Florida Bar Journal

Scientia Sit Potential: Is the Education Department’s Newest Financial Responsibility Reporting Rule a Source of Powerful Knowledge or a Bureaucratic Mess?

This article addresses the U.S. Department of Education’s Financial Responsibility Reporting Rule, codified at 34 C.F.R. §668.171, including the history of its development, its requirements, and its potential impacts on Florida’s public colleges and universities.

Precursor to the Rule

Title IV of the Higher Education Act of 1965 (HEA), 20 U.S.C. §1070, et seq., empowers the secretary of education “to assist in making available the benefits of postsecondary education to eligible students…in institutions of higher education” through various types of financial aid. The William D. Ford Federal Direct Loan Program (direct loan program) allows students who attend “participating institutions of higher education” to obtain direct loans from the federal government to pay for their educational expenses.^[1] To participate in the direct loan program, institutions of higher education must enter into contracts, called program participation agreements (PPAs), with the secretary of education and agree to comply with the HEA, all applicable regulations, and certain other conditions.^[2] These contracts may include any provisions “the [s]ecretary determines are necessary to protect the interests of the United States and to promote the purposes of” the direct loan program.^[3]

By statute, students who are harmed by a Title IV school’s violation of certain laws, including prohibitions on fraud, may be entitled to relief from their federal direct loan obligations through a process known as “borrower defense” to repayment.^[4] In administering the direct loan program, the secretary must also “specify in regulations which acts or omissions of an institution of higher education a borrower may assert as a defense to repayment of a loan” made under the direct loan program.^[5] More generally, the secretary has authority “to make, promulgate, issue, rescind, and amend rules and regulations governing the” direct loan program.^[6]

Based on these regulations, the secretary issued “standards, criteria, and procedures governing the Federal Direct Student Loan…program,” in January 1994, including the first iteration of the borrower defense rule.^[7] In December 1994, the secretary amended the direct loan program regulations, including those governing borrower defenses,^[8] and under those regulations, borrowers were permitted to assert “as a defense against repayment, any act or omission of the school attended by the [borrower] that would give rise to a cause of action against the school under applicable [s]tate law.”^[9] The 1994 regulations 1) permitted a student borrower to assert his or her school’s misconduct as a reason for nonrepayment; and 2) if the borrower was successful, permitted the Department of Education to recoup the loan from the school.^[10]

The collapse of Corinthian Colleges in May 2015 exposed potential inadequacies of the 1994 borrower defense rule.^[11] Corinthian, a for-profit company that “operat[ed] numerous postsecondary schools that enrolled over 70,000 students at more than 100 campuses nationwide,”^[12] filed for bankruptcy in 2015. In the wake of Corinthian’s closure, the department ultimately determined that the college had misrepresented its job placement rates. In the aftermath, “thousands of claims for student loan relief” were filed, and Corinthian’s bankruptcy meant that there was “no other party from which the [f]ederal government [could] recover any losses.”^[13] The department concluded, against this backdrop, that the 1994 borrower defense rule was outdated and was no longer adequate to deal with the changed “landscape of higher education.”^[14]

In an effort to address the deficient rule, the department commenced rulemaking, and on November 1, 2016, it published the final rule governing the direct loan program that is the subject of this article.^[15] In relevant part, the 2016 rule 1) prohibits schools “participating in the Direct Loan Program from obtaining” or relying upon a borrower’s “waive[r] [of] his or her right to initiate or participate in a class action lawsuit” or “from requiring students to engage in internal dispute processes before contacting accrediting or government agencies” (arbitration and class action waiver provision); 2) requires “financially risky institutions [to be] prepared to take responsibility for the losses to the government for discharges of and repayments for [f]ederal student loans” (financial responsibility provision); 3) adopts certain disclosure obligations for institutions “at which the median borrower has not repaid in full, or made loan payments sufficient to reduce by at the least one dollar the outstanding balance of the borrower’s loans received at the institution” (repayment rate provision); and 4) amends the standards and procedures applicable to the borrower defense process (borrower defense provision).^[16]

The Rule’s Reporting Requirements Applied to Public Institutions

Subsections (c) through (g) of §668.171 set forth various actions or events that would indicate an institution “may not be able to meet its financial or administrative obligations” necessary to comply with Title IV, HEA program requirements. In turn, subsection (h) of §668.171 sets forth reporting requirements that are linked to the actions or events set out in subsections (c) through (g). However, subsections (d) and (e) do not apply to public institutions because they are directed at proprietary institutions and publicly traded institutions respectively. Therefore, this article does not address the requirements in those two subsections. Subsection (f), addressing cohort default rates, does apply to public institutions. However, as it does not contain any reporting requirements, it will also not be addressed herein.

