Audits, Standards, Limitations, & Cohort Default Rates

This chapter discusses the requirement for annual compliance and financial statement audits. It also discusses the financial standards and limitations that pertain to schools’ FSA eligibility as well as the annual calculation of school cohort default rates. Many regulations regarding financial responsibility, administrative capability, certification procedures and ability to benefit were amended or added on October 31, 2023. These regulations will be effective July 1, 2024. Further details can be found in the Federal Register and DCL-GEN-24-07.

A school that participates in any FSA program, including a participating foreign school, generally must have an independent public accountant or a government auditor conduct an annual audit of its compliance with the laws and regulations for Title IV programs that it participates in (a compliance audit) and an audit of its financial statements. While a compliance audit covers the school’s administration of Title IV programs, a financial statement audit provides the Department with information necessary to evaluate a school’s status vis-a-vis the financial standards that are discussed later in this chapter. For information about compliance and accounting issues, a school can contact the School Participation Division (SPD) for its region. Contact information for each SPD is available in the Knowledge Center.

The audits must be conducted in accordance with the Generally Accepted Accounting Principles (GAAP) and the Generally Accepted Government Auditing Standards (GAGAS). They must be prepared by an independent public accountant or a government auditor, except that a government auditor must meet the government auditing standards qualification and independence standard, including standards related to organizational independence. The compliance audit and financial statement audit may be performed by different auditors, but they must be submitted as one package via the Department’s eZ-Audit website.

The source of guidance for the audits depends on the entity:

The Audit Guide and Foreign School Audit Guide are available on the webpage for audits of proprietary and foreign schools and third-party servicers. The Compliance Supplement is available at 2023 Compliance Supplement – 2 CFR Part 200 Appendix XI.

The Office of Inspector General (OIG) also conducts audits of postsecondary institutions. The OIG has the authority to audit any program or entity that relates to the Department’s programs and operations or that receives funds from the Department, including colleges and universities that receive Title IV funds. An OIG or other federal audit does not satisfy the requirement that a school have annual compliance and financial statement audits performed by an independent public accountant.

As noted, audit requirements also apply to third-party servicers. However, a school may never use a third-party servicer’s audit in place of its own required audit because the school is ultimately liable for its own violations as well as those incurred by its third-party servicers.

A school’s financial statement must cover its most recently completed fiscal year and be prepared on an accrual basis according to GAAP. It must be audited by an independent public accountant according to GAGAS and the instructions in the guide appropriate for the school, as noted.

The Department uses the information in a school’s audited financial statement to evaluate the school’s status vis-a-vis the financial standards discussed in this chapter. In addition to a school’s audited financial statement, the Department may require that the school submit additional information. For example, the Department may require a school to submit or provide access to the auditor’s work papers. Also, if the Department finds it necessary to evaluate a particular school’s financial condition, the Department can require a school to submit audited financial statements more frequently than once a year.

Compliance audits must be done by an independent public accountant or a government auditor according to GAGAS and the guidance contained in the Compliance Supplement or the appropriate audit guide. The auditor may also find it useful to consult the accounting and record keeping guidance in the FSA Handbook and the G5 Users Guide, which is available on the G6 website. (see Electronic Announcement GEN-23-58 Reminder of the G5 to G6 Website Transition)

A school (or third-party servicer) may use the same independent public accountant or a government auditor or auditing firm for its required nonfederal audit as the one that usually audits its fiscal transactions. To produce unbiased conclusions, the auditor must be independent of those authorizing the expenditure of Title IV funds.

The Department may require a school to provide a copy of its compliance audit report to guaranty agencies, lenders, state agencies, other federal agencies, or accrediting agencies.

As mentioned earlier, public and private nonprofit schools are required to have audits performed under the guidelines of the Single Audit Act and the Compliance Supplement for 2 CFR Part 200 Subpart F, which has distinct auditing and submission requirements. Institutions under the Single Audit Act have an audit submission deadline of the earlier of 30 calendar days after receipt of the audit report, or nine months after the end of the audit period. In addition, a copy of the audit as well as Data Collection Form SF-SAC must be submitted online to the Federal Audit Clearinghouse.

Because the Higher Education Act and its implementing regulations require annual submissions of schools’ compliance and financial statement audits, a submission prepared under the Single Audit Act provisions that does not include a compliance audit does not meet the HEA audit requirement. Read the announcement from August 5, 2016.

However, if the school’s auditor identifies its student financial assistance cluster, which includes the Title IV programs, as a low-risk major program (Type A) (as defined in 2 CFR 200.518) in a given year, that cluster does not need to be included in the compliance audit, and the school is not required to notify its school participation division of the low-risk assessment. See the announcements of March 29, 2018 and November 5, 2019 for more information.

As explained in the section on waivers and exemptions, a public or private, nonprofit school that expends less than $1,000,000 of federal funds during a fiscal year is exempt from submitting an annual compliance audit. The Office of Management and Budget (OMB) increased the Single Audit threshold from $750,000 to $1,000,000 with an effective date of October 1, 2024. For more information on this topic, please see the 4/22/2024 Federal Register. However, the institution is still required to submit financial statements to the Department within six months after the close of its fiscal year. The financial statement does not have to be audited by a CPA and may be created as compiled or reviewed statements. If the school has prepared a set of audited financial statements for its own use or for another entity, it must submit those statements to the Department.

The Compliance Supplement permits the submission of program specific audits if an entity expends funds in only one federal program and the program’s regulations do not require a financial statement audit. But because the FSA program regulations require a financial statement audit, a school may not submit a program-specific audit to satisfy the Department’s audit requirement.

