Racial Bias in School Bonds

Historically black colleges and universities pay higher fees to issue tax-exempt bonds than do non-HBCUs.

HISTORICALLY BLACK COLLEGES and universities (HBCUs) pay higher fees than non-HBCU schools do to issue tax-exempt bonds, and the cause could be racial discrimination. Those are the findings of four researchers: Casey Dougal, an assistant professor of finance at Drexel University’s LeBow College of Business in Philadelphia, Pennsylvania; Pengjie Gao, an associate professor of finance at the University of Notre Dame’s Mendoza College of Business in Indiana; William Mayew, a professor of accounting at Duke University’s Fuqua School of Business in Durham, North Carolina; and Christopher Parsons of the University of Washington’s Foster School of Business in Seattle.

The team of researchers studied 4,145 tax-exempt municipal bond issues, which totaled approximately US$150 billion. These bonds were issued between 1988 and 2010. Of the 965 higher education institutions included, 102 were HBCUs. When researchers looked at the underwriting fees—that is, the fees underwriters charge to each school to bring a bond offering to investors—they found that costs for HBCUs were about 20 percent higher than for other schools. For instance, a $30 million bond issuance would cost an HBCU about $290,000, compared to $242,000 for a non-HBCU. The reason for this difference could be that it is more difficult for underwriters to find buyers for the HBCU bonds.

In the paper, the scholars look for other factors that could explain the difference in fees, such as attributes specific to each school, credit ratings, and state tax breaks. But they conclude that “racial animus” was the main cause. The researchers also note that the effect of this bias is three times more pronounced in the Deep South states of Louisiana, Alabama, and Mississippi.

The paper offers several potential solutions such as lowering the price point for investors to enter this market; making the associated state tax benefit transferable; or creating a federal law that designates HBCU bonds as triple tax-exempt, meaning they would be exempt from paying federal, state, and local taxes.

“What’s in a (School) Name? Racial Discrimination in Higher Education Bond Markets” is forthcoming in the Journal of Financial Economics.