Aligning State Higher Education Funding with Student Outcomes

Key Points

• Outcomes-based funding (OBF) is a model for public higher education institutions that allocates a portion of state appropriations based on institutional performances on a defined set of measures.
• While most states have experimented with OBF, many initiatives have met with limited success because they targeted inappropriate measures or applied inconsistently.
• Texas State Technical College, a public vocational school, shows a promising path forward for OBF: the school’s state appropriation depends entirely on its students’ earnings. This policy has led to institutional reform and wage increases for graduates.
• Well-constructed OBF initiatives hold promise as a vehicle for higher education reform, but policy design is paramount.

Executive summary

Outcomes-based funding represents a transformative approach to allocating state appropriations for public colleges and universities. Under this model, funding is contingent on institutional performance across a defined set of measures, typically focused on student success.

Despite widespread experimentation, OBF initiatives in many states have encountered challenges. Common issues include the selection of inappropriate performance metrics, underfunding, and inconsistent application of the funding model. These problems have limited the efficacy of these programs. However, the funding model at Texas State Technical College (TSTC) offers a promising blueprint for future OBF policies.

TSTC, a public vocational institution, has implemented a distinctive OBF model in which state funding is entirely dependent on the post-enrollment earnings of its students. This innovative policy has driven substantial reforms within the college, aligning educational offerings more closely with labor market needs and leading to significant wage increases for graduates. As a result, the school has also seen a significant increase in its state appropriation.

The TSTC example shows the potential of well-designed OBF systems can spur meaningful higher education reform. Crucially, the success of these initiatives hinges on thoughtful policy design. Successful OBF initiatives should select appropriate performance metrics, make allowances for schools enrolling disadvantaged students, maintain OBF formulas’ consistency over time, and incorporate transition periods to ensure colleges have time to implement needed reforms.

Introduction 

State funding for higher education has increased 37 percent over the past five years, spending $126.5 billion nationwide for fiscal year 2024. Of that, 69 percent went to operations at public institutions. In providing so much funding, states should strongly encourage their public higher education institutions to deliver the most value to students. 

Outcomes-based funding is a model for public higher education institutions that allocates a portion of state appropriations based on institutional performance on a defined set of measures. States have been experimenting with OBF policies for decades to increase opportunities for low-income students and other priority student populations; to encourage education in sectors important to the state, such as applied sciences, healthcare, and education; and to ensure academic and economic value for students. 

While student demand influences some institutional planning, state appropriations are usually an equal or greater source of revenue for public institutions than tuition. Thus, the funding mechanism for state appropriations can heavily influence what degrees, courses, and services an institution offers, and how they offer them. For instance, for every percentage point increase in an occupation’s share of employment, there is only about a half a percentage point increase in the occupation’s share of community college degrees, and this trend is “primarily driven by increases in student demand rather than by colleges expanding capacity.” States should use their dollars to shape incentives for public higher education institutions.

OBF policies take many forms. Most current OBF policies include degree completion as a primary metric, but these have led to some unintended consequences like grade inflation and more selective admissions. A common criticism of OBF is that institutions with high-need student populations may struggle to improve outcomes without additional support for programs like remedial education, tutoring, mentorship, academic and career advising, internships, and apprenticeships.

However, OBF policies that meet certain criteria and keep higher education accessibility in mind can be set up for success. This paper offers a close study of Texas State Technical College, a highly successful case of OBF. Since OBF began at Texas State Technical College in 2014, students have entered higher-paying jobs, more students have graduated on time, more low-income students attend, and state appropriations for the college have increased. 

This paper offers recommendations for states and public higher education institutions interested in developing an OBF policy: 1) Choose metrics that are aligned with institutional mission and not prone to unintended consequences; 2) Support higher education accessibility; 3) Keep funding consistent; 4) Keep incentives strong; and 5) Incorporate a transition period.

Overview of outcomes-based funding

Most states have implemented a form of OBF at some point. According to one recent study, only nine states never approved an OBF program between FY 1997 and FY 2020 (Alaska, Delaware, Georgia, Idaho, Iowa, Maryland, Nebraska, New Hampshire, and West Virginia). However, with wide variations in metrics, potency, and duration among states, most OBF models have not been set up to meaningfully increase the value of public higher education for students.

