (HEA), Section 481(b) states: . . . the term “proprietary institution of
higher education” means a school . . . which has at least 15 percent of its revenues from sources
that are not derived from [HEA, 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
called the 85 Percent Rule. The regulations also provide the following 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.

                    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.


In April 1994, the Department published the final regulation to implement the above portion of the
Higher Education Act. Title 34 CFR 600.5(d)(2)(i) specifies that the amounts used in the 85 Percent
Rule calculation are Title IV funds and revenues received by the institution during the fiscal year. In the
preamble to the final regulation, the Secretary stated:

        . . . since institutions must report and account for title IV, HEA program funds on a cash
        basis, the institution must also account for revenue in the denominator on a cash basis.
        Under a cash basis of accounting, the institution reports revenues on the date that the
        revenues are actually received.
Control Number: ED-OIG/A06-90008                                                                Page 3

SCI’s 1997 audited financial statements contained the statement that 81.0 percent of its total revenue
was received from the Title IV programs. SCI determined this percent by converting accrued revenue
amounts reported in the financial statements to cash revenue. However, records made available to us
did not support the revenue amounts SCI used to convert accrual amounts to cash. As a result, we
analyzed all transactions from January 1 through December 31, 1997, that were recorded in student
ledger accounts. This analysis of 2,457 student ledgers showed that SCI received 86.7 percent of its
total revenue from the Title IV programs and did not meet the 85 Percent Rule. Table 1 compares the
SCI calculations to the OIG calculations.


                                             TABLE 1
                 SCI and OIG Calculated Percentages of Title IV Revenue for
                           January 1 through December 31, 1997

           Funding Source       SCI Calculation       OIG Calculation        Difference
          Title IV                   $5,466,482            $5,382,401         ($84,081)
          Non-Title IV                1,282,270               823,624         (458,646)
          Total Revenue              $6,748,752            $6,206,025        ($542,727)
          Title IV Percent               81.0%                  86.7%              5.7%


Although records provided did not support the amounts SCI used in its calculation, we were able to
identify the reason for at least some of the $458,646 difference in the non-Title IV amount. SCI
included a portion (about $314,000) of its institutional scholarships as cash revenue. Based on the
records and explanations provided by the school, SCI deducted $131,068 from the total institutional
scholarship amount of about $445,000 and included the remainder in the 85 Percent Rule calculation as
non-Title IV cash revenue. SCI should not have included any of the $445,000 in the calculation
because no cash revenue from outside sources was realized from awarding the scholarships.

No explanation was provided as to why only a portion of the institutional scholarships was deducted.
The SCI President stated he considered institutional scholarships to be allowable as non-Title IV
revenue in the 85 Percent Rule calculation.

SCI procedures provided that institutional scholarships were available for high school graduates and
GED recipients provided they enrolled in an SCI training program within six months of high school
graduation or receipt of a GED certificate. The students had to complete the training program in which
he or she was enrolled in order to receive the scholarship. Additionally, SCI offered institutional
scholarships to students who were sponsored by state or local sponsors such as the Texas
Rehabilitation Commission or Alamo Workforce Development Council, Inc. Scholarship amounts were
recorded in the student’s ledger account. The procedures stated that a scholarship check would be
Control Number: ED-OIG/A06-90008                                                                       Page 4

written by the school from a SCI bank account, endorsed “Deposit Only”, and then sent to the
corporate office to be signed and deposited into a different SCI bank account. SCI’s student ledger
cards disclosed that 249 students had institutional scholarships amounts credited to their accounts
ranging from $50 to $3,650 during calendar year 1997. We found that SCI adhered to its procedures
for awarding institutional scholarships based on a random sample review of 25 student files from the
universe of 249 students with institutional scholarships.

A purpose of the 85 Percent Rule was to encourage proprietary institutions to obtain non-Federal
student aid funds from independent outside sources. The SCI institutional scholarships represented
transfers of cash between SCI bank accounts and did not result in cash revenues from outside sources.

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, SCI should have lost its eligibility to participate as of December 31,
1997. SCI disbursed $7,233,741 of Title IV funds between January 1 and December 31, 1998.