A proprietary school may request a waiver of the requirement for an annual audit for up to three years. A proprietary school must have disbursed less than $200,000 in each of the two most recently completed award years to be eligible for the waiver, and the school must also meet the other criteria in 34 CFR 668.27. This waiver to the annual audit requirement is specific to proprietary schools and cannot be granted for the award year preceding a school’s required recertification.

If the Department grants the waiver, the school does not have to submit its compliance or financial statement audit until six months after

A school’s waiver request may include the fiscal year in which that request is made, plus the next two fiscal years.

The regulations do not waive the requirement that a proprietary school audit its administration of Title IV programs; they waive the requirement that these audits be submitted on an annual basis. Therefore, if a school is granted a waiver for three years, at the end of that time the school’s next compliance audit must cover its administration of Title IV programs for each fiscal year in the waiver period. The financial statement audit must cover the last year of the waiver period. The auditor for a proprietary school must audit, and attest to, the school’s annual 90/10 determination for each year in the waiver period, in accord with 34 CFR 668.27(b)(3)(ii).

A school remains liable for repaying any Title IV funds it improperly expends during the waiver period. A compliance audit, among other things, is a vehicle for discovering improper expenditures. Therefore, a school will be required to pay any liabilities when the school eventually submits a compliance audit for the fiscal years in which it made improper expenditures.

Public and private non-profit institutions must comply with the audit submission requirements governed by the Single Audit Act. If an institution that is subject to the single audit expends less than $1,000,000 in total federal funds during a fiscal year, it is exempt from compliance audit requirements for that year. However, as previously stated, the institution is still required to submit financial statements to the Department within six months from the close of its fiscal year. As a reminder, the Office of Management and Budget (OMB) increased the Single Audit threshold from $750,000 to $1,000,000 with an effective date of October 1, 2024. For more information on this topic, please see the 4/22/2024 Federal Register.

In some cases, a school’s relationship with another entity may cause the Department to require a school to submit additional financial statements for both the school and the entity, such as audited consolidated financial statements; audited full consolidated financial statements; audited combined financial statements; or, under certain circumstances, audited financial statements of one or more related parties. This occurs when the Department determines that the activities or financial health of another entity may impact the school’s total financial health. In order for the Department to make this determination, a school must include in its audited financial statements a detailed description of related entities based on the definition of a related entity in the Statement of Financial Accounting Standards No. 57. The description must include all related parties and a level of detail that would enable the Department to easily identify them. This information may include but is not limited to the name, location, and description of the related entity, including the nature and amount of any transaction between the entity and the school, financial or otherwise, regardless of when it occurred.

Both the compliance audit and the financial statements audit must be performed on a fiscal-year basis and submitted at the same time. In cases where the school’s fiscal year does not coincide with an award year, the school’s compliance audit will cover parts of two award years.

In 2024–2025 audits for schools using a calendar year as their fiscal year, the most recently completed one is the fiscal year that ends on December 31, 2024. For schools using the award year as their fiscal year, the most recently completed one will be the fiscal year that ends on June 30, 2025.

Example: school’s fiscal year ≠ FSA award year

A school’s or servicer’s compliance and financial statement audits performed under the OIG’s Audit Guide must be submitted to the Department by the date that is the earlier of:

Audits performed under the Compliance Supplement must be submitted within the earlier of 30 calendar days after receipt of the auditor’s report(s) or nine months after the end of the school’s fiscal year. For more information, please review Electronic Announcement GEN-24-57 which reminds institutions submitting audits under the provisions of the Single Audit Act on when they must submit their Single Audit Reports to the Department.

Generally, a school’s first audit performed under these requirements must cover the entire period of time since the school began to participate in the Title IV programs. Each subsequent audit must cover the period since the end of the period covered by the preceding audit that is accepted by the Department.

Section 668.23(d)(1) requires that, “For fiscal years beginning on or after July 1, 2024, financial statements submitted to the Department must match the fiscal year end of the entity’s annual return(s) filed with the IRS.” It is important for schools to know they have a choice to either change their fiscal year to match its year used for IRS tax returns or change its IRS tax year to match its Title IV fiscal year. Institutions seeking to change their fiscal year end date must report the change to the Department via eZ-Audit at least 90 days prior to their current fiscal year end date. For instructions on how to do this, see pp. 79-80 of the Step-by-Step Guide to Using eZ-Audit for For-Profit Schools. There are many factors a school must take into account when considering changing designation of their fiscal year, including budgeting and forecasting, contracts, and transition-year tax procedures. The Department recommends institutions carefully consult with legal, tax, and financial experts to ensure that requirements of administrative capability would continue to be met during such a transition.

The Small Business and Agriculture Regulatory Enforcement Ombudsman Ombudsman and 10 regional fairness boards were established to receive comments from small businesses about federal agency enforcement actions. The ombudsman will evaluate annually the enforcement activities of each agency and rate its responsiveness to small business. If you wish to comment on the enforcement actions of the Department of Education, call 1-888-REG-FAIR (1-888-734-3247) or email ombudsman@sba.gov.

To be eligible for FSA participation, a proprietary school must derive at least 10% of its revenues for each fiscal year from sources other than Federal funds, as provided in 34 CFR 668.28(a), or be subject to sanctions. The calculation of this percentage and the funds included must be arrived at using the cash basis of accounting. A school must determine its revenue percentages using the formula described on the following pages each fiscal year. For fiscal years beginning on or after January 1, 2023, institutions must include federal education assistance from all programs listed in the Federal Register Notice from December 21, 2022 as Federal revenue in their 90/10 calculations. The Department will provide updates to the list in subsequent fiscal years on an as-needed basis.