The most common OBF metric in FY 2020 was the total of degrees or certificates students completed in a year. Other prevalent metrics included success measures for priority student populations; progression metrics such as retention or credit hour benchmarks; degree completion in priority fields of study such as STEM and Health (STEM+H) fields; and efficiency metrics such as graduation rates in a certain number of years or average time to complete a degree. Some OBF metrics focus on joining the workforce, such as job preparedness, alumni job attainment, and what types of jobs graduates get. Many also include metrics that focus on the enrollment or achievements of priority student populations. The most common priority student population in 2020 was low-income students, though many states chose to identify additional priority student populations.

The most common OBF metrics concern students completing degrees and certificates, but such measures may not consider the quality of education students receive. For example, an institution could graduate a lot of students in fields of study not relevant to the workforce or could grant an increased number of degrees by lowering academic standards. Even in the workforce metrics category, metrics such as licensure pass rates don’t specify if the license will increase economic opportunity for students; workforce training completion does not mean the training will actually be relevant to a student’s profession; and job placement doesn’t mean it’s a job for which students’ education prepared them.

OBF is often underfunded and inconsistent. These shortcomings may also result in OBF acting as a weak policy lever. In most states, OBF represents less than 10 percent of total state operating support for public higher education. It’s also common for OBF to be approved in state statute or code, but not be funded by the state legislature. For example, Arizona approved OBF for its four-year institutions from 2013–2017, but didn’t fund the formula in 2015 (though total state funding for these four-year institutions spiked in 2015, that additional funding was not allocated through the OBF system); Arkansas approved OBF for all its institutions between 2008–2011 and again between 2014–2020, but only funded the formula in 2008, 2019, and 2020; and California’s OBF was approved for its two-year institutions in 2017 with $200M in funding allocated, but institution incentives didn’t actually begin until 2019. Of the 41 states that approved OBF between FY 2004 and FY 2020, 20 (49 percent) have not funded an approved program for at least one fiscal year, and five (12 percent) discontinued an approved OBF program, then approved OBF in a later year for the same system. The small percentage of overall funding allocated to OBF and the inconsistency in that funding makes it difficult for institutions to plan operations around OBF’s financial incentives.

Studies on the effectiveness of OBF have shown mixed results. In Indiana, Ohio, and Tennessee, there were increases in remedial education; better course articulation and transfer processes between institutions; increased online education; better student services like academic advising, tutoring, career services, and first-year programming; streamlining of degree requirements (e.g., by removing unnecessary elective coursework and/or removing duplicative course material); and adding more short-term credentials that students could earn. However, due to degree completion metrics in those states, faculty also reported pressure to inflate grades, pass students they wouldn’t normally pass, steer students toward “easier” courses, and remove difficult courses from curricula just to increase completion rates. Institutions in Ohio and Pennsylvania also reported “pressure to improve the academic profile of its entering class” by raising minimum GPA and test score admissions requirements and turning need-based scholarships into merit-based scholarships. In addition, two-year institutions were penalized for students who took select courses without intending to complete a certificate or degree program. Institutions with high-need student populations may also struggle to improve student outcomes without monetary support for additional programs like remedial education, tutoring, mentorship, academic and career advising, internships, and apprenticeships, as has been documented in Indiana, Ohio, and Tennessee.

However, despite the enormous stakes associated with OBF, the data needed to accurately contrast different versions of the policy across states didn’t exist until recently. Among four prominent OBF longitudinal data collection efforts prior to 2022, there wasn’t a single state for which researchers agreed on the years in which OBF was in effect. This is likely because states frequently fund OBF inconsistently. And no study cited in a 2020 systematic overview of OBF research considered how the share of OBF funding may affect student outcomes. If researchers cannot figure out when OBF is in effect, institutions may be similarly unable to figure out when they should expect to receive OBF and thus plan accordingly.

In 2022, researchers published a new study and an accompanying dataset to solve this issue. The study defined OBF as funding based on previous student outcomes and recorded the years that each state’s legislature or higher education agency either 1) funded OBF for higher education, 2) approved but did not fund OBF for higher education, or 3) did not approve OBF for higher education. Since the policy relies on funding to drive organizational behavior, the study only counted a state as “having OBF” in a given year if the policy was funded. The 2022 data also track the share of total state higher education funding controlled by OBF in two-year and four-year sectors over time, as well as if there were financial bonuses for enrolling adult students, low-income students, underrepresented minority students, academically underprepared students, STEM students, and STEM-H students.

