Publication Date: July 2003
DCL ID: GEN-03-08
Use of Long-term debt in financial responsibility calculation
Posted on 07-15-2003
July 2003
GEN 03-08
Subject: Use of Long-term debt in financial responsibility calculation
Summary: This letter replaces the Department of Education’s Dear Colleague Letter (GEN-01-02) published in January 2001 on the inclusion of long-term debt in the calculation of the Primary Reserve Ratio used to determine whether institutions demonstrate financial responsibility. This letter is effective for all annual financial statement audits for fiscal years ending on or after December 31, 2002.
Dear Colleague:
This letter replaces earlier guidance issued by the Department in Dear Colleague Letter GEN-01-02 and is effective for all annual financial statement audits for fiscal years ending on or after December 31, 2002.
Summary of Previous Guidance
The guidance issued in GEN-01-02 stated that, under 34 CFR 668.172(b) and Appendices F and G (now A and B) to Subpart L of 34 CFR Part 668, long-term debt must be related to property, plant and equipment (PP&E). Specifically, the letter stated that:
The debt that should be included in the primary reserve ratio calculation as part of an institution's adjusted equity must be related to PP&E the institution has acquired for long-term purposes. The formula also limits the amount of debt for long-term purposes so that it cannot exceed the net amount of PP&E. Other long-term debts owed by an institution should be excluded from the calculation if they do not meet this requirement.
GEN-01-02 also stated that, "debt obtained for long-term purposes" is not the equivalent of any "long-term debt." Consequently, under that guidance, the institution was required to demonstrate to the Department that debt that was included in the primary reserve ratio was associated with investments in an institution's PP&E. Other long-term debt that could not be shown to represent investments in PP&E has not been considered to be "debt obtained for long-term purposes" under the regulations, and has not been included in the ratio calculation.
Revised Policy Guidance
Many concerns have been raised since this guidance was issued. Particularly, institutions were concerned over the difficulty in associating a particular debt amount with the acquisition of PP&E when reporting the amount of “debt obtained for long-term purposes.”
The Department has considered these concerns and has decided to rescind its earlier guidance and issue new guidance in this area. Under this revised guidance for the Primary Reserve Ratio calculation, all long-term debt obtained for the institution’s purposes may be included. However, it is important to note that the overall level of “debt obtained for long-term purposes” that can be included in the numerator of the Primary Reserve Ratio is limited under the regulations so that it cannot exceed the amount of the institution’s net property, plant, and equipment.
Background
Under Subpart L of 34 CFR 668 of the Student Assistance General Provision, the Department annually calculates financial ratios for each institution participating in the federal student financial aid programs. Institutions provide the information that is used to perform these calculations in their required annual financial statement audits. The Department, in turn, uses these ratios to determine whether an institution demonstrates financial responsibility under the regulations.
As currently described in 34 CFR 668.172(b) and Appendices A and B to Subpart L of 34 CFR Part 668, the Department calculates three financial ratios: Primary Reserve, Equity, and Net Income. These three ratios are combined to produce a composite score. The minimum composite score for an institution to demonstrate financial responsibility is 1.5. If an institution’s composite score is less than 1.5, the Department informs the institution of its calculated score and asks the institution to comply with the alternative financial responsibility requirements that are described in 34 CFR 668.175.
The Primary Reserve Ratio allows the inclusion of “all debt obtained for long-term purposes” in its calculation. (See Appendices A and B to Subpart L of 34 CFR Part 668, for proprietary institutions and private non-profit institutions, respectively.) The language in the appendices indicates that, “The value of all debt obtained for long-term purposes includes the short-term portion of the debt, up to the amount of net property, plant, and equipment.”
Additional Information
If you have any questions about this letter, please contact Brian Kerrigan of my staff at brian.kerrigan@ed.gov.
Sincerely,
Jeffrey R. Andrade
Deputy Assistant Secretary for
Policy, Planning, and Innovation