Financial aid cost transparency in higher education: Best practices

LIBOR is leaving—is your financial institution ready to make the most of it?

In July 2017, the UK’s Financial Conduct Authority announced the phasing out of the London Interbank Offered Rate, commonly known as LIBOR, by the end of 2021¹. With less than two years to go, US federal regulators are urging financial institutions to start assessing their LIBOR exposure and planning their transition. Here we offer some general impacts of the phasing out, some specific actions your institution can take to prepare, and, finally, background on how we got here (see Background at right).

How will the phase-out impact financial institutions?

The Federal Reserve estimates roughly $200 trillion in LIBOR-indexed notional value transactions in the cash and derivatives market². LIBOR is used to help price a variety of financial services products,  including $3.4 trillion in business loans and $1.3 trillion in consumer loans, as well as derivatives, swaps, and other credit instruments. Even excluding loans and financial instruments set to mature before 2021—estimated by the FDIC at 82% of the above $200 trillion—LIBOR exposure is still significant³.

A financial institution’s ability to lend money is largely dependent on the relative stability of its capital position, or lack thereof. For institutions with a significant amount of LIBOR-indexed assets and liabilities, that means less certainty in expected future cash flows and a less stable capital position, which could prompt institutions to deny loans they might otherwise have approved. A change in expected cash flows could also have several indirect consequences. Criticized assets, assessed for impairment based on their expected future cash flows, could require a specific reserve due to lower present value of expected future cash flows.

The importance of fallback language in loan agreements

Fallback language in loan agreements plays a pivotal role in financial institutions’ ability to manage their LIBOR-related financial results. Most loan agreements include language that provides guidance for determining an alternate reference rate to “fall back” on in the event the loan’s original reference rate is discontinued. However, if this language is non-existent, contains fallbacks that are no longer adequate, or lacks certain key provisions, it can create unexpected issues when it comes time for financial institutions to reprice their LIBOR loans. Here are some examples:

• Non-existent or inadequate fallbacks
  According to the Alternative Reference Rates Committee, a group of private-market participants convened by the Federal Reserve to help ensure a successful LIBOR transition, "Most contracts referencing LIBOR do not appear to have envisioned a permanent or indefinite cessation of LIBOR and have fallbacks that would not be economically appropriate"⁴.
  
  For instance, industry regulators have warned that without updated fallback language, the discontinuation of LIBOR could prompt some variable-rate loans to become fixed-rate², causing unanticipated changes in interest rate risk for financial institutions. In a declining rate environment, this may prove beneficial as loans at variable rates become fixed. But in a rising rate environment, the resulting shrink in net interest margins would have a direct and adverse impact on the bottom line.

• No spread adjustment
  Once LIBOR is discontinued, LIBOR-indexed loans will need to be repriced at a new reference rate, which could be well above or below LIBOR. If loan agreements don’t provide for an adjustment of the spread between LIBOR and the new rate, that could prompt unexpected changes in the financial position of both borrowers and lenders³. Take, for instance, a loan made at the Secured Overnight Financing Rate (SOFR), generally considered the likely replacement for USD LIBOR. Since SOFR tends to be lower than three-month LIBOR, a loan agreement using it that does not allow for a spread adjustment would generate lower loan payments for the borrower, which means less interest income for the lender.
  
  Not allowing for a spread adjustment on reference rates lower than LIBOR could also cause a change in expected prepayments—say, for instance, if borrowers with fixed-rate loans decide to refinance at adjustable rates—which would impact post-CECL allowance calculations like the weighted-average remaining maturity (WARM) method, which uses estimated prepayments as an input.

What can your financial institution do to prepare?

The Federal Reserve and the SEC have urged financial institutions to immediately evaluate their LIBOR exposure and expedite their transition. Though the FDIC has expressed no intent to examine financial institutions for the status of LIBOR planning or critique loans based on use of LIBOR³, Federal Reserve supervisory teams have been including LIBOR transitions in their regular monitoring of large financial institutions⁵. The SEC has also encouraged companies to provide investors with robust disclosures regarding their LIBOR transition, which may include a notional value of LIBOR exposure².