Combining these confusingly worded and poorly constructed sections, the best reading of the regulation as to the reporting requirements is that an institution must notify the secretary of any of the following actions or events identified in paragraphs (c) through (g) of this section within a variety of timeframes:

• Debts and Borrower Defense-Related Lawsuits — 1) If the university is required to pay any debt or incur any liability arising from a final judgment in a judicial proceeding or from an administrative proceeding or determination, or from a settlement, and the debt or liability arises from a lawsuit or other action or event, the university must report that the requirement to pay the debt or that the liability has been incurred within 10 days after a payment was required to be paid or the liability was incurred. 2) If the university was or is, on or after July 1, 2017, sued in an action brought by a federal or state authority for financial relief on claims related to the making of the direct loan for enrollment at the school or the provision of educational services, the university must report that it has been so sued within 10 days of being served, and for any existing such suit, and for all such suits that have been or become pending for 120 days, the fact that they have been pending for 120 days must be reported within 10 days of the 120th day the suit was pending.

• Other Lawsuits — If the university was or is, on or after July 1, 2017, sued in an action not brought by a federal or state authority for financial relief on claims related to the making of the direct loan for enrollment at the school or the provision of educational services, then the university must report that it has been so sued within 10 days of being served.

Further, as to such suits, if the court sets (or a court rule establishes) a deadline to file a motion for summary judgment, a pre-trial conference, or a trial date, the university must report the setting of the earliest of these dates within 10 days of its being set, and must report the occurrence of the earliest of these events within 10 days of the event occurring. Finally, as to such suits, if the court enters an order denying the university’s motion for summary judgment or reserving judgment on the motion, the university must report that order within 10 days of its being issued.

• Accrediting Agency Actions — If the university’s accrediting agency requires the university to submit a teach-out plan, for one of the reasons described in §602.24(c)(1) below:

(i) The [s]ecretary notifies the accrediting agency that the [s]ecretary has initiated an emergency action against the [u]niversity, in accordance with section 487(c)(1)(G) of the HEA, or an action to limit, suspend, or terminate the [u]niversity participating in any Title IV, HEA program, in accordance with section 487(c)(1)(F) of the HEA, and that a teach-out plan is required.

(ii) The accrediting agency acts to withdraw, terminate, or suspend the accreditation or preaccreditation of the [u]niversity.

(iii) The [u]niversity notifies the accrediting agency that it intends to cease operations entirely or close a location that provides one hundred percent of at least one program.

(iv) A [s]tate licensing or authorizing agency notifies the accrediting agency that the [u]niversity’s license or legal authorization to provide an educational program has been or will be revoked.

That covers the closing of the university or any of its branches or additional locations. The university must report that fact to the secretary within 10 days after it is notified of that requirement by the accrediting agency.

Subsection (g) of the rule also requires reporting on certain “discretionary factors or events” and provides that the secretary may determine that an institution is not able to meet its financial or administrative obligations if the secretary demonstrates that certain events or conditions are “reasonably likely to have a material adverse effect on the financial condition, business, or results of operations of the institution.” The rule requires institutions to affirmatively report on three of these events or conditions:

• State or Agency Citations — If the institution is cited by a state licensing or authorizing agency for failing state or agency requirements, the institution must report that fact within 10 days after the citation is issued.

• Probation or Show Cause Actions — If the institution is or was placed on probation or issued a show-cause order, or placed on an accreditation status that poses an equivalent or greater risk to its accreditation, by its accrediting agency for failing to meet one or more of the agency’s standards, it must report that fact to the secretary within 10 days after having been placed on that status.

• Loan Agreement Violations — If the institution violates/violated a provision or requirement in a loan agreement, and, as provided under the terms of a security or loan agreement between the institution and the creditor, a monetary or nonmonetary default or delinquency event occurs, or other events occur, that trigger, or enable the creditor to require or impose on the institution, an increase in collateral, a change in contractual obligations, an increase in interest rates or payments, or other sanctions, penalties, or fees, then that fact must be reported to the secretary within 10 days after the loan violation occurs, or the creditor waives the violation, or the creditor imposes sanctions or penalties in exchange or as a result of the waiver.