This study found that, over time, OBF metrics have expanded to include closer workforce connections such as degree completion for in-demand fields, employment of former students, and earnings of former students. In 2020, 77 percent of states with funded OBF policies for four-year institutions and 69 percent of states with funded OBF policies for two-year institutions included a workforce-related metric, but only four states—California, Florida, Kansas, and Texas—included the earnings of former students as a workforce metric.

The 2022 data also supported the first study to examine the effects of OBF on the earnings of former students. The study found that, regardless of the metrics used or share of funding dedicated to OBF, funded OBF policies may improve the earnings of former students in four-year universities. There was also some evidence that improvements in earnings of former students have been larger for students from low-income families and students with lower incomes post-college. However, the study found null effects on earnings of funded OBF programs at two-year institutions. Perhaps this is because most of these OBF programs do not specifically focus on earnings, and other workforce metrics like job placement and licensure do not always take the quality of the job into account. The null effect on earnings may also support previous research on the unintended consequences associated with OBF at two-year institutions—grade inflation, more short-term certificates rather than longer, more difficult/expensive associate’s degrees, etc.—which may contribute to lower labor market value from students’ education.

In addition to examining the effects of all OBF policies on former students’ earnings, the study considered the effects of the share of total state higher education funding dedicated to OBF. Surprisingly, former students’ earnings improved more over time with a lower share of total state higher education funding dedicated to OBF, suggesting that stable base funding may be help institutions meet OBF goals. However, this finding does not take into account which metrics were included in these OBF policies. A higher dose of OBF may be more effective at increasing the earnings of former students if the formula focuses on workforce metrics rather than academic metrics. Many OBF policies include ten or more metrics, with workforce metrics in the minority. It’s possible that dispersing institutions’ efforts between so many OBF metrics reduces the relative incentive for institutions to pursue any one outcome with vigor.

The study also examined OBF’s effects on former students’ earnings when workforce and priority student metrics were included in the policy. OBF with priority student metrics improved the earnings of former students relative to OBF without priority student metrics. However, earnings increased on average for all students, not specifically for low-income, minority, adult/independent, and first-generation students. OBF with workforce metrics, on the other hand, didn’t increase former students’ earnings any more than OBF without workforce metrics. However, degree completion in high-demand fields was included as a workforce metric, and it is possible this metric wouldn’t coincide with increased earnings for former students if those high-demand fields don’t pay well or the training received isn’t industry-validated. The Department of Education also did not publish institution-level earnings data for several years after 2017, meaning that earnings data for more recent years aren’t included in this analysis. Earnings metrics are a more recent addition to OBF policies; funded formulas with an earnings metric first appeared in 2019 in California, 2014 in Florida, 2013 in Kansas, and 2014 in Texas).

In many instances, OBF hasn’t lived up to its promises, but this doesn’t mean states should discard the concept. Wide variation in the metrics, duration, and potency of OBF policies make them difficult to study across the board. But in addition to some promising findings above, institution case studies can help shine a light on what kinds of OBF work to improve workforce outcomes for students.

Success at Texas State Technical College

Texas State Technical College (TSTC) is a minority-serving institution with 56 percent low-income students and 50 percent part-time students. Founded in Waco in 1965, the college is also the only public higher education institution in the country to receive one hundred percent of its state administration and instruction funding through outcomes-based funding. TSTC’s OBF is based singularly on the earnings of former students.  TSTC’s experience directly cuts against the allegations and assumptions of OBF ineffectiveness. 