A proprietary school must report as a footnote to its audited financial statements the percentage of its revenues derived from the FSA programs for the fiscal year covered by the audit. The school must also report in the footnote the dollar amount of the numerator and denominator of its 90/10 ratio as well as the individual revenue amounts identified in section 2 of Appendix C to subpart B of part 668.

The regulations at 34 CFR 668.28 provide that a school is required to notify the Department when it fails to meet the 90/10 rule no later than 45 days after the end of the fiscal year, or immediately thereafter if subsequent information is obtained that shows a institution incorrectly determined that it passed the revenue requirement for the prior fiscal year. Additionally, a school must notify its students of a possibility of the loss of Title IV eligibility for any fiscal years they fail to meet the 90/10 rule. Under 34 CFR 668.171(i), if a school fails to provide timely notice of its failure to meet the 90/10 rule, the Department may initiate an action under subpart G of Part 668 to fine the institution, or limit, suspend, or terminate the institution’s participation in Title IV programs; or take an action to revoke the institution’s provisional certification.

Schools should provide notice to the SPD for their region, as well as the Atlanta School Participation and Financial Analysis Division (ASPFAD) at FSAFinancialAnalysisDivision@ed.gov and via the Document Management System found at the Common Origination and Disbursement website: cod.ed.gov/. Upload a notice to the COD Document Center under Case Type chose Financial Analysis, under Case Subtype chose Correspondence, under Document type chose “Other” and type in 90/10 as shown below:

Schools should refer to the Electronic Announcement issued August 14, 2020, New Document Center for Program Compliance Documents, for Document Center training and additional resources.

Schools should refer to the Electronic Announcement issued August 14, 2020, New Document Center for Program Compliance Documents, for Document Center training and additional resources.

Schools can ask questions of their SPD; phone numbers and the general email (CaseTeams@ed.gov are on the SPD webpage.

If the school loses eligibility, it must immediately stop awarding Title IV funds and follow the closeout procedures described in Chapter 8. As a reminder, schools are liable for any Title IV funds it disburses after the last day of the fiscal year it becomes ineligible to participate in the Title IV programs due to not deriving at least 10 percent of its revenue from sources other than Federal funds for two consecutive fiscal years, excluding any funds the institution was entitled to disburse under 34 CFR 668.26.

A school that converts from a proprietary to a private nonprofit or public status for Title IV purposes must continue to report its compliance with the 90/10 revenue test for at least one complete fiscal year after the change in status has been approved by the Department. For example, a change in status is approved with an effective date of 10/31/23 for a school whose fiscal year ends on December 31. The school would be required to report the 90/10 revenue attestation for the complete 2023 fiscal year, and it would also be required to report its 90/10 compliance for its first complete fiscal year (2024) of participation as a nonprofit school. If the school failed the test for that first year under the new status, it would need to report an additional year. If there were other problems with the attestation, the school could also be required to report one more year.

Guidance on footnote disclosures can be found in the Audit Guide, in 34 CFR 668.23(d)(3), and in appropriate accounting references.

The school or servicer must make its program and fiscal records, as well as individual student records, available to the auditor. (Required recordkeeping is discussed in Chapter 7.) Both the financial aid and business offices should be aware of the dates the auditors will be at the school and make sure that someone is on hand to provide requested documents and answer questions during that period.

At the end of the on-site review, the auditor conducts an exit interview. At a school, this exit interview is usually conducted with the personnel from the school’s financial aid and other relevant offices. The exit interview is not only an opportunity for the auditor to suggest improvements in procedures, but it also gives the school or servicer a chance to discuss the draft report and review any discrepancies cited in the report. The exit interview is a good time to resolve any disagreements before the final report is prepared.

The final report is prepared by the auditor and submitted to the school or servicer.

The Department reviews the audit report for format and completeness and to ensure that it complies with the government’s auditing standards.

We will use the general information to initially determine whether the audits are materially complete and done according to applicable accounting standards. Based on the financial data, we will also make a preliminary determination whether your school is financially responsible with respect to the financial responsibility ratios, or in the case of a change in ownership resulting in a change in control, whether your school satisfies the financial ratio requirements discussed later in this chapter. Later we will review submissions to determine whether your school must provide additional information or we should take further action. It is important to remember that the Department must have the ability to make its own determination regarding any issues that impact a school’s diminished liquidity, ability to continue operations, or ability to continue as a going concern. In these cases, the Department seeks financial statement disclosures whereby auditors agree with the school’s plan to address such issues or note that the school has successfully addressed them. However, the Department determines if issues identified by the auditor have been alleviated by the school even when the disclosure states that alleviation has been completed.

Based on the audit findings and the school’s or servicer’s written explanation, the Department will determine if any funds were spent improperly. Unless the school or servicer has properly appealed the decision, it must repay any improperly spent funds within 45 days.

Throughout the audit process, and for other examinations such as program reviews and state reviews, the school or servicer is required to cooperate fully with its independent public accountant or a government auditor, the Department and its inspector general, the Comptroller General of the United States, its accrediting agency, and the appropriate guaranty agency.

Once the audit is complete, the school or servicer must give the Department and the OIG access to all records and documents needed to review the audit. A school that uses a third-party servicer must give the Department and the OIG access to all records and documents needed to review a third-party servicer’s compliance or financial statement audit. In addition, the school’s or servicer’s contract with the auditor must specify that the auditor will give the Department and the OIG access to the records and documents related to the audit, including work papers. Cooperation includes providing timely and reasonable access to records (including computer records) for examination and copying and to personnel for the purpose of obtaining relevant information.