After our audit fieldwork was completed, the Department notified schools that with respect to valid
institutional scholarships . . . absent unusual circumstances, [it] does not intend to exercise its
enforcement authority against institutions that count . . . scholarships as revenue solely on the
grounds that the . . . scholarships fail to comply with cash basis accounting requirements. By
allowing institutional scholarships to be counted as non-Title IV cash revenue for 1997, SCI can
demonstrate that it met the eligibility requirement with a score of 80.8 percent. As a result of the
Department’s decision not to enforce the institutional eligibility requirement, we are not recommending
that SCI return the $7,233,741 of Title IV funds it disbursed during January 1 through December 31,
1998. Scholarship amounts claimed by SCI will not count as cash revenue for the calculation for audits
submitted to the Department after June 30, 2000.



                                RECOMMENDATIONS
We recommend that the Chief Operating Officer for Student Financial Assistance require SCI to amend
its procedures for calculating the 90 Percent Rule for any audits submitted after June 30, 2000, to
ensure institutional scholarships that do not generate cash revenue are not counted in the calculation.
Control Number: ED-OIG/A06-90008                                                                 Page 5

                SCI’S RESPONSE TO DRAFT REPORT
SCI disagreed with our conclusion that it did not comply with the 85 Percent Rule for the fiscal year
ended December 31, 1997. However, SCI stated it does “ . . . not plan to contest the
recommendation that no refund of federal funds be made.”

The SCI President also stated they have always tried to comply with federal regulations and would
never intentionally violate them and that “ . . . it is wrong that regulations allow for after-the-fact
interpretations that may disallow funds already disbursed to students.” He added that “ . . . it
would be better from everyone’s standpoint to provide warnings as to possible future ineligibility
. . . rather than unrealistically ask for refund of funds that institutions cannot reasonably make.”
 A copy of SCI’s response is included as an Appendix to this report.



                         OIG’S REPLY TO RESPONSE
While SCI did not agree with our audit findings, the school’s response did not contain any information
that would cause us to change the audit findings and recommendation.



                                      BACKGROUND
SCI was founded in 1960. It is a proprietary institution headquartered in Austin, Texas, with additional
locations in Corpus Christi, Pharr, and San Antonio, Texas. SCI received initial approval to participate
in Title IV programs in March 1991, and is accredited by the Accrediting Commission of the Council on
Occupational Education. Among the vocational programs offered by the institution are Medical
Assistant, Pharmacy Technician, and Administrative Assistant.

During the two year period ended December 31, 1998, SCI received about $13 million in Title IV
funds from the following programs: Federal Pell Grant Program, Federal Campus Based Program,
Federal Family Education Loan Program and William D. Ford Federal Direct Loan Program.



         OBJECTIVES, SCOPE, AND METHODOLOGY
The objectives of our audit were to determine whether SCI derived at least 15 percent of its revenue
from non-Title IV sources and properly reported the 85 Percent Rule percentage in its audited financial
statements.
Control Number: ED-OIG/A06-90008                                                                 Page 6

To accomplish our objectives, we obtained background information about the institution. We reviewed
selected SCI files and the school’s 1997 audited financial statements and compliance audit report. We
also interviewed SCI officials and the independent public accountant who prepared the school’s
financial statements and compliance audit report, and reviewed the independent public accountant’s
workpapers.

We analyzed all 2,457 student ledger accounts to determine Title IV and non-Title IV revenue for the
year ended December 31, 1997. We also obtained and reviewed data applicable to the school from
the Department’s National Student Loan Data System, Payment Management System, and Grants
Administration and Payment System.

Our audit covered the school’s fiscal year that ended December 31, 1997. We performed fieldwork at
SCI headquarters in Austin, Texas, during March through August 1999. 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 our review, we assessed SCI’s management control structure, as well as its policies,
procedures, and practices applicable to the scope of the audit. We assessed the level of control risk for
determining the nature, extent, and timing of our substantive tests. For the purpose of this report, we
assessed management controls related to the institution’s calculation and reporting of the percentage of
revenues received from non-Title IV sources 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 85 Percent Rule percentage.
The weaknesses are discussed in the AUDIT RESULTS section of this report.
                                 DISTRIBUTION SCHEDULE
                               Control Number ED-OIG/A06-90008

                                                                                         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, Student Financial Assistance                          1

          Chief Financial Officer, Student Financial Assistance                              1

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

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