University endowments are comprised of money or other financial assets that are donated to academic institutions. Charitable donations are the primary source of funds for endowments. Endowment funds support the teaching, research, and public service missions of colleges and universities.
University endowments (and all endowments) have a specific legal structure that is intended to indefinitely perpetuate a pool of investments for a specific purpose. Typically, endowment funds follow a fairly strict set of long-term guidelines that dictate the asset allocation that will yield the targeted return without taking on too much risk.
In the case of endowment funds for academic institutions, the income generated is intended to finance a portion of the operating or capital requirements of the institution. In addition to a general university endowment fund, institutions may also maintain a number of restricted endowments that are intended to fund specific areas within the institution, including professorships, scholarships, and fellowships.
Sometimes, colleges and universities pool together many individual endowments into a single investment fund which allows for a consistent investment approach. In this way, a university endowment may resemble a mutual fund.
Some endowment funds have guidelines stating how much of each year's investment income can be spent. For many universities, this amount is approximately 5% of the endowment's total asset value. Some elite institutions, such as Harvard, have endowments that are worth billions of dollars, so this 5% amount can end up equaling a large sum of money. In the context of the U.S. higher educational system, the presence of endowment funds are often integral to the financial health of educational institutions.
- University endowment funds are an important source of revenue for many higher education institutions.
- Endowment funds support the teaching, research, and public service missions of colleges and universities.
- In addition to a general university endowment fund, institutions may also maintain a number of restricted endowments that are intended to fund specific areas within the institution, including professorships, scholarships, and fellowships.
- Sometimes, colleges and universities pool together many individual endowments into a single investment fund which allows for a consistent investment approach; in this way, a university endowment may resemble a mutual fund.
History of University Endowments
In general, an endowment is a donation of money or property to a non-profit organization, which uses the resulting investment income for a specific purpose. An endowment can also refer to the total of a non-profit institution's investable assets which is meant to be used for operations or programs that are consistent with the wishes of the donor. Most endowments are designed to keep the principal amount intact while using the investment income for charitable efforts.
The Roman emperor and Stoic philosopher Marcus Aurelius established the first recorded endowed professorships in Athens in A.D. 176. He created one endowed professorship for each of the major schools of philosophy at that time. Later, more educational endowments were created at different schools throughout the Roman empire.
The practice of endowing professorships officially began in the modern European university system in England in approximately 1502. The Countess of Richmond (and grandmother to the future King Henry VIII, Lady Margaret Beaufort, created the first endowed professorships in divinity at Oxford and Cambridge University. Then later, in approximately 1550, King Henry VIII also established endowed professorships at both universities in five different subjects: divinity, civil law, Hebrew, Greek, and physic.
In the modern era, endowment donors can sometimes restrict how the schools spend this money with an investment policy statement (ISP). For example, donors can decide to use a portion of an endowment's scheduled income on a merit-based or need-based scholarship. Another standard restrictive use of an endowment's income is to provide funding for endowed professorships.
Other than these restrictions, universities can use the rest of the allotted spending amount as standard income. Decisions about whether it should be spent on hiring professors, upgrading/repairing facilities, or funding more scholarships are typically left up to school administrators. An endowment's investment income can also significantly lower tuition costs for students. For example, if a university's endowment yields a total of $150 million and has a 5% spending limit, this would provide $7.5 million of available income. If the university had originally budgeted $5.5 million in endowment funds, this would mean that the excess $2 million could be used to pay other debts/expenses; ultimately, the savings could be passed on to institution's enrolled students.
However, because universities depend on investment returns for supplementary income, there could be trouble if the investments do not yield a suitable amount of returns. Therefore, most endowments are run by professionals to ensure the investments made are in line with the aforementioned policy allocation.
Endowments and Taxes
It's important to note that most private nonprofit colleges and universities are exempt from taxes due to their status as 501(c)(3) organizations. However, as stipulated in the Tax Cuts and Jobs Act of 2017, there is an excise tax of 1.4%
on endowment income at universities with at least 500 tuition-paying students and net assets of at least $500,000 per student. As the $500,000 is not adjusted for inflation, the cutoff number is essentially lowered over time.
Types of Endowments
There are four different types of endowments: unrestricted, term, quasi and restricted.
- Term endowments usually stipulate that only after a period of time or a certain event can the principal be expended.
- Unrestricted endowments are assets that can be spent, saved, invested, and distributed at the discretion of the institution receiving the gift.
- A quasi-endowment is a donation by an individual or institution, given with the intent of having that fund serve a specific purpose. The principal is typically retained while the earnings are expended or distributed per specifications of the donor. These endowments are usually started by the institutions that benefit from them via internal transfers or by using unrestricted endowments already given to the institution.
- Restricted endowments have their principal held in perpetuity, while the earnings from the invested assets are expended per the donor’s specification.
Except in a few circumstances, the terms of these endowments cannot be violated. Drawing down the corpus of the endowment to pay debts or operating expenses is known as "invading" or "endowment invasion." However, there are some instances where it may be legally allowed. If an institution is near bankruptcy or has declared bankruptcy–but still has assets in endowments–a court can issue a doctrine of cy-près that allows the institution to use those assets toward better financial health (permitting they are still honoring the wishes of the donor as closely as possible).
Criticisms of Endowments
Harvard University and other elite higher educational institutions have, at times, come under criticism for the size of their endowments. Critics have questioned the utility of large, multi-billion-dollar endowments, likening it to hoarding, especially as tuition costs began rising at the end of the 20th century. Large endowments had been thought of as rainy-day funds for educational institutions, but during the 2008 recession, many endowments cut their payouts. Researchers have looked closely at the incentives behind this behavior and found that there has been a trend toward an overemphasis on the health of an endowment rather than the institution as a whole.
It’s not unusual for student activists to look with a critical eye at where their colleges and universities invest their endowments. In 1977, Hampshire College divested from South African investments in protest of apartheid, a move that a large number of educational institutions in the United States followed. Advocating for divestment from industries and countries that students find morally compromising is still common among student activists; more recently, the act of divestment has evolved and become a more efficient and effective practice.
Do All Universities Have Endowments?
While many private colleges and universities have substantial endowments, most public universities have very small endowments or none at all. Instead, these receive funding from state governments, which is not available to private institutions.
Which University Has the Largest Endowment?
Harvard University has the largest endowment of any university. As of Q1 2022. it was estimated at around $52 billion.
What Do University Endowments Fund?
Depending on the university's charter and investment policy statement, the endowment can fund several different aspects of operations. Endowments commonly support teaching, research, student scholarships, maintenance and construction, and public service, among others.