Audit requirements also apply to third-party servicers. If a servicer contracts with several FSA schools, a single compliance audit can be performed that covers its administrative services for all schools. If a servicer contracts with only one FSA school and that school’s own audit sufficiently covers the functions performed by the servicer, the servicer does not have to submit a compliance audit. A servicer must submit its compliance audit within six months after the last day of the servicer’s fiscal year. Third-party servicers are not subject to the amended audit deadline in 668.23(a)(4). The Department may require a servicer to provide a copy of its compliance audit report to guaranty agencies, lenders, state agencies, the Department of Veterans Affairs, or accrediting agencies.

In addition to submitting a compliance audit, a servicer that enters into a contract with a lender or guaranty agency to administer any aspect of the lender’s or guaranty agency’s programs must submit annually audited financial statements. The financial statements must be prepared on an accrual basis in accordance with Generally Accepted Accounting Principles (GAAP) and audited by an independent public accountant or a government auditor in accordance with Generally Accepted Government Auditing Standards (GAGAS) and any other guidance contained in audit guides issued by the Department’s Office of the Inspector General.

If the Department determines that, based on audit findings and responses, a third-party servicer owes a liability for its administration of Title IV programs, the servicer must notify each school with which it has a contract of the liability. Generally, unless they submit an appeal, schools and servicers owing liabilities must repay those liabilities within 45 days of being notified by the Department.

The Department is aware that some third-party servicers have told schools not to report them as servicers, creating confusion about who should be reported. Also, some servicers have not filed annual compliance audits because they incorrectly determined that they don’t meet the regulatory definition of a third-party servicer or because of the omission of specific audit procedures in the OIG Audit Guide for some services or functions performed on behalf of colleges.

As noted earlier, a school may never use a third-party servicer’s audit in place of its own required audit because the school is ultimately liable for its own violations as well as those incurred by its third-party servicers. (See Chapter 3 for more information on third-party servicers.)

To participate in the Title IV programs, schools must demonstrate they are financially responsible. They provide the Department with the information necessary to evaluate their financial responsibility via the audited financial statements explained earlier.

What follows is an overview of the financial responsibility standards. Schools should refer to Subpart L of the Student Assistance General Provisions for complete information. You can also review the Financial Responsibility Questions and Answers Attachment included in the Financial Responsibility and eZ-Audit Reporting Requirements electronic announcement issued on April 9, 2020. In addition, your school should review the October 31, 2023, Federal Register notice [88 FR 74568] that amended the Title IV regulations related to financial responsibility, the DCL GEN-24-07 that provides a summary of these requirements, and the FAQs on the OPE website.

The Department determines whether a school is financially responsible based on its ability to provide the services described in its official publications and statements, to meet all of its financial obligations, and to provide the administrative resources necessary to comply with Title IV program requirements.

The financial responsibility standards can be divided into two categories: (1) general standards, which are the basic standards used to evaluate a school’s financial health, and (2) performance and affiliation standards, which are standards used to evaluate a school’s past performance and to evaluate individuals affiliated with the school.

Regarding public institutions and triggers, the Department will not seek financial protection from public institutions on the grounds that full faith and credit backing ensures liabilities will be covered. The concept of a school being backed by full faith and credit refers to a commitment by a state, local, or municipal government entity; Tribal authority; or similar government entity - including a foreign government entity - to be responsible for the institution’s financial obligations. These obligations include any debts, liabilities, obligations, or charges associated with that institution’s participation in Title IV programs. This would include utilizing the government entity’s authority or revenue sources to satisfy the institution’s unpaid liabilities. The same would apply to the financial protection requests associated with the triggers. However, a public institution that is subject to a triggering condition could be subject to a finding of past performance, be placed on heightened cash monitoring, or have other conditions besides financial protection placed on them, such as provisional certification or additional reporting requirements.

The Department considers a domestic public institution to be financially responsible if the institution provides notification that it:

The Department will seek this documentation

Public schools also must meet the past performance and affiliation standards discussed later and must submit financial statements prepared in accordance with generally accepted accounting principles (GAAP) and prepared on the accrual basis.

A proprietary or private nonprofit school is considered financially responsible if the Department determines that

Even if a school satisfies all of the general standards of financial responsibility under paragraph (b) of this section, the Department does not consider the institution to be financially responsible if the institution's audited financial statements:

It is important to remember that the Department must have the ability to make its own determination regarding any issues that impact a school’s diminished liquidity, ability to continue operations, or ability to continue as a going concern. In these cases, the Department seeks financial statement disclosures whereby auditors agree with the school’s plan to address such issues or note that the school has successfully addressed them. However, the Department determines if issues identified by the auditor have been alleviated by the school even when the disclosure states that alleviation has been completed.

A school that fails to meet any of the above criteria can still qualify as a financially responsible institution. It can submit an irrevocable letter of credit that is acceptable and payable to the Department for an amount that is not less than 50% of the Title IV funds the school received during its most recently completed fiscal year. A school can also continue to participate if it submits a 10% letter of credit and agrees to be provisionally certified. See, respectively, “Financial Protection Alternative for Participating Schools” and “Provisional Certification Alternative” later in the chapter for an explanation of these options.

When a change in ownership occurs, the Department applies the standards in 34 CFR 668.176.

There are key differences between the two types of triggering events that are intended to capture circumstances that may not be reflected in regular financial statements or in the school’s composite score. The mandatory triggers reflect actions or events that have a clear nexus to financial risk, indicate risk of loss of Title IV eligibility, and indicate a school is facing significant financial problems. Except for mandatory triggers that constitute a recalculation of a school’s composite score (less than 1.0), the mandatory triggers constitute automatic failures of financial responsibility. In these cases, the Department will require schools to provide financial protection unless schools can demonstrate that the event is resolved or that insurance covers the loss. The discretionary triggers represent obvious and sensible indications that a school could be seeing negative effects on its finances. Discretionary triggers may, at the discretion of the Department, require posting of financial protection if the Department determines that a discretionary triggering event is likely to have a significant adverse effect of the school’s financial condition. Schools will have the ability to make the case that the condition will not have a significant adverse effect. The Department will take a case-by-case look at these situations and determine whether they represent a significant negative financial risk.