The state used OBF to administer funding only after a coordinated five-year legislative and administrative effort. In 2009, the Texas state budget, the General Appropriations Act (GAA), required the Texas Higher Education Coordinating Board (THECB) to determine the feasibility of a “returned-value” funding formula for TSTC based on its impact on the Texas economy. The THECB and the state comptroller’s office determined funding in this way was feasible. The 2011 GAA required the THECB, TSTC, and the Legislative Budget Board (LBB) to develop a new Administration & Instruction (A&I) funding formula to “reward job placement and graduate earnings projections, not time in training or contact hours.” The 2013 GAA approved a Returned-Value Funding Formula “based on the additional direct and indirect state tax revenues generated as a result of the education provided to students by the TSTC” for the 2014–15 biennium. From fiscal year 2014 through at least fiscal year 2025, TSTC will have received A&I funding according to the Returned-Value Funding Formula. This period is a useful but uncommonly long time for an OBF formula to be funded without lapse. The formula is reviewed by the THECB, TSTC, and the LBB every biennium for potential improvements.

Using one outcome metric—wages of former students—the Returned-Value Funding Formula determines TSTC’s funding with the following steps:

• Step 1: Identify a student cohort. Any students who complete at least nine credit hours at TSTC eight years prior to the upcoming funding biennium are included in the formula; e.g., students who complete at least nine credit hours in academic years 2006 and 2007 determine funding for fiscal years 2014 and 2015.
• Step 2: Source outcome data for each student in the cohort. TSTC uses wage data from state unemployment insurance wage records to identify annual wages for as many students from the cohort as possible. Wages are averaged over the first five years after each student graduates, transfers out, or otherwise leaves TSTC.
• Step 3: Adjust outcome data for each student in the cohort. The formula then adjusts each student’s average wage for inflation and deducts an annualized, full-time minimum wage (currently $15,080 for 52 weeks at 40 hours per week at $7.25 per hour).
• Step 4: Determine institutional funding based on outcome data. TSTC’s formula then sums the adjusted wages for the entire cohort and calculates TSTC’s Administration & Instruction funding for the biennium by multiplying the Total Adjusted Wages, the state effective tax rate from the Texas state comptroller, a 2.5 multiplier to capture additional economic impact, and TSTC’s Share of the Value Add. The Texas Legislature determines TSTC’s share of each biennium, but it is typically around 36 percent.

Over the past decade, TSTC’s innovative outcomes-based funding steadily improved former students’ wages by 45 percent over eight years. At the beginning of this eight year period, median first-year wages of TSTC students were about $2,300 lower than the state average for two-year colleges, and were about $13,000 lower than the only other two-year public technical college in the state, Lamar Institute of Technology. However, after eight years with the Returned-Value Funding Formula, TSTC surpassed both the median first-year earnings for the state and for Lamar Institute of Technology, which stayed relatively stagnant over the period and falling significantly behind inflation. TSTC’s state appropriations also increased by 63 percent over eight years, mainly due to its success improving earnings outcomes for students,

Since TSTC has an open admissions policy, they don’t need to worry about unintended admissions incentives to raise minimum GPA and test score admissions requirements or turn need-based scholarships into merit-based scholarships. Because they accept any student with a high school degree or equivalent, they work with each student to increase his or her career readiness. However, the Integrated Postsecondary Education Data System does show a slight decrease in enrollment since the Returned-Value Funding Formula began. Closing some popular but poorly performing programs may cause enrollment drops, but TSTC is confident that “in the long run, enrollment will recover as the competitive value of these new offerings and delivery methods attract more students and employer partners.” The percentage of students awarded Pell Grants —federal aid intended for low-income students—remained relatively constant since 2014, though College Scorecard now reports that 56 percent of TSTC students receive Pell Grants, which is higher than ever before.

Overall graduation rates increased from 2014 to 2021. Graduation rates for Pell Grant recipients saw a big improvement from 2015 to 2020, but there was a drop in 2021 that policymakers should monitor. Inflation-adjusted tuition also increased by 41 percent from 2015 to 2021, which may be the result of higher costs associated with an education that better trains students for the workforce (new technology, maintaining current equipment, highly-trained faculty, etc.). 

The Returned-Value Funding Formula has had a large cultural impact at the college as well. When enrollment determined TSTC’s state funding, a lot of attention went to recruiting students and “it frustrated [the] leadership team to see so much energy devoted to a metric that is so far removed from the true benefit the college provides to students and the Texas economy.” TSTC leadership wanted 100percent of the institution’s state funding to be determined by student outcomes and resisted suggestions that the new funding formula be split between enrollment and earnings: “TSTC was convinced that an approach that split the funding drivers would also split the operational imperatives within the college, thus jeopardizing the transformation.”

