How To Make Big Money From Education As A "Covert For-Profit"

As politicians and regulators pay closer attention to for-profit colleges, some companies have stepped out of the spotlight by seeking to convert their schools into nonprofits. But the former owners still exert control over the schools and make healthy profits in the process, according to a report released today by the left-leaning Century Foundation.

And in some cases, the Century Foundation says such businesses may be substantially misleading the Internal Revenue Service.

Critics of the multibillion-dollar for-profit education industry have long been skeptical of structures that allow nonprofit schools to generate big, government-subsidized profits for businesses that effectively control them. With more for-profit colleges, including one of the nation's largest publicly-traded universities, considering converting to nonprofit status, the report paints a scathing picture of a process that is susceptible to abuse.

Raul Valdes-Pages, an education investor who founded a for-profit technical college, said he expects the pace of for-profit conversions to pick up rapidly in the coming years. "As the regulations increase and the stigma of being a for profit intensifies," Valdes-Pages said, "I expect to see a stampede of these."

The Century Foundation report takes aim at four colleges it says appear to have flouted rules meant to protect students and taxpayers: Herzing University, Remington College, Everglades University, and the Center for Excellence in Higher Education, four operations it calls "covert for-profits." All are relatively small, but together, the report says, they collect half a billion dollars in taxpayer-funded federal financial aid every year.

Becoming a "covert" for-profit college begins with acquiring or setting up a nonprofit, the report says, then selling the for-profit schools to the nonprofit — handing millions of dollars to the school's former owners. After the sales, the report alleges, "covert for-profits" remain deeply intertwined with their former owners, freed from strict government oversight, tax burdens, and stigma.

Those connections can take many forms: handing over payments and influential positions to their former CEOs, or circumventing nonprofit governance rules by handing over governance to people with deep financial stakes in the schools, like creditors, business partners, and relatives of former owners.

In one case the report looked at Herzing University, which became a nonprofit in January of 2015 by selling itself to the Herzing Educational Foundation, a charity created five years earlier by the university's founder, Henry Herzing, to provide scholarships. At the time, the foundation told the IRS that Henry Herzing would be not be involved in the charity's affairs, and that it would serve no purpose other than its modest scholarships, the report says.

The Herzing family, the report says, collected $86 million over 30 years from the sale of its schools to its founder's charity. They also have heavy influence over the board of the new nonprofit, according to the report: Henry Herzing sits on the board and serves as the school's chancellor emeritus, and his daughter is the foundation's president and CEO.

Renee Herzing, the President of Herzing University, said "becoming nonprofit is a serious commitment to the public good, which is why we decided to pursue that status for our 50-year-old, family-founded institution."

Herzing said the school's "record of community service, dedication of scholarships for military personnel and first responders, and solid compliance with all federal and state bodies speaks for itself.”c

"We've seen that when the stakeholders of a for-profit college can make money off of the school, they have a financial incentive to pay instructors as little as possible and to grow as quickly as possible," said Robert Shireman, the report's author, a former official with the Department of Education. "If the board of a nonprofit has those same financial incentives, it's going to mean a worse education for students."

"These are four very problematic transactions, from my perspective," said John Colombo, a law professor at the University of Illinois who specializes in tax law, who has reviewed the Foundation's report. The IRS, Colombo said, "should have denied the schools' nonprofit exemption."

Eric Juhlin, the CEO of the nonprofit Center for Excellence in Higher Education, which is named in the Century Foundation report, told BuzzFeed News the allegations against the college operator were "obviously biased and misleading." He said Shireman, the report's author, "has a long an established history of bias against free market forms of education."

"CEHE's acquisition of the colleges in 2012 had absolutely nothing to do with regulatory avoidance, tax avoidance, or other nefarious agenda," Juhlin said.

Kelli Lane, a spokeswoman for Everglades University, said the school's transition to nonprofit status has been "thorough, transparent, and lengthy, as it should be." The transition, she said, "began in 1998," when the for-profit college first acquired a small chain of nonprofit schools; the sale of the for-profit colleges to the nonprofit, however, took place in January of 2011, six months after Obama administration first proposed a set of regulations for for-profit colleges.

Remington College did not respond to a request for comment.

As for-profit colleges, the four schools in the report were subject to strict rules put in place by the Department of Education to curb abuses, most notably the "90/10 rule," which forbids for-profit schools from receiving more than 90% of their revenue from the federal government. They were also subject to the "gainful employment" rule, an Obama administration regulation that cuts off federal financial aid to underperforming programs at for-profit schools. And they were weighed down by growing stigma attached to for-profit universities, which have become known for high price tags, low graduation rates, and high levels of student loan default.

As nonprofits, the colleges would eventually be freed from 90/10 compliance after a waiting period imposed by the Education Department. Their degree programs would no longer be scrutinized by gainful employment. And they would be able to advertise themselves as nonprofits — which many of them did, almost immediately after submitting their IRS applications. Remington changed its slogan to "nonprofit, nontraditional." The Center for Excellence in Higher Education's schools say, "CollegeAmerica is a nonprofit college. We invest in you."

The Center for Excellence in Higher Education, a nonprofit, bought a group of colleges from a man named Carl Barney for some $600 million, $431 million of which, the report said, would eventually be paid to Barney. Barney allegedly was handed complete control of the nonprofit as part of the sale: made chairman of the board, he was also given the authority to add or remove the nonprofit's board members.

Months later, several of the schools purchased by CEHE were hit with major lawsuits: one is being sued by the Justice Department under the Federal False Claims Act, and another by the Colorado attorney general for "deceptive trade practices."

The Century Foundation report faults a "regulatory blind spot" between the IRS, tasked with overseeing nonprofits, and the Education Department, which regulates colleges. The two do not cooperate, Shireman said, leaving substantial gaps in communication.

The chronically underfunded IRS, the report alleges, failed to adequately vet several of the schools' applications, and in other cases did not follow up to ensure that nonprofits were following the promises they had made. The Education Department, for its part, is still grappling with how to handle the new spate of for-profit to nonprofit conversions: it still considers the cases of CEHE and Herzing University to be "under review."

The Department of Education told BuzzFeed News it "shares the concern that some for-profit school owners may adopt the trappings of nonprofit status in order to avoid certain federal regulations while continuing to make money from the schools."

"Because of this, the Department has yet to approve the conversion of some for-profit schools to nonprofit status and is actively reviewing those institutions. While these reviews are under way, those schools must continue to comply with the Department’s for-profit regulations."

The IRS did not respond to a request for comment.