In general schools must timely report any triggering event to the Department. Effective July 1, 2024, schools must report any triggering event within 21 days after the event occurs. Prior to July 1, 2024, schools had 10 days to report the triggering event. This extended time period will further ensure that easily resolvable triggering events can be addressed by the time the institution informs the Department about them. [see 34 CFR 668.171(f) for details about what and when to report]. In the case of the non-Title IV revenue provision that is part of the 90/10 trigger, schools must report to the Department the failure no later than 45 days after the end of their fiscal year, or immediately thereafter if subsequent information is obtained that shows an institution incorrectly determined that it passed the revenue requirement for the prior fiscal year. The high cohort default rates and fluctuations in Title IV volume triggering events do not have a reporting requirement due to the Department already being aware of this information.

The mandatory triggers are:

For details on mandatory triggers, please see 34 CFR 668.171(c).

The discretionary triggers are:

For details on mandatory triggers, please see 34 CFR 668.171(d).

The Department provides instructions for reporting mandatory and discretionary triggers in Electronic Announcement GENERAL-24-80.

As explained above, certain mandatory triggers require a recalculation of a school’s composite score. Those mandatory triggers are legal and administrative actions, withdrawal of owner’s equity, and contributions and distributions. For these mandatory triggers, the Department recalculates a school’s most recent composite score to determine if the triggering event results in a recalculated composite score of less than 1.0. For details on the required adjustments in the recalculation, please see 34 CFR 668.171(e). For questions related to a recalculated composite score required by one of the mandatory triggers, please reach out to your SPD.

When a school first notifies the Department of a triggering event or when it responds to a preliminary determination by the Department that it is not financially responsible because of a triggering event, the school can try to relieve the effect of the event by, as appropriate,

The Department will consider the information the school provides when deciding whether to issue a final determination that the school is not financially responsible.

The composite score standard combines different measures of fundamental elements of financial health to yield a single measure of a school’s overall financial health. This method allows financial strength in one area to make up for financial weakness in another area and gives an equitable measure of the financial health of schools of different sizes.

The composite score methodology considers proprietary schools (see Appendix A to Subpart L of Part 668 and private nonprofit schools (see Appendix B to Subpart L of Part 668 separately because there are accounting and operational differences between these sectors of postsecondary schools. However, the basic steps used to arrive at the composite score are the same and are described later in this section. Appendices A and B have complete information on the calculation of the composite score.

The first step in calculating a composite score is to determine the school’s primary reserve, equity, and net income ratios by using information from the school’s audited financial statement. These ratios take into account the total financial resources of the school. The primary reserve ratio represents a measure of a school’s financial viability and liquidity. The equity ratio represents a measure of its capital resources, ability to borrow, and financial viability. The net income ratio represents a measure of its profitability or ability to operate within its means.

Upon review, some items from a school’s audited financial statement may be excluded from the calculation of the ratios. For example, the Department may exclude the effects of questionable accounting treatments, such as excessive capitalization of marketing costs, from the ratio calculations. (See “Excluded items” later.)

As a result of the 2019 final regulations, long-term debt may be included in the primary reserve ratio only if it is associated with the school’s property, plant, and equipment (PP&E) or construction in progress (CIP). The school’s financial statements must disclose that its long-term debt exceeds 12 months and is associated with capitalized assets. However, to account for long-term debts that existed prior to the implementation of these regulations, their treatment in the composite score calculation will be grandfathered under the old rules. Schools should review the regulations and consult with their accountants when considering the treatment of long-term debt. The new rules are reflected in Appendix A and Appendix B to Subpart L of Part 668.

A strength factor score is then calculated for each ratio using equations established by the Department. A strength factor score reflects a school’s relative strength or weakness in a fundamental element of financial health, as measured by the ratios. Specifically, the strength factor scores reflect the extent to which a school has the financial resources to: 1) replace existing technology with newer technology; 2) replace physical capital that wears out over time; 3) recruit, retain, and retrain faculty and staff (human capital); and 4) develop new programs.

A weighting percentage is applied to each strength factor score to obtain a weighted score for each ratio. The weighting percentages reflect the relative importance that each fundamental element has for a school in a particular sector (proprietary or private nonprofit).

The sum of the weighted scores equals the school’s composite score. Because the weighted scores reflect the strengths and weaknesses represented by the ratios and take into account the importance of those strengths and weaknesses, a strength in the weighted score of one ratio may compensate for a weakness in the weighted score of another ratio.

Once a composite score is calculated, it is measured on a scale from negative 1.0 to positive 3.0 as shown in the following diagram. This scale reflects the probability a school will be able to continue operations and meet its obligations to students and the Department.

The Department accounts for operating leases by

In calculating a school’s ratios, the Department

One of the standards that a school must satisfy to be considered financially responsible is that it must have sufficient cash reserves to return Title IV funds when a student withdraws. A school is considered to have sufficient cash reserves if

When a state submits a tuition recovery fund for approval, the Department will consider the extent to which the recovery fund provides returns to both in-state and out-of-state students, complies with FSA requirements for the order of return of funds to sources of assistance, and is replenished if any claims arise that deplete the fund.

