Department of Education

Recommendations and Actions

ED07: Simplify and Strengthen Institutional Eligibility and Certification for Participation in Federal Student Aid


There are 8,500 colleges, universities, community colleges, and proprietary schools approved by the Department of Education (ED) to participate in the federal student-aid programs.(1) Participation in these programs allows students attending these institutions to receive funds from the federal government's two largest student aid programs (Guaranteed Student Loans and Pell Grants), as well as aid from several smaller loan, grant, and work-study programs. Each year, approximately 200 new applications are submitted, and another 150 applications are submitted by proprietary vocational institutions whose ownership has changed.

The eligibility and certification process is scheduled to undergo extensive changes under the 1992 program integrity amendments to the Higher Education Act, which take effect July 1, 1994. The current process has been criticized persistently by the ED Office of the Inspector General (OIG) and the U.S. General Accounting Office (GAO) as not providing sufficient assurance that the approximately $20 billion in federal student aid generated annually will be used as intended. Although federal losses on defaulted student loans declined in 1992 (from $3.6 billion in 1991), defaults still cost the taxpayers $2.5 billion.(2)

Institutional eligibility to participate in the financial aid programs has been based on accreditation, state licensure, and federal certification. To become eligible, an institution must be certified by an approved accrediting body. Since the institutions being accredited are members of these accrediting bodies, there is not always a strong incentive for close scrutiny of institutions. Institutions must also be licensed by the state. While some states have played a strong role in licensing, most states have not chosen to monitor vigorously or review schools licensed within the state. Obtaining a license often involves little more than submitting an application and paying a fee.

As a result, the department has been the last link in the chain of ensuring schools are both administratively and financially able to provide the education promised. Since the current review process relies on labor-intensive analysis of mostly subjective criteria (e.g., facilities and equipment, faculty training, support services, and administrative abilities), the department has not been able to adequately perform this function given staffing limitations and the sheer number of institutions involved in the program. In addition, studies have shown a weak relationship between the school inputs mentioned above and a school's effectiveness in providing an education to students.(3) (Changes in the process scheduled to take effect July 1, 1994, are along the lines of the suggestions presented in this report.)

As a result of the high student loan default rates and media coverage of financial abuse by some institutions, proprietary schools have been the focus of much of the criticism aimed at student financial aid programs. The amount of federal student financial aid being used to attend proprietary institutions providing vocational training has dramatically increased over time. Between fiscal years 1979 and 1988, the number of students receiving loans at proprietary institutions rose from seven percent of borrowers to over 34 percent of borrowers. During the same period, the dollar amount of loans associated with proprietary school students rose from 6.2 percent to just under 30 percent of total dollar value of Guaranteed Student Loans.(4)

Under the current procedures, the primary factor in determining whether an institution can continue to participate in federal student loan programs is what is called the cohort default rate. This is the percentage of borrowers who begin repayment during a given fiscal year and who default before the end of the next fiscal year. Congress and the department have done much in recent years to restrict participation of schools with excessive default rates. In 1994, a school can be eliminated from participating in the loan program if its cohort default rate is 25 percent or higher, but the school is not automatically eliminated from participating in other federal student aid programs (such as Pell Grants). Cohort default rates for fiscal year 1991 by institution type were as follows:(5)

      Type                         Rate     
 Proprietary		35.9%
 Public 2-year		4.7%
 Private 2-year		15.5%
 Public 4-year 		6.5%
 Private 4-year		5.7%

While problems still remain, the statutory changes are expected to lead to a decline in both default rates and in the volume of federal aid to high-default schools.

Since students attending proprietary schools borrow more than one- fourth of guaranteed student loan funds, a default rate of 35 percent is very costly to taxpayers. Students attending proprietary schools account for about 70 percent of loan default dollars.(6) In 1991, 70 percent of default costs amounted to more than $2.5 billion.

Problems exist with the use of the cohort default. The cohort default rate counts all borrowers that default, even after the borrower resumes making payments. The current method of determining defaults does not take into account the percentage of students at a school that receive loans or the proportion of dollars in default. Therefore, there is no distinction between schools that rely on federal student aid programs for the bulk of their revenue and those that have very few students receiving loans.

