Hair and Taxes
Cosmetology Programs, Accountability Policy, and the Problem of Underreported Income
Earnings measures are central to conversations about accountability in higher education—particularly for vocational programs—and it is imperative that these measures accurately reflect student outcomes. In the coming months, the U.S. Department of Education will engage in negotiated rulemaking to consider reviving an accountability system under the Higher Education Act’s (HEA) requirements that proprietary and postsecondary vocational institutions must provide “an eligible program of training to prepare students for gainful employment in a recognized occupation.” Previous versions of earnings-based accountability regimes drew criticism and legal challenges from cosmetology schools that argued that earnings-based metrics unfairly disadvantaged their field as many of their graduates rely heavily on tipped income which may go underreported in Social Security Administration (SSA) and Internal Revenue Service (IRS) earnings data.
In this report, we investigate the plausibility of this critique regarding underreporting of earnings in cosmetology and other similar fields, such as massage therapy or bartending, where individuals receive a portion of their income in tips. We develop an estimate of underreported tipped income and assess how adjustments to earnings to account for tips would change outcomes for cosmetology programs under the 2014 Gainful Employment Rule (GE). We compare such adjustments to the outcomes of the 2014 GE Rule appeals process based on “alternate earnings” data supplied by appealing institutions. We further ask whether reasonable levels of underreporting could drive performance on earnings-based accountability metrics, generating a more complete picture of how underreporting of income may—or may not—affect program performance on earnings-based accountability metrics.
We find that the underreporting of tips plays little role in the success or failure of programs under the 2014 Rule. The 2014 Rule’s alternate earnings appeals process, which allowed institutions to submit their own survey data on graduates, could, however, be improved to guard against schools submitting implausibly high reports of graduates’ earnings on appeal. Alternate earnings estimates were about 73 percent higher than earnings reported in SSA data under the standard GE calculation for all programs and 82 percent higher for cosmetology programs specifically. These changes are far too large to reflect tipped income alone and suggest potential flaws in the survey methodology or data used by self-reporting institutions with a vested interest in the results. Based on IRS estimates of the tax gap and the percentage of underreported tipped income in personal services, we find that underreporting of tipped income is likely to constitute just 8 percent of earnings. Adjusting earnings estimates by 8 percent would lead to only small changes in the number and percentage of cosmetology programs passing and failing debt-to-earnings thresholds under GE, suggesting that underreporting of tips plays little role in the success or failure of programs under GE.