Unearned funds must be returned no later than 45 days after the date of the school’s determination that the student withdrew. The regulations specify that a school has returned funds when it has

If a check is used to return unearned funds, the Department requires that the check be endorsed by the Department no later than 60 days after the school’s determination that a student withdrew to be considered a timely return.

After a school has returned unearned funds to its federal account, provided those funds were originally received from the Department under a process that allows the school to reuse the unearned funds, the school can use the funds to make disbursements to other eligible students through the same program and in the same award year.

Unless the Department requires a school to use a separate account, the school may use its operating account for FSA purposes. In this case the school must designate that account as its federal bank account and have an auditable system of records showing that the funds have been allocated properly and returned in a timely manner. If there is no clear audit trail, the Department can require the school to begin maintaining Title IV funds in a separate bank account.

A school that maintains a separate federal bank account must deposit to that account, or transfer from its operating account to its federal account, the amount of unearned program funds, as determined under the return of Title IV funds regulations. The date the school makes that deposit or transfer is the date used to determine whether the school returned the funds within the 45-day time frame permitted in the regulations.

See the sections on accounting for funds and depository accounts in Volume 4, Chapter 1.

The Department provides a small margin of error in determining that a school has paid all required refunds and returns on time. The Department considers a school to have paid returns in a timely manner if

In addition, if the reviewer or auditor finds a material weakness or reportable condition in the school’s report on internal controls relating to the return of unearned Title IV aid, the Department considers the school to have not paid returns in a timely manner.

Public schools and schools covered by a state tuition recovery fund that has been approved by the Department are not subject to the letter of credit (LOC) requirements. If any other school exceeds the compliance thresholds in either of its two most recently completed fiscal years, the school must submit an irrevocable letter of credit acceptable and payable to the Department. The letter of credit must be equal to 25% of the total amount of unearned Title IV funds the school was required to return during its most recently completed fiscal year.

A school that is required to submit a letter of credit must do so no later than 30 days after the earlier of the date that

If the preliminary report finds that the school did not return unearned funds in a timely manner for 10% or fewer of the sampled students, it would generally be required to submit the letter of credit only if the final report shows that the school did not return unearned funds in a timely manner for 5% or more of all the students in the sample. If the final report indicates that a letter of credit is required, the school would have to submit it no later than 30 days after the final report is issued.

If the Department determines that a LOC is required, it will send LOC submission instructions to the school under separate cover.

A school is not required to submit a letter of credit if, after calculating 25% of the total amount of unearned Title IV funds that the school was required to return under 34 CFR 668.22 during the school’s most recently completed fiscal year, the amount calculated is less than $5,000. However, to meet the reserve requirement, such a school would need to demonstrate that it has available at all times cash reserves of at least $5,000 to make required returns.

In addition, a school may delay submitting a letter of credit while it asks for reconsideration of a finding that it failed to return unearned Title IV funds in a timely manner. A school may request that the Department reconsider its finding if the school submits documents showing that

A school’s request, together with all required supporting documents, is submitted to the Department no later than the date it would otherwise be required to submit the letter of credit. If the Department denies the request, the Department notifies the school that its request has been denied and the date it must submit the letter of credit.

If a school does not meet the general standards for financial responsibility, the Department may still consider the school to be financially responsible or may allow it to participate under provisional certification if the school qualifies for an alternative standard. If the Department determines that a school that does not meet one or more of the general standards does not qualify for an alternative, the Department may initiate a limitation, suspension, or termination action against the school (see Chapter 8 for more on corrective actions and sanctions).

A new school (one seeking to participate in the Title IV programs for the first time) that is not financially responsible solely because it has a composite score of less than 1.5 may still demonstrate financial responsibility. It can do so by submitting an irrevocable letter of credit, acceptable and payable to the Department, or another surety, which the Department specifies in the Federal Register, equal to at least 50% of the FSA program funds that the Department determines the school will receive during its initial year of participation.

A participating proprietary or private nonprofit school that fails to meet one or more of the general standards or has an adverse audit opinion may still demonstrate financial responsibility. It can do so by submitting an irrevocable letter of credit, acceptable and payable to the Department (or providing other financial protection described below), that the Department determines is equal to at least 50% of the FSA program funds the school received during its most recently completed fiscal year. Note that this requirement does not apply to public schools.

According to procedures established by the Department or as part of an agreement with a school, the Department may use the funds from that financial protection to satisfy the debts, liabilities, or reimbursable costs, including costs associated with allowed teach-outs, owed to the Department that are not otherwise paid directly by the school.

In lieu of a school submitting a letter of credit, the Department may permit the school to

A participating school that has a composite score of less than 1.5 but meets all other standards may demonstrate financial responsibility for up to three consecutive fiscal years if the Department determines that the school’s composite score is equal to 1.0 to 1.4 for each of those years and the school meets specific monitoring requirements.

This alternative gives a school the opportunity to improve its financial condition over time without requiring the school to post a letter of credit or participate under provisional certification. Under the zone alternative, a school’s operations, including its administration of the Title IV programs, are monitored more closely. If a school does not score at least 1.0 in one of the three subsequent fiscal years or does not improve its financial condition to attain a composite score of at least 1.5 by the end of the three-year period, the school must satisfy another alternative standard to continue participating. In addition, if a school fails to comply with the information reporting or payment method requirements, the Department may determine that the school no longer qualifies under this alternative.

Under the zone alternative, a school

The Department may permit a participating proprietary or private nonprofit school to participate under provisional certification for up to three consecutive years if the school is not financially responsible because it does not satisfy one or more of the general standards, has an adverse audit opinion, is subject to a mandatory trigger or to a discretionary trigger that the Department determines will have an adverse material effect, has a recalculated composite score of less than 1.0, or has a past performance problem that has been resolved. The Department is not required to offer provisional certification to a school. It is an alternative that the Department may choose to offer in exceptional circumstances.

