Corporation to hike endowment payout

Soaring health care and other fringe benefit costs have prompted the Harvard Corporation to take a second look at next year’s financial picture and add an extra $16 million in endowment funds to 2004-2005 budgets across the University.

In October, the corporation decided to raise the amount of endowment income used in next year’s budget by 2 percent, or $16 million, over this year’s level. Monday’s (Dec. 8) decision doubles that increase, to $32 million.

The unusual move was prompted by Harvard President Lawrence H. Summers, who became concerned in recent weeks at the rapidly rising cost of fringe benefits. Higher premiums and other benefit rate increases are expected to cost the University an additional $89 million next year.

“This unexpected fringe benefit cost increase will place a serious financial burden on some of the Schools, with limited time to plan appropriately,” Summers said. “The additional endowment distribution will alleviate some of the burden and allow thoughtful solutions to the financial constraints.”

Harvard Vice President for Finance Ann E. Berman said the increase is mainly due to rising health insurance premiums and increased pension costs due to lower-than-expected income from pension investments.

Of the two, Berman said health-care costs are more worrisome because the trend is expected to continue in the future. Health insurance premiums have risen 87 percent over the last five years alone, Berman said, and are expected to increase 18 percent in each of the next two years.

“The biggest continuing problem is that health-care costs are rising much, much faster than inflation,” Berman said. “We don’t expect rates to drop in future years, so people will have to find money in their budgets on an ongoing basis.”

In another move to aid Harvard managers struggling to balance budgets, Berman said the University is also asking the federal government for permission to average fringe benefit increases over the next three years. That would allow the deferring of $17 million in fringe benefit costs, easing next year’s financial burden a bit more.

Berman acknowledged that even with the deferral and the increased endowment funds, managers will have their work cut out balancing next year’s budget. In previously approved austerity plans, the Central Administration and some Schools have already launched cost-cutting efforts.

“Managers will be looking hard at administrative costs,” Berman said.

The corporation didn’t approve a larger increase in endowment dollars because it is concerned about preserving the endowment’s value over time, Berman said.

Spending too much of the endowment annually would erode its value, lessening the amount available each year to be used in the University’s budget, called the payout. In determining the payout, the corporation weighs the University’s spending needs against anticipated investment income and new gifts.

The corporation aims for a payout of between 4.5 percent and 5 percent of the endowment’s overall value. Over the last decade, endowment funds have made up steadily greater portions of the University’s budget. This year, endowment funds make up about $807 million, or 32 percent, of a budget anticipated at $2.5 billion.

The wave of the future?

Despite signs that the broader economy may be improving, Berman cautioned that the difficult fiscal picture for Harvard and other higher education institutions will likely continue.

In addition to rising fringe benefit costs, other financial pressures are affecting Harvard and other universities, Berman said.

With the poor economy, students’ families are experiencing greater financial pressure, increasing financial aid needs. Research funding may be tougher to get as well. Berman said that the proposed 2004 federal budget includes just a 3.5 percent increase in funding for the National Institutes of Health (NIH), a major source of research funds at Harvard. The NIH budget increase is a stark contrast to five years of rapid increases that doubled NIH spending.

There’s also public pressure on colleges and universities to hold down tuition increases, Berman said. A sign of the public sentiment is proposed federal legislation – not expected to pass – that would penalize institutions that approve tuition increases higher than the rate of inflation.

“The endowment increase is a response to an unforeseen problem, not a sign of good times to come,” Berman said.