Article Archives >> Lead Stories >> October 1-15, 2009
Court Allows University
To Unrestrict Endowment Fund
Second request to lift limitation on spending
was necessary to offer scholarships, avoid bond default
A Surrogate’s Court in New York has granted a request of Polytechnic Institute of New York University to “unrestrict” a portion of its endowment fund so that it can qualify to offer federal student scholarships and loans and avoid technical defaults on outstanding tax-exempt bonds. It is the second request granted to the institution in three years. (In Matter of Polytechnic Institute of New York University, Supreme Court of New York, Kings County, 9/11/09.)
Polytechnic University received a bequest of more than $130 million in 2003 from the estate of Mildred Othmer, who died in 1998. About $82 million of the gift was to be held in the Othmer Fund, to be held in perpetuity with only the income to be used for general purposes or for a Donald F. and Mildred Topp Othmer Building.
In 2000, the University began to upgrade its facilities after a capital campaign fueled by the Othmer legacy. As part of the project, it issued $90 million in tax-exempt bonds through the New York Industrial Development Agency. The bonds required a certain debt service ratio and unrestricted investments of at least $15 million.
After the 9/11 terrorist attacks, the dot.com bust and a decrease in enrollment, the University fell on to hard financial times. In addition to trouble with the bond covenants, it risked failing to meet the financial requirements to offer federal student scholarships and insured loans. It asked, and the Court granted the request, to release $13.4 million of the Othmer Fund from the permanent restriction in order to meet its requirements, on the understanding that the $13.4 million would be returned to the Othmer Fund and reclassified as permanently restricted by 2030.
In June 2009, the University asked to invade the endowed Fund even further because of the drop in value of its restricted funds from approximately $147 million in June 2007 to less than $85 million in 2009. It asked to unrestrict $38 million more of the Othmer Fund.
The University had taken steps to deal with its financial issues. It had refinanced a number of its bonds. It had affiliated with New York University (See Nonprofit Issues®, 2/1/09.) and decreased its spending. Nevertheless, it faced the same potential loss of federal student aid and a default on the new bonds.
In considering the request, the Court said the cy pres doctrine provides that where a court can discern a general charitable intent of the gift, it may ensure that the charitable trust will not fail if it becomes impossible or impractical to fulfill the particular restrictions. In such case, a court may apply the funds as most effectively accomplishes the general purposes of the donor.
Since the Court had already found a general charitable purpose for the gift in its prior decision, the only question was whether circumstances had changed that threatened to frustrate the original purpose of the gift. The Court concluded that circumstances had changed.
“The testator could not have foreseen the economic upheaval resulting in the financial meltdown of virtually every categories [sic] of financial investments as a result of the sub-prime mortgage crises and the emergency conditions that followed. The loss in value of the University’s endowment is severe, both from the resulting drop in endowment valuations and income…. Unless the University is able to transfer at least $38 million from ‘restricted’ to ‘unrestricted’ status over the next three fiscal years, it will be out of compliance with [the federal scholarship and loan requirements] and IDA bond coverage ratios. The inability to offer these financial inducements to its projected students threatens the ability of the University to attract a sufficient student body, jeopardizing its current financial standing as well as the ability of the University to fulfill its educational purposes.”
The Court concluded that “there is no question but that the testator’s charitable intentions would be frustrated if Polytechnic University was forced to suspend operations because of its inability to meet the requirements” for federal student aid and its bond covenants. The Court repeated the claim that the proposed reclassification was merely a “bookkeeping transaction” and that the funds would be restored to the Othmer fund. When repaid, they would be reclassified as permanently restricted, although this time the deadline was extended to 2036. The Attorney General consented to both of the cy pres decisions.
YOU NEED TO KNOW
This is more than a “bookkeeping transaction” because it makes the unrestricted funds immediately available for claims of creditors, including the bondholders whose security is currently, or about to be, impaired. Nevertheless, it seems to make sense to allow the University to use money left for its general purposes to avoid dire financial constraints. The Court does not dwell on the financial plan that the University presumably put forth on how it would restore the funds, but a plan projecting out more than 25 years is probably not worth much anyway. A 15% rise in endowments in the third quarter is much more significant.
The case does show, however, that courts and Attorneys General may be willing to work with institutions that have illiquid assets to free the value of those assets to prevent financial disasters to the organizations. In these financial times, that may be significant.
Article Archives >> Lead Stories >> October 1-15, 2009