If the Department permits a school to participate under provisional certification, it will require the school to

The Department maintains the full amount of financial protection from the school until it first determines that the school has either: a composite score of 1.0 or greater based on a review of the audited financial statements for the fiscal year in which all liabilities from any triggering event required the financial protection, or a recalculated composite score of 1.0 or greater and any triggering event has ended.

If the school is still not financially responsible at the end of the provisionally certified period, the Department may again permit it to participate under a provisional certification but may require

If a school is not financially responsible because the persons or entities that exercise substantial control over the school owe an FSA program liability, the Department may permit the school to participate under provisional certification if

The school also must comply with the requirements under the zone alternative.

In addition, the Department may require the school or persons or entities that exercise substantial control over the school to submit financial guarantees to the Department to satisfy any potential liabilities arising from the school’s FSA program participation. The same persons may be required to agree to be jointly and severally liable for any FSA program liabilities.

In addition to meeting the standards of financial responsibility and fulfilling all its financial obligations, a school must demonstrate that it properly administers the Title IV programs. Past actions of the school or individuals affiliated with the school may reveal mismanagement of FSA program funds, thereby demonstrating that a school is not financially responsible. Therefore, in evaluating the way a school administers the Title IV programs, the Department considers the past performance of both the school and individuals affiliated with the school.

A school is not financially responsible if it

A school is not deemed financially responsible if a person or entity who exercises substantial ownership or control over the school—or if any member or members of that person’s family alone or together—either owes a liability for an FSA program violation or exercises or has ever exercised substantial ownership or control over another school or a third-party servicer that owes such a liability. This is true unless that person or entity, family member, school, or servicer demonstrates that the liability is being repaid in accordance with an agreement with the Department.

The Department may consider a school that does not meet this requirement to be financially responsible if the school notifies or demonstrates to the Department

A school must report any changes of control in which a person acquires the ability to affect substantially the school’s actions. Such changes in control trigger a review to determine if the school is financially responsible (see Chapter 5).

An otherwise eligible school becomes ineligible if it exceeds

A school must calculate these percentages to demonstrate compliance with a requirement or to demonstrate eligibility for a limitation waiver. For each of the tests, the calculation performed by the school must be attested to by the independent public accountant or a government auditor who audits the school’s financial statement or performs its FSA compliance audit. If a school’s initial or previous calculation was in error, the auditor’s report must be part of the audit workpapers and must include a recalculation. The auditor’s attestation report must indicate whether the school’s determinations (including any relevant waiver or exception) are accurate.

For each of the limitation requirements, the school must notify the Department (via Section G of the E-App) of the school’s failure to meet a requirement, its falling within a prohibited limitation, or its ineligibility for a continued waiver, as applicable. The notification must occur by July 31 after the end of an award year. The Department will advise the school of its options, including whether it might be eligible for a waiver. (Waivers are available for the limitations for correspondence students, incarcerated students, and students without a high school diploma or equivalent.) A school that fails to meet any of these requirements loses its eligibility to participate in any FSA program as of the last day of the most recent award year for which the school failed to meet the requirement.

If a school loses its eligibility because it failed to meet one or more of the limitation requirements, the school cannot regain eligibility until it can demonstrate that it was in compliance with all of the limitation requirements for the most recently completed award year. Once this has occurred, the school may apply to regain its eligibility. In addition, it must also show how its administrative practices and policies have been changed to ensure that it will not fall within prohibited limits in the future.

In addition to the limitations explained in this chapter, a school is not eligible if it or its owner files for bankruptcy or if the school, its owner, or its CEO is responsible for a crime involving FSA program funds. See Chapters 1 and 3. A school that becomes ineligible because of one of these factors must immediately stop awarding Title IV funds and follow the steps for a school that has lost its FSA participation. See Chapter 8 for more information.

A school that does not provide a four-year bachelor’s degree program or a two-year associate degree program is ineligible if, for its latest complete award year, more than 50% of its regular enrolled students had neither a high school diploma nor its equivalent.

If a public or private nonprofit institution exceeds the 50% limit because it serves significant numbers of these students through contracts with federal, state, or local government agencies, the Department may waive the limitation.

The waiver will only be granted if no more than 40% of the school’s regular students (those students not receiving job training through contracts with federal, state, or local government agencies) do not have a high school diploma or its equivalent. If granted, the waiver may be extended in each year the public or private nonprofit school continues to meet the requirements. The public or private nonprofit school’s calculation must be attested to by an independent public accountant or a government auditor each year an audit is conducted.

A school is ineligible if, in its latest complete award year, more than 25% of its regular students are incarcerated. For information on the eligibility of incarcerated students for federal student aid, see Volume 1, Chapter 1.

A public or private nonprofit school can ask the Department to waive this limitation if it has continuously provided an eligible prison education program approved by the Department for at least two years. If granted, the waiver is effective as long as the school continues to meet the waiver requirements each award year. For a school offering only two-year or four-year programs that lead to associate or bachelor’s degrees, the waiver applies to all programs at the school. But if the school offers other types of programs, the waiver would apply to any of the school’s two-year and four-year bachelor’s degree, associate’s degree, and postsecondary diploma programs and also to any other programs in which the incarcerated regular students enrolled have a 50% or greater completion rate. The calculation of this completion rate is specified in 34 CFR 600.7(e)(2) of the institutional eligibility regulations and must be attested to by an independent public accountant or a government auditor.

A public or private nonprofit school may request the waiver using the E-App (eligcert.ed.gov) by answering the questions in Section G and explaining in question 69.

