The Congressional Budget Office on Friday released Tax Arbitrage by Colleges and Universities:

Because colleges and universities serve a public purpose—advancing higher education and promoting myriad forms of research—they enjoy a variety of tax preferences. In addition to being exempt from paying federal income taxes, institutions of higher learning can accept tax-deductible charitable contributions and use tax-exempt debt to finance capital expenditures. It is the latter preference that the CBO focuses on in this study, which was prepared at the request of the Ranking Member of the Senate Finance Committee. The law explicitly prohibits the use of tax-exempt-bond proceeds for the purchase of investment assets, a practice known as tax arbitrage; however, issuers of tax-exempt bonds may use the proceeds for the purchase of operating assets while they simultaneously hold investment assets that provide a higher rate of return. To the extent that colleges and universities earn an untaxed return on investments that exceeds the interest they pay on tax-exempt debt, they are benefiting from a form of indirect tax arbitrage.

Using data from information returns filed with the IRS by institutions of higher learning and by issuers of tax-exempt debt, CBO created several measures of tax arbitrage under a broader definition of the term that includes indirect tax arbitrage. Over time, if legislators were to expand the definition of tax arbitrage, nonprofit institutions would most likely respond by reducing their issues of tax-exempt debt. That response, in turn, could decrease the cost to the federal government of granting such tax preferences.

• CBO Director's Blog, Tax Arbitrage by Colleges and Universities
• Senator Charles Grassley Press Release, Tax Arbitrage by Colleges, Universities Raises Questions
• Bloomberg, Colleges Profit by Selling Tax-Exempt Debt, CBO Says
• Chronicle, Senator Questions Another Break for Colleges: Tax-Exempt Bonds
• Inside Higher Ed, More Scrutiny for Colleges' Business Practices
• New York Post, Colleges' Tax-Free Bond Boon