Financial institutions should start by analyzing their LIBOR exposure beyond 2021. If you don’t expect significant exposure, further analysis may be unnecessary. However, if you do expect significant future LIBOR exposure, your institution should conduct stress testing using LIBOR as an isolated variable by running hypothetical transition scenarios and assessing the potential financial impact.

Closely examine and assess fallback language in loan agreements. For existing loan agreements, you may need to make amendments, which could require consent from counterparties². For new loan agreements maturing beyond 2021, lenders should consider selecting an alternate reference rate. New contract language for financial instruments and residential mortgages is currently being drafted by the International Securities Dealers Association and the Federal Housing Finance Authority, respectively³—both of which may prove helpful in updating loan agreements.

Lenders should also consider their underwriting policies. Loan underwriters will need to adjust the spread on new loans to accurately reflect the price of risk, because volatility and market tendencies of alternate loan reference rates may not mirror LIBOR’s. What’s more, SOFR lacks abundant historical data for use in analyzing volatility and market tendencies, making accurate loan pricing more difficult.

Conclusion: Start assessing your LIBOR risk soon

The cessation of LIBOR brings challenges and opportunities that will require in-depth analysis and making difficult decisions. Financial institutions and consumers should heed the advice of regulators and start assessing their LIBOR risk now. Those that do will not only be better prepared―but also better positioned―to capitalize on the opportunities it presents.

Need help assessing your LIBOR risk and preparing to transition? Contact BerryDunn’s financial services specialists.

¹ https://www.washingtonpost.com/business/2017/07/27/acdd411c-72bc-11e7-8c17-533c52b2f014_story.html?utm_term=.856137e72385
² Thomson Reuters Checkpoint Newsstand April 10, 2019
³ https://www.fdic.gov/regulations/examinations/supervisory/insights/siwin18/si-winter-2018.pdf
^{4 https://bankingjournal.aba.com/2019/04/libor-transition-panel-recommends-fallback-language-for-key-instruments/
5} https://www.reuters.com/article/us-usa-fed-libor/fed-urges-u-s-financial-industry-to-accelerate-libor-transition-idUSKCN1RM25T

“The world is one big data problem,” says MIT scientist and visionary Andrew McAfee.

That’s a daunting (though hardly surprising) quote for many in data-rich sectors, including higher education. Yet blaming data is like blaming air for a malfunctioning wind turbine. Data is a valuable asset that can make your institution move.

To many of us, however, data remains a four-letter word. The real culprit behind the perceived data problem is our handling and perception of data and the role it can play in our success—that is, the relegating of data to a select, responsible few, who are usually separated into hardened silos. For example, a common assumption in higher education is that the IT team can handle it. Not so. Data needs to be viewed as an institutional asset, consumed by many and used by the institution for the strategic purposes of student success, scholarship, and more.

The first step in addressing your “big” data problem? Data governance.

What is data governance?

There are various definitions, but the one we use with our clients is “the ongoing and evolutionary process driven by leaders to establish principles, policies, business rules, and metrics for data sharing.”

Please note that the phrase “IT” does not appear anywhere in this definition.

Why is data governance necessary? For many reasons, including:

1. Data governance enables analytics. Without data governance, it’s difficult to gain value from analytics initiatives which will produce inconsistent results. A critical first step in any data analytics initiative is to make sure that definitions are widely accepted and standards have been established. This step allows decision makers to have confidence in the data being analyzed to describe, predict, and improve operations.
2. Data governance strengthens privacy, security, and compliance. Compliance requirements for both public and private institutions constantly evolve. The more data-reliant your world becomes, the more protected your data needs to be. If an organization does not implement security practices as part of its data governance framework, it becomes easier to fall out of compliance. 
3. Data governance supports agility. How many times have reports for basic information (part-time faculty or student FTEs per semester, for example) been requested, reviewed, and returned for further clarification or correction? And that’s just within your department! Now add multiple requests from the perspective of different departments, and you’re surely going through multiple iterations to create that report. That takes time and effort. By strengthening your data governance framework, you can streamline reporting processes by increasing the level of trust you have in the information you are seeking. Understanding the value of data governance is the easy part. The real trick is implementing a sustainable data governance framework that recognizes that data is an institutional asset and not just a four-letter word.