With the new Returned-Value Funding Formula, TSTC faculty and administration are able to operate around a strategy that prepares as many students as possible for well-paying jobs instead of simply recruiting as many students as possible.

“Academic programs have transformed into business units. We’ve built a culture of agile, data-driven analysis, and each business unit now tracks its performance in relation to our common objective using a real-time dashboard of key performance indicators. Our new Business Intelligence unit guides the college in seeing the relationships among the skills requirements of the labor market, the learning outcomes contained in our various credentials, and the employment and wage outcomes of our students.”

TSTC now routinely closes programs that are not performing well in the workforce and then reallocates funds to new programs that are more in-demand from employers. They also take an active role in their students’ job searches and have built stronger employer partnerships. Credentials are also becoming increasingly specific and shorter in length—all driven by employer skill-attainment preferences.

There are many lessons to be learned from the design of the Returned-Value Funding Formula at TSTC. The Texas Legislature consulted institutional leadership from the start and allowed them to drive the development of the formula based on TSTC’s institutional mission. TSTC and the Texas Legislature went all-in from the beginning, investing one hundred percent of their state instruction & administration funding into the formula and maintaining that system for a decade. This dedication allowed TSTC leadership to plan around the new formula. The formula design focused on the value students receive from education instead of how many students receive an education. And though not applicable to all higher education institutions, TSTC maintained an open admissions policy, eliminating concerns about improving student outcomes through biased admissions. Where applicable, these tactics can serve as the foundation for successful OBF design.

Policy recommendations

The success of OBF at Texas State Technical College offers a roadmap for states seeking to make funding for outcomes a more integral part of how they finance higher education. TSTC demonstrates that OBF can achieve its goals—and in some cases, it can be transformative.

But policy design matters, as does the commitment of state policymakers to the OBF model. Poorly designed or lazily implemented OBF systems usually do not work, as ample research on the subject has demonstrated. State policymakers must avoid falling into the traps that have bedeviled half-baked OBF schemes.

To that end, this section offers five key principles that OBF systems should abide by in order to achieve their goals. For many policymakers, the main goal of OBF is improving students’ earnings capacity—and higher earnings are indeed a primary reason that most students pursue higher education. But the principles outlined in this section may also apply to OBF policies with other goals.

Recommendation 1: Choose the right metrics

When designing an OBF system, the most fundamental decision policymakers must make is the metric to target. The metric chosen should be aligned with the institution’s mission and the goals of students who enroll at the school. Policymakers should remember that, most often, students’ top goals when pursuing higher education are securing a job and increasing their earnings.

TSTC has found success with OBF because it has a clear mission of workforce readiness. Its funding from the state is wholly dependent on the direct outcome of workforce readiness: its former students’ earnings.

Indeed, wherever possible, earnings should be the primary focus of OBF systems designed to target workforce readiness. OBF formulas should depend not just on the earnings of graduates, but of all students who enrolled at the institution for a significant length of time. An institution with decent earnings outcomes for graduates but a high dropout rate should be held accountable for dropouts’ outcomes as well; similarly, an institution that enrolls students who want to build skills without seeking a degree should enjoy rewards for those students’ outcomes as well.

Many OBF systems ostensibly targeting workforce readiness have erred by using degree attainment as the primary outcome metric. This is a mistake because degree attainment tells us nothing about the value of the degrees students are earning. For most students, the degree is a means to an end: they expect the credential to provide economic and professional  opportunities. At the very least, degree attainment metrics should be accompanied by a measure of the value of that degree to the student, the workforce, or society.

Some institutions and programs prepare students for careers in socially valuable but lower-paid occupations such as teaching and social work. While alumni earnings may not be the best metric for such programs, it is still possible to apply OBF. Policymakers could consider alternative indicators of workforce readiness, such as industry-validated curriculum and examinations, licensure exam pass rates, or placement in jobs related to the students’ education.

Other institutions may include academic outcomes in their missions in addition to workforce readiness. OBF for such institutions could target metrics such as third-party skill assessments, continuing education rates, or peer-reviewed research production. Institutions with such dual goals might have a portion of their OBF formulasfunding based on workforce outcomes and another portion based on academic outcomes.