Confusion and Litigation Ensue

Attempts by public colleges and universities to interpret the rule have resulted in a broad variety of opinion with respect to its scope. One key question was why a regulation with its genesis in the failure of a private-sector institution would be applied to public-sector institutions with different income sources and greater historical financial stability. Another point of confusion related to how broadly phrases such as “required to pay any debt or incur any liability,” “arising from a final judgment,” “judicial proceeding or…administrative proceeding or determination” should be read. Some institutions became concerned that the smallest of tort claim nuisance payment, which risk managers may handle without general counsel offices even knowing, would now need to be reported to the education secretary within 10 days. Litigation defense counsel would now have greater pressure to not only ensure hearing and trial deadlines were kept, but to also alert the institution’s general counsel in time for summary judgment, pre-trial conference, and trial dates to be reported to the secretary within 10 days of their being established. Finally, institutions observed that the rule did not provide for a format in which required disclosures are to be made.

On June 3, 2019, the Education Department issued a question and answer document in an attempt to provide guidance on complying with the reporting regulation.^[17] In the Q&A, the department confirmed that the reporting requirements do apply to public institutions, that “all settlements” means “all settlements” including those reached prior to legal action, that “all lawsuits” includes suits of any type such as personal injury, breach of contract or intellectual property disputes, and that the department has not developed a standard reporting form on which disclosures are to be made.

On the litigation front, shortly before the 2016 rule was to take effect, the California Association of Private Postsecondary Schools (CAPPS) sued the secretary, seeking to set the rule aside in its entirety. It sought a preliminary injunction of certain elements of the rule concerning a prohibition of institutions from using pre-dispute arbitration clauses and class action waivers in certain disputes with student borrowers. However, before that matter could be addressed, the department stayed the effective date of most of its 2016 rule.^[18] But that action led to other litigation.

A few weeks after the stay, two student borrowers and a coalition of 19 states and the District of Columbia filed separate lawsuits seeking to invalidate the stay.^[19] The department then issued an interim final rule on October 24, 2017, staying the effective date of the 2016 rule to July 1, 2018, and then issued a final rule staying the effective date for another year.^[20] With each new rulemaking, the student borrower and state plaintiffs amended their complaints to challenge the new action. The court consolidated Bauer v. DeVos, No. 17-cv-1330, 2017 WL 10239119 (D.D.C. filed July 6, 2017) and Massachusetts v. Dep’t of Education, No. 17-cv-1331 (D.D.C. filed July 6, 2017), and on September 12, 2018, issued an opinion resolving the consolidated action.^[21] In that decision, the court held that the §705 stay was arbitrary and capricious and, thus, unlawful under the Administrative Procedure Act (APA); that the interim final rule was, for the most part, moot; and that the final delay rule was issued in violation of the Higher Education Act’s negotiated rulemaking requirement. Five days later, the court entered a remedial order in Bauer v. DeVos, 332 F. Supp. 3d 181, 2018 (D.D.C. Sept. 17, 2018), vacating the final rule and §705 stay.^[22]

With the 2016 rule apparently back in force, on September 22, 2018, CAPPS renewed its motion for a preliminary injunction to enjoin the 2016 rule. This time, however, CAPPS sought to enjoin four provisions of the 2016 rule, including the financial responsibility reporting requirements. That motion was denied by California Assn. of Private Postsecondary Schools v. DeVos, 344 F. Supp. 3d 158 (D.D.C. 2018). However, the rule challenge litigation remains pending.

Analysis and Compliance

The purpose of §668.171 is to allow the secretary to determine whether an institution participating in any Title IV, HEA program is financially responsible based on the institution’s ability to provide the services described in its official publications and statements; meet all of its financial obligations; and provide the administrative resources necessary to comply with Title IV, HEA program requirements. While a noble goal, public institutions have grounds to ask why they must comply with the new reporting requirements since the secretary’s regulations already treat their financial responsibility differently. Subsection (i) of §668.171 speaks to the determination of “financial responsibility” of public institutions as follows:

(1) The [s]ecretary considers a domestic public institution to be financially responsible if the institution—

(i)(A) Notifies the [s]ecretary that it is designated as a public institution by the [s]tate, local, or municipal government entity, tribal authority, or other government entity that has the legal authority to make that designation; and

(B) Provides a letter from an official of that [s]tate or other government entity confirming that the institution is a public institution; and

(ii) Is not subject to a condition of past performance under §668.174.

At first blush, it would seem that if a public institution simply complied with the foregoing requirements, there would be no need for it to be subject to the additional complex reporting and responsibility calculations in the remainder of the rule. However, the secretary’s recently issued guidance confirms that, notwithstanding subsection (i), public institutions are still required to make the reporting disclosures set forth in subsection (h).

If Florida’s public higher education institutions must comply with the rule, how do they do so? As noted herein, the language of the rule’s requirements concerning the reporting of certain actions or events speaks only to the reporting of the action or event. For instance, that a suit has been filed or that summary judgment has been denied. The rule does not set forth other details to be included in the report.