In auditing, the concept of professional skepticism is ubiquitous. Just as a Jedi in Star Wars is constantly trying to hone his understanding of the “force”, an auditor is constantly crafting his or her ability to apply professional skepticism. It is professional skepticism that provides the foundation for decision-making when conducting an attestation engagement.

A brief definition

The professional standards define professional skepticism as “an attitude that includes a questioning mind, being alert to conditions that may indicate possible misstatement due to fraud or error, and a critical assessment of audit evidence.” Given this definition, one quickly realizes that professional skepticism can’t be easily measured. Nor is it something that is cultivated overnight. It is a skill developed over time and a skill that auditors should constantly build and refine.

Recently, the extent to which professional skepticism is being employed has gained a lot of criticism. Specifically, regulatory bodies argue that auditors are not skeptical enough in carrying out their duties. However, as noted in the white paper titled Scepticism: The Practitioners’ Take, published by the Institute of Chartered Accountants in England and Wales, simply asking for more skepticism is not a practical solution to this issue, nor is it necessarily always desirable. There is an inevitable tug of war between professional skepticism and audit efficiency. The more skeptical the auditor, typically, the more time it takes to complete the audit.

Why does it matter? Audit quality.

First and foremost, how your auditor applies professional skepticism to your audit directly impacts the quality of their service. Applying an appropriate level of professional skepticism enhances the likelihood the auditor will understand your industry, lines of business, business processes, and any nuances that make your company different from others, as it naturally causes the auditor to ask questions that may otherwise go unasked.

These questions not only help the auditor appropriately apply professional standards, but also help the auditor gain a deeper understanding of your business. This will enable the auditor to provide insights and value-added services an auditor who doesn’t apply the right degree of skepticism may never identify.

Therefore, as the white paper notes, audit committees, management, and investors should be asking “How hard do our auditors get pushed on fees, and what effect does that have on the quality of the audit?” If your auditor is overly concerned with completing the audit within a fixed time budget, professional skepticism and, ultimately, the quality of the audit, may suffer.

Applying skepticism internally

By its definition, professional skepticism is a concept that specifically applies to auditors, and is not on point when it comes to other audit stakeholders. This is because the definition implies that the individual applying professional skepticism is independent from the information he or she is analyzing. Other audit stakeholders, such as members of management or the board of directors, are naturally advocates for the organizations they manage and direct and therefore can’t be considered independent, whereas an auditor is required to remain independent.

However, rather than audit stakeholders applying professional skepticism as such, these other stakeholders should apply an impartial and diligent mindset to their work and the information they review. This allows the audit stakeholder to remain an advocate for his or her organization, while applying critical skills similar to those applied in the exercise of professional skepticism. This nuanced distinction is necessary to maintain the limited scope to which the definition of professional skepticism applies: the auditor.

Specific to the financial statement reporting function, these stakeholders should be assessing the financial statements and ask questions that can help prevent or detect flaws in the financial reporting process. For example, when considering significant estimates, management should ask: are we considering all relevant information? Are our estimates unbiased? Are there alternative accounting treatments we haven’t considered? Can we justify our selected accounting treatment? Essentially, management should start by asking itself: what questions would we expect our auditor to ask us?