There are two main reasons for high default rates. One reason is that the education being provided is not effective and therefore does not adequately prepare the student to obtain a job in his or her field of study or a job with a sufficiently high level of earnings. The second factor is that there is little demand for students in the particular field for which the student is being trained. In either case, by allowing the student to receive financial aid at an institution, the federal government in essence lends a degree of legitimacy to the institution involved and creates an expectation of employment (following graduation) by the student. Too many times, the student ends up with sizable debts, little or no education of value, and no job. As a result, students are unable to pay back their loan and the taxpayer is left to pay the bill. This situation was characterized by the GAO as follows:

Many people believe that students who typically default on their loans got a good education for their money, became doctors or lawyers, and simply chose not to repay. While this happens sometimes, the more common situation is far different. Many defaulters are poor, attended a proprietary school, dropped out of their course of instruction, and have little or no means to repay. Some were pressured by unscrupulous recruiters to enroll in proprietary schools that provided a poor-quality education and dismal employment prospects. As a result, many such students failed to get value for their money and are reluctant or unable to repay their loans.

Students who fail to repay their loans, however, may suffer greatly for that default. They may (1) be denied other federal student aid, (2) receive a negative credit rating, (3) have their income tax refund seized, and (4) have their wages garnished.(7)

There are many examples of problems within the financial aid system. Three proprietary schools in Texas enrolled 2,600 students in security guard training that was about 300 hours in duration. The schools received $7.4 million in student-aid payments, even though the students could have been trained in a 30-hour course for about $260,000.(8) Another example is the Inspector General's finding that $725 million in student aid trained 96,000 cosmetologists in 1990, even though the current supply of trained cosmetologists greatly exceeded the number of available jobs.(9)

The process by which institutions are approved to participate in federal student aid programs was dramatically altered in the 1992 reauthorization of the Higher Education Act (HEA) of 1965. Institutional approval was put on a four-year cycle, for example, and audits were required annually rather than biennially. The 1992 reauthorization of HEA also contained provisions for state review programs of postsecondary institutions. The state review program is an effort to establish a shared state and federal responsibility for oversight of postsecondary institutions that participate in student financial aid programs by providing federal funding to support their review programs. The 1994 budget request for the department contained a proposal for states to share in default costs through a default penalty fee, beginning in fiscal year 1995.(10) While these changes are expected to significantly improve the certification and eligibility process, the use of performance measures would ensure students have a reasonable chance of graduation and employment before the government provides federal resources to an institution.

The Job Training Partnership Act (JTPA) program shares some of the same goals as training provided by proprietary schools. While the department is working with the Department of Labor on school-to-work transition (which involves JTPA), there currently is not a link to occupational training funded through student aid. JTPA allows for incentives to providers to encourage effective training programs and successful job placement. Up to 6 percent of a state's JTPA funds are set aside to reward agencies that perform well.(11) Introduction of performance measures into the student-aid program would encourage the same type of behavior by proprietary schools, et al.

The certification and eligibility function within the department involves ongoing compliance activities to ensure that certified institutions participating in student-aid programs do not mismanage federal funds. To ensure proper program management, there are numerous rules, regulations, and reporting requirements that have to be followed by all participating institutions, regardless of the risk involved. As a result, a school like the University of Virginia is subject to the same oversight and reporting requirements as a cosmetology school.

The department currently has a pilot quality assurance program with over 100 schools that focuses on prevention of errors rather than after-the-fact inspections. While the current method of program reviews and audits relies on penalties to deter mismanagement of the program, the quality assurance program provides institutions with management flexibilities and incentives based on performance and accountability.(12) This program has proven to be very successful thus far and has resulted in improvements in student-aid management by even well respected schools.


1. Legislation should be enacted to allow the department to implement changes in the measures of school quality. The following changes should be considered and used if appropriate:

--- Development of additional default indicators, including a default rate based on proportion of dollars in default and the percentage of students receiving loans.

--- Creation of profiles of high-risk institutions that are potentially insolvent or likely to misuse student aid funds, which would then be used to concentrate oversight resources on institutions that pose the greatest risk.

--- Establishment of outcome measures to determine performance of participating schools, regardless of course length. These measures would include program completion rates, employment and earnings following program completion, and occupational skills testing to determine if students had acquired the knowledge required for the occupation for which the training was undertaken. Unsatisfactory performance would be grounds for removing an institution's eligibility to participate in the program.