Subsection (h) of the rule, which sets forth the reporting requirements, begins by noting that the reporting will be done “in accordance with procedures established by the [s]ecretary.” However, apart from the narrative guidance recently issued by the secretary, there has been no form issued or other procedural rules promulgated. Thus, all a public institution is required to disclose are the factual occurrences noted, such as that a trial date has been set.

Public institutions may, however, wish to voluntarily disclose some additional information when making the required disclosures. This is so because, under the rule, if an institution makes a required disclosure, the secretary will re-calculate the institution’s composite score (the secretary’s measure of an institution’s financial health). Under §668.171(c)(2), which addresses the method of composite score recalculation, the secretary will recalculate the composite score using the financial statements on which the institution’s composite score has been calculated under §668.172. Subsection (c)(2) also affords an institution the opportunity to demonstrate “to the satisfaction of the [s]ecretary that the event or condition has had or will have no effect on the assets and liabilities of the institution….”

Subsection (c)(2) also allows an institution to demonstrate to the secretary in a required report that the amount claimed in a complaint exceeds the potential recovery because the allegations in the complaint, if accepted as true, and the claims asserted, if fully successful, cannot produce relief in the amount claimed, or that the action or event reported no longer exists or has been resolved or the institution has insurance that will cover part or all of the debts and liabilities that may arise from that action or event.

Since Florida’s public higher education institutions have the resources, including in most instances adequate insurance coverages, it might be most effective for them to provide some additional financial detail when making a required report since, if they do not, they will likely just inspire a response from the secretary requesting those additional details. Initial openness can, therefore, have the positive effect of the institution’s not being seen as trying to hide something.

Based on the recalculation factors in the rule, public institutions might wish to consider including in their required reports: 1) the amount of debt agreed to be incurred; 2) the amount due set by a court ruling; 3) the amount of relief claimed in the complaint; 4) if the complaint demands no specific amount of relief, the amount stated in any final written demand issued prior to suit; 5) an amount that the plaintiff offers to accept in settlement of a claim as set forth in a proposal for settlement or offer of judgment; 6) that the matter has self-resolved.

While it appears that the department is not taking an aggressive stance with respect to the reporting requirement, institutions nevertheless would be wise to begin to develop standardized compliance measures since §668.175(h)(2) provides that the secretary “may take an administrative action under paragraph (k) of this section against the institution if it fails to provide timely notice [of the various actions or events outlined in the rule…]” and paragraph (k), in turn, authorizes the secretary to initiate an action to fine the institution, or limit, suspend, or terminate the institution’s participation in the Title IV, HEA programs.

Department Attempts to Address Criticism with a New Rule

On September 23, 2019, the education secretary issued a new final rule that substantially revises the 2016 rule.^[23] One of the aims of the new final rule is to revise “the conditions or events that have or may have an adverse, material effect on an institution’s financial condition….”^[24] Under the new rule, the department determined that “the mere existence of a lawsuit against an institution should not qualify as a triggering event and decline to include pending suits, whether brought by a federal or state entity, or by another party, as automatic or mandatory triggers, as was the case in the 2016 final regulations.”^[25]

The department also rescinded the reporting requirement related to pending lawsuits, instead requiring institutions to notify the department only after it incurs a liability arising from a settlement, final judgment, or final administrative determination.^[26] While public institutions will still have some litigation-related reporting requirements under the new rule, that which will be required will be more manageable by general counsel and risk management offices.

However, the new regulations are not effective until July 1, 2020. This is because §482(c) of the HEA requires that regulations affecting programs under Title IV of the HEA be published in final form by November 1, prior to the start of the award year (July 1) to which they apply. While that section also permits the secretary to designate any regulation as one that an entity subject to the regulations may choose to implement earlier with conditions for early implementation, the secretary has chosen in the new rule to use this authority to early implement changes to §668.172(d) and Appendix A and B to Subpart L of Part 668 (dealing generally with the calculation of an institution’s composite score).

But the “triggering events” reporting requirements in the 2016 version of §668.171 will remain in place, at least for now, until the July 1, 2020, effective date of the new rule. This means that until then, public institutions must continue to comply with the onerous, tedious, and largely irrelevant reporting requirements outlined above or face the possibility of serious sanctions including the loss of the ability to participate in the student loan program. While institutions can hope for a new round of informal guidance that signal these requirements will not be vigorously enforced, for now, public institutions will be required to report on the minutiae of their claims and litigation matters whether the department has time to actually review the reports or not.^[27]

This column is submitted on behalf of the Education Law Committee, Nathan Adams, chair, and Gregg Morton, editor.