It is also important to be critical of your own work, and never become complacent. This may be the most difficult type of skepticism to apply, as most of us do not like to have our work criticized. However, critically reviewing one’s own work, essentially as an informal first level of review, will allow you to take a step back and consider it from a different vantage point, which may in turn help detect errors otherwise left unnoticed. Essentially, you should both consider evidence that supports the initial conclusion and evidence that may be contradictory to that conclusion.

The discussion in auditing circles about professional skepticism and how to appropriately apply it continues. It is a challenging notion that’s difficult to adequately articulate. Although it receives a lot of attention in the audit profession, it is a concept that, slightly altered, can be of value to other audit stakeholders. Doing so will help you create a stronger relationship with your auditor and, ultimately, improve the quality of the financial reporting process—and resulting outcome.

Good fundraising and good accounting do not always seamlessly align. While they all feed the same mission, fundraisers work to meet revenue goals while accountants focus on recording transactions in compliance with accounting standards. We often see development department totals reported to boards that are not in line with annual financial statements, causing confusion and concern. To bridge this information gap, here are five accounting concepts every not-for-profit fundraiser should know:

Understanding the differences in how the development department and finance department track these gifts will allow for better reporting to the board throughout the year—and fewer surprises when you present financial statements at the end of the year. Stay tuned for parts two and three of our contribution series. Have questions? Please contact Emily Parker of Sarah Belliveau.

 

With the wind down of the Federal Perkins Loan Program and announcement that the Federal Capital Contribution (FCC) (the federal funds contributed to the loan program over time) will begin to be repaid, higher education institutions must now decide how to handle these outstanding loans. The Department of Education’s (DOE)’s plans to recover their FCC (or “distribution of assets”) in the coming 2018-19 year can be found here, with the Fiscal Operations Report and Application to Participate (FISAP) playing a crucial role in the close-out excess cash calculation. Colleges and universities are now faced with two options:

1. Continue servicing their loans, refunding future FCC excess cash as loans are repaid
2. Assigning loans back to the DOE (subject to certain requirements)

Colleges and universities have been evaluating these options since the decision was made to not renew the loan program. There are many considerations when deciding which path to choose:

• Continuing to service loans has the disadvantage of ongoing administrative costs. While there is potential an administrative cost allowance could be paid to institutions that continue to service loans in the future, legislation would need to be enacted for this to occur.
• In assigning loans back to the DOE, the institution will lose any Institutional Capital Contribution (ICC).  It is important to note the decision of whether or not to assign loans has not reached “now or never” status. You can assign loans your institution continues to service to the DOE in the future.

NACUBO recently published advisory guidance on the Perkins Loan Program close-out. This guidance provides a broader look at the close-out process, and explores the ramifications of how the two options above can impact alumni relations. The guidance also provides a useful cost/benefit calculation template and sample accounting entries for the close-out process.

Need help or have additional questions? Our experience with Perkins Loan liquidation/closeout can help as you plot a course through the Perkins wind down.

While GASB has been talking about split-interest agreements for a long time (the proposal first released in June of 2015, with GASB Statement No. 81, Irrevocable Split-Interest Agreements released in March of 2016), time is quickly running out for a well-planned implementation. With the effective date looming on the horizon, (statement effective for periods beginning after December 15, 2016 unless early adopted), now is the time to start gathering needed information to record existing agreements under GASB 81.

We have learned from GASB’s not-for-profit FASB cousins that irrevocable agreements are rarely where they should be: in the hands of financial professionals. Compiling these agreements will require participation from many stakeholders. Your finance team will likely have to provide some education to avoid a great deal of confusion when asking the “do we have any irrevocable split-interest agreements?” question.

So, where do you start?

1. Have you been tracking this information right along, nicely documented in a folder by your desk? Great! Do a quick check of others in your organization to be sure your file is complete and skip steps 2-5.
    
2. Dig into your general ledger. Have you been receiving regular distributions from a trust? Some of these trust agreements pay out on a quarterly or annual basis and your accounting staff should be able to identify these payors. It may require a quick call to the administrator for the trust agreement to be sure the agreement qualifies under GASB 81.
    