--- Withholding of a certain percentage of funds from the school until a student has successfully completed the program of instruction and been employed for 90 days. A variation on this theme would be to provide a bonus to the school for successful training, placement, and retention of students.

2. The department should move aggressively to implement those provisions of the Higher Education Act that become effective July 1, 1994, which greatly strengthen the program integrity requirements.

The 1992 amendments strengthen all three parts of the program integrity "triad": accreditors, states, and the Department of Education. Effective implementation of the new state role--the State Postsecondary Review Program--is especially important, because it provides a new tool to examine and remove problematic postsecondary institutions from the program. Congress should provide all the resources the administration requests for this purpose. The Department should ensure through its grant mechanism that states concentrate resources on schools where the problems are greatest and where the most federal funds are at risk.

3. Section 435(m)(1)(B) of the Higher Education Act of 1965 should be amended to avoid the effect of the interpretation of the existing statute made in recent court decisions. The amendment should remove allegations of improper servicing and collection of loans as a basis for contesting the accuracy of cohort default rates.

The United States Court of Appeals for the District of Columbia Circuit recently ruled that, based on the current wording of section 435, the Department of Education must allow institutions to appeal cohort default rates based on allegations of improper loan servicing and collection. The effect of this ruling is to jeopardize the efforts of Congress and the department to reduce default rates.

4. Legislation should be enacted to provide that once a school has been determined to be ineligible for participation in the student loan program, it would also become ineligible for all federal student aid programs, unless it can be demonstrated that the default rates are high because the school serves a historically disadvantaged population and the school shows a continuing good-faith effort to reduce the default rate.

Currently, a school remains eligible for Pell Grants and other student aid programs even though it cannot participate in the Guaranteed Student Loan program due to unsatisfactory default rates.

5. The department should review the accuracy of, then expand, the current institutional Quality Assurance Program to provide regulatory relief to more institutions with reliable performance.

Performance data will be published so that students and parents can make informed choices among institutions of postsecondary education.


This recommendation would further strengthen the certification and eligibility function and make performance a key indicator of whether an institution is allowed to participate in the student financial aid program.

Fiscal Impact

The estimated change in budget authority is $175 million through Fiscal Year 1999.


1. Toch, Thomas, "Defaulting the future," U.S. News and World Report, vol. 114, no. 24 (June 21, 1993), p. 57.

2. U.S. General Accounting Office, High-Risk Series, Guaranteed Student Loans, GAO/HR-93-2 (Washington, D.C.: U.S. General Accounting Office [GAO], December 1992), p. 6.

3. U.S. Department of Education (ED), Beyond Defaults: Indicators for Assessing Proprietary School Quality (Washington, D.C., August 1991), p. ii.

4. U.S. Department of Education, Research Findings From the 1987 National Postsecondary Student Aid Study (Washington, D.C.), p. A-2.

5. U.S. Department of Education, "U.S. Department of Education News," Washington, D.C., July 19, 1993.

6. U.S. General Accounting Office, Student Financial Aid: Education Can Do More to Screen Schools Before Students Receive Aid, HRD-91-145 (Washington, D.C.: GAO), p. 2.

7. GAO, High-Risk Series, Guaranteed Student Loans, pp. 21-22.

8. Toch, p. 60.

9. U.S. Department of Education, Office of Inspector General, Semiannual Report to Congress (Washington, D.C., April 30, 1993), p. vii.

10. U.S. Department of Education, The Fiscal Year 1994 Budget: Summary and Background Information (Washington, D.C., 1993), pp. 42- 50.

11. ED, Beyond Defaults: Indicators for Assessing Proprietary School Quality, pp. 36-37.

12. See U.S. Department of Education, Proposal for the Office of Postsecondary Education To Be a Reinventing Government Lab (Washington, D.C., May 7, 1993).

Budget Authority (BA) and Outlays (Dollars in Millions)

 Fiscal Year
             1994    1995    1996    1997    1998    1999    Total
 BA		0.0   -35.0   -35.0   -35.0   -35.0   -35.0   -175.0
 Outlays	0.0    -7.0    -34.0   -35.0   -35.0   -35.0   -146.0
 in FTEs	0         0       0       0       0       0       0

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