For the first five years after the waiver is granted, the 25% limitation on confined or incarcerated individuals is raised to 50%. Following five continuous years of an institution operating with a waiver, the limit is raised to 75%. If the Department determines that a public institution is chartered for the explicit purpose of educating confined or incarcerated individuals, these limits do not apply.

In general, a school is ineligible if for the latest complete award year

Note that the correspondence course and student limitations do not apply to a school that exclusively or mainly provides vocational adult education or job training as defined under Sec. 3(3)(C) of the Carl D. Perkins Career and Technical Education Act of 2006.

Also note that the 50% limits apply to the school, not to its individual programs. An educational program composed entirely of correspondence courses could still be an eligible program if no more than 50% of the school’s courses were offered through correspondence and the program met other eligibility requirements. For more on correspondence study and program eligibility, student eligibility, and cost of attendance, see Chapter 2, as well as Volume 1, Chapter 1 and Volume 3, Chapter 2 respectively.

The school’s correspondence course calculation and correspondence student calculation must be attested to by an independent public accountant or a government auditor.

Some schools offer programs that are eligible for Title IV funds as well as those that are not. For Title IV program purposes, the Department considers an eligible institution to be the sum of its eligible programs. To minimize the effect on its institutional eligibility of offering programs solely by correspondence that do not lead to a degree, a school might choose to identify those programs as not part of its Title IV-eligible programs. A program (and students enrolled therein) that was so identified would not be considered part of the school in these two formulas.

A school’s eligibility for the Title IV programs can be affected by a high cohort default rate (CDR). The Department calculates a school’s CDR based on information from guaranty agencies and federal loan servicers.

The Department sends draft default rates to participating schools in February to allow each school an opportunity to review and correct the data that will be used to calculate its official cohort default rates. In September of each year, the Department issues the official cohort default rates. These rates are electronically delivered to schools and posted on the NSLDS Professional Access website. Schools must be enrolled in the eCDR process for electronic delivery of the rates. They can sign up for that process by completing the enrollment form on the SAIG Enrollment website.

A school’s annual CDR is based on a “cohort” of students who received FFEL or Direct Loans at the school and entered repayment in a single fiscal year—the federal fiscal year, October 1–September 30.

For instance, a school’s FY2020 CDR is based on the cohort of students who received FFEL or Direct Loans at the school and entered repayment on those loans between October 1, 2019, and September 30, 2020. This number becomes the denominator (the lower part of the fraction) in the CDR calculation.

X ÷ Total borrowers who entered repayment during FY2020

The Department tracks this group of students during the fiscal year in which they enter repayment and through the end of the second following fiscal year. The number of students who default on their loans (or meet other related conditions) during those three fiscal years becomes the numerator (top part of the fraction) in the CDR calculation.

Total borrowers who entered repayment in FY2020 and defaulted in FY2020, 2021, and 2022 ÷ Total borrowers who entered repayment during FY2020

Because it takes three years to track the outcomes, the initial FY2020 CDR for a school is not released until three years later, at the beginning of 2023. This is one of the reasons that schools should closely monitor student borrowing and implement effective default prevention procedures as soon as possible. The steps taken to help students this year may reduce the number of defaults in the CDR three years from now.

The terminology, criteria, calculations, and exceptions for the rates are described in more detail in the Cohort Default Rate Guide.

Schools face sanctions under the following conditions:

Moreover, a school is not considered to be administratively capable when

When a high default rate demonstrates a lack of administrative capability, a school may become ineligible to participate in the Direct Loan, Pell Grant, or Perkins programs, or the Department may choose to provisionally certify such a school. For detailed information on default rates, including challenges and appeals, refer to the Cohort Default Rate Guide in the Knowledge Center.

As described in 34 CFR 668.217, if a school’s cohort default rate is equal to or greater than 30%, it must establish a default prevention task force that prepares a plan that

A school must submit its default prevention plan to its school participation division for review. If the cohort default rate is equal to or greater than 30% for two consecutive fiscal years, the default prevention plan must be revised and submitted again for review. Appendix A to Subpart N of Part 668 describes some measures you may find helpful in reducing the number of students that default on Federally funded loans. In addition, DCL GEN-05-14 includes activities related to default prevention & management for new schools that schools with high default rates may find helpful.

New schools, and schools newly approved for Direct Loan participation, are required to implement a default management plan prior to certification. In addition, a school that undergoes a change in ownership that results in a change in control or a school that changes its status as a main campus, branch campus, or additional location must implement a default management plan.

A school undergoing a change in ownership is exempt from submitting a default management plan if the school, including its main campus and any branch campus, does not have a cohort default rate greater than 10% and the new owner of the school does not own and has not owned any other school that had a cohort default rate greater than 10% during the owner’s tenure.

If a school is required to use a default management plan under 34 CFR 668.14(b)(15) because it is participating in the William D. Ford Federal Direct Loan (Direct Loan) Program for the first time or it has undergone a change of ownership that results in a change in control, the school’s implementation of the nine activities outlined in the Sample Default Prevention and Management Plan provided in DCL GEN-05-14 will satisfy that requirement. In addition to implementing the regulatory requirement, all schools are encouraged to consider adopting the measures described in this Default Prevention and Management Plan.

The Operations Performance Division in Federal Student Aid responds to questions about cohort default rates and reviews cohort default rate challenges, adjustments, and appeals. It also provides technical assistance and outreach to schools to assist them in lowering their default rates. More information, including searchable default rates for all schools participating in the Title IV programs, is available on the default management website. Schools can also call the hotline at (202) 377-4259 or email fsa.schools.default.management@ed.gov.