3. Look to your fundraising professionals. Development departments like to keep track of all types of donations. It helps to quantify their good fundraising work. Be clear about what you need from them. Remember, irrevocable split-interest agreements, often trusts or other legally enforceable agreements, are agreements wherein a donor irrevocably transfers resources to a third party to hold for the benefit of the government and at least one other beneficiary —the “split” in “split-interest agreement”!
    
4. Keep talking to your fundraising professionals. Many of the split-interest agreements we find are very old, often created well before your current development software was put into place. Do you have old files that track this kind of information? It may require some digging in the paper files. Remember those?
    
5. All hands on deck. While the finance and fundraising teams are scouring their records, look to others in the organization that might have record of these types of agreements. You know who holds the keys to historical knowledge at your organization, so be sure to include them in your search.

Once the finance department has collected all of the agreements, take one more look to be sure they meet the requirements of GASB 81.“Are they really irrevocable? Or do we just hope they are?” Then you can get down to the business of accounting for them. If you have questions about the accounting for these agreements, please contact me. I would love to chat. And that is irrevocable.

Recently the Governmental Accounting Standards Board (GASB) finished its Governmental Accounting Research System (GARS), a full codification of governmental accounting standards. The completion of the project allows preparers easy access to accounting guidance from GASB. The overall project, starting from the codification of older pre-1989 Financial Accounting Standards Board (FASB) pronouncements in 2010, was focused on pulling together all authoritative guidance, similar to what FASB had done in 2009.

Here’s what we found interesting.

Poking around the GARS (Basic View is free) I was struck by a paragraph surrounded by a thick-lined box that read “The provisions of this Codification need not be applied to immaterial items.” If you have ever read a GASB or FASB pronouncement, you have seen a similar box. But probably, like me, you didn’t fully consider its potential benefits. Understanding this, GASB published an article on its website aimed at (in my opinion) prompting financial statement preparers to consider reducing disclosure for the many clearly insignificant items often included within governmental financial statements.

After issuing more than 80 pronouncements since its inception in 1984, including 19 in the last five years, GASB accounting requirements continue to grow. Many expect the pace to continue, with issues like leases accounting, potential revision of the financial reporting model, and comprehensive review of revenue and expense recognition accounting currently in process. With these additional accounting standards come more disclosure requirements.

With many still reeling from implementation of the disclosure heavy pension guidance, GASB is already under pressure from stakeholders with respect to information overload. Users of financial statements can be easily overwhelmed by the amount of detailed disclosure, often finding it difficult to identify and focus on the most significant issues for the entity. Balancing the perceived need to meet disclosure requirements with the need to highlight significant information can be a difficult task for preparers. Often preparers lean towards providing too much information in an effort to “make sure everything is in there that should be”. So, what can you do to ease the pain?

While the concept of materiality is not addressed specifically in the GASB standards, by working with your auditors there are a number of ways to reduce the overall length and complexity of the statements. We recommend reviewing your financial statements periodically with your auditor, focusing on the following types of questions:

• On the face of the financial statements, are we breaking out items that are clearly inconsequential in nature and the amount?
• Are there opportunities to combine items where appropriate?
• In the notes to the financial statements are we providing excessive details about insignificant items?
• Do we have an excess amount of historical disclosure from years past?
• In the management’s discussion & analysis, is the analysis completed to an appropriate level? Is there discussion on items that are insignificant?

The spirit behind the box is that GASB was specifically thinking about material amounts and disclosures. It was not their intention to clutter the financials with what their article referred to as “nickel and dime” items. With more disclosure requirements on the way, now might be the time to think INSIDE the box.  

For more guidance on this and other GASB information, please contact Rob Smalley.

As we begin the second year of Uniform Guidance, here’s what we’ve learned from year one, and some strategies you can use to approach various challenges, all told from a runner's point of view.

A Runner’s Perspective

As I began writing this article, the parallels between strategies that I use when competing in road races — and the strategies that we have used in navigating the Uniform Guidance — started to emerge. I’ve been running competitively for six years, and one of the biggest lessons I’ve learned is that implementing real-time adjustments to various challenges that pop up during a race makes all the difference between crossing — or falling short of — the finish line. This lesson also applies to implementing Uniform Guidance. On your mark, get set, go!

Challenge #1: Unclear Documentation

Federal awarding agencies have been unclear in the documentation within original awards, or funding increments, making it hard to know which standards to follow: the previous cost circulars, or the Uniform Guidance?

Racing Strategy: Navigate Decision Points

Take the time to ask for directions. In a long race, if you’re apprehensive about what’s ahead, stop and ask a volunteer at the water station, or anywhere else along the route.

If there is a question about the route you need to take in order to remain compliant with the Uniform Guidance, it’s your responsibility to reach out to the respective agency single audit coordinators or program officials. Unlike in a race, where you have to ask questions on the fly, it’s best to document your Uniform Guidance questions and answers via email, and make sure to retain your documentation.  Taking the time to make sure you’re headed in the right direction will save you energy, and lost time, in the long run.    

Challenge #2: Subrecipient Monitoring

The responsibilities of pass-through entities (PTEs) have significantly increased under the Uniform Guidance with respect to subaward requirements. Under OMB Circular A-133, the guidance was not very explicit on what monitoring procedures needed to be completed with regard to subrecipients. However, it was clear that monitoring to some extent was a requirement.

Racing Strategy: Keep a Healthy Pace

Take the role of “pacer” in your relationships with subrecipients. In a long-distance race, pacers ensure a fast time and avoid excessive tactical racing. By taking on this role, you can more efficiently fulfill your responsibilities under the Uniform Guidance.

Under the Uniform Guidance, a PTE must:

• Perform risk assessments on its subrecipients to determine where to devote the most time with its monitoring procedures.
• Provide ongoing monitoring, which includes site visits, provide technical assistance and training as necessary, and arrange for agreed-upon procedures to the extent needed.
• Verify subrecipients have been audited under Subpart F of the Uniform Guidance, if they meet the threshold.
• Report and follow up on any noncompliance at the subrecipient level.
• The time you spend determining the energy you need to expend, and the support you need to lend to your subrecipients will help your team perform at a healthy pace, and reach the finish line together.

Challenge #3: Procurement Standards

The procurement standards within the Uniform Guidance are similar to those under OMB Circular A-102, which applied to state and local governments. They are likely to have a bigger impact on those entities that were subject to OMB Circular A-110, which applied to higher education institutions, hospitals, and other not-for-profit organizations.

Racing Strategy: Choose the Right Equipment

Do your research before procuring goods and services. In the past, serious runners had limited options when it came to buying new shoes and food to boost energy. With the rise of e-commerce, we can now purchase everything faster and cheaper online than we can at our local running store. But is this really an improvement?

Under A-110, we were guided to make prudent decisions, but the requirements were less stringent. Now, under Uniform Guidance, we must follow prescribed guidelines.

Summarized below are some of the differences between A-110 and the Uniform Guidance:

While the process is more stringent under the Uniform Guidance, you still have the opportunity to choose the vendor or product best suited to the job. Just make sure you have the documentation to back up your decision.

A Final Thought
Obviously, this article is not an all-inclusive list of the changes reflected in the Uniform Guidance. Yet we hope that it does provide direction as you look for new grant awards and revisit internal policies and procedures.

And here’s one last tip: Do you know the most striking parallel that I see between running a race and implementing the Uniform Guidance? The value of knowing yourself.

It’s important to know what your challenges are, and to have the self-awareness to see when and where you will need help. And if you ever need someone to help you navigate, set the pace, or provide an objective perspective on purchasing equipment, let us know. We’re with you all the way to the finish line.