The State University System of Florida provides one example of how an OBF system can tailor metrics to different institutions with different missions. Institutions’ boards of trustees are able to select one of the metrics on which their OBF allocation is based. Florida State University selected the number of bachelor’s degree recipients who pass an entrepreneurship class. For the New College of Florida, which has a liberal arts focus, the metric is the percentage of graduates who complete three or more “high-impact practices” such as theses, internships, community service, and other projects.

While other details of OBF design matter, the choice of metric is the most important decision policymakers face when they set out to create an OBF system. A strong choice of metric not only incentivizes better outcomes, but can alter the entire culture of an institution.

Recommendation 2: Support higher education accessibility

Critics allege that OBF policies ignore that it is often more difficult for certain groups of students to achieve the same outcomes as more advantaged students. Oft-cited groups of students in this category include low-income students, student parents, student veterans, rural students, and others. For instance, an institution serving rural students might do a good job preparing those students for the workforce, but if its students graduate into a rural workforce where wages are lower, the institution might perform worse on OBF metrics through no fault of its own.

Policymakers might consider addressing this issue when designing an OBF system. Specifically, an OBF formula could include outcome metrics specific to the student populations they wish to target and increase the rewards the formula offers for successfully educating these students. If the institution meets the OBF target for a disadvantaged student, that achievement could trigger a larger funding allocation than meeting the OBF target for a typical student. For instance, Texas’ new funding formula for community colleges gives extra weight to outcomes achieved by low-income students, adult learners 25 years or older, and students with weak academic preparation.

These changes to the OBF formula could be accompanied by additional funding for services that institutions might need to serve these populations well. Such services might include remedial education, tutoring, mentorship, academic advising, career services, and funding for internships or apprenticeships. Pairing such additional funding with OBF will help ensure that institutions are putting those extra resources to good use.

Recommendation 3: Keep OBF formulas consistent

OBF is meant to incentivize major changes at institutions. Some schools will need to add or remove entire programs, while others will need to overhaul student supports and other services to improve outcomes. These changes may take many years to implement, and it could be even longer until they show results. While TSTC’s outcomes-based funding formula began in 2011, it took the better part of a decade for former students’ earnings to see substantial increases. Such is the pace of change in higher education.

For this reason, policymakers should commit to their system of OBF and maintain its funding patterns for a long time. Institutions must have confidence that the changes they make today—which may be expensive and temporarily painful—will pay-off through increased funding many years from now. The OBF formulas must remain consistent over time, and states must fund their OBF systems every year. While minor tweaks to the formulas may make sense, the overall goals, metrics, and funding levels must maintain a strong degree of consistency to incentivize institutional planning.

Unreliable funding is perhaps the most common reason that existing OBF systems have failed to reach their goals. Departing from OBF in even a single year can send a signal to institutions that their efforts to change may not pay off. Policymakers that lack commitment shouldn’t be surprised when they don’t see the desired changes.

Recommendation 4: Keep incentives strong

While most states have incorporated OBF into their higher education funding regimes, only a handful allocate the majority of higher education appropriations through OBF. In many states, the percentage of funding allocated through OBF is in the single digits. When OBF as a percentage of overall funding is low, the incentives for schools to pursue the goals laid out in OBF formulas are weak.

One reason that OBF has been so successful at TSTC is that 100 percent of the institution’s state funding comes through the OBF formula. This is a compelling reason to produce good outcomes: if the institution does not produce results, it does not get paid. Considering that OBF is meant to encourage significant changes at institutions, allocating a higher share of funding through OBF results in a higher likelihood that schools will overcome institutional inertia and adopt costly, necessary reforms. Making those changes is less likely when OBF is responsible for only a small amount of funding: the juice is not worth the squeeze, so to speak.

Moreover, institutions that pursue OBF metrics with vigor will reap greater rewards when OBF’s share of their budget is high. Thanks to its improved outcomes, TSTC saw a 45 percent increase in state appropriations between 2014 and 2021 (in 2023 dollars). Such a handsome boost in revenue is the envy of many institutions. The word will get around that the path to a larger budget runs through better outcomes.

Recommendation 5: Incorporate a transition period

Because it will take time for institutions to make the necessary changes to improve outcomes, a transition period to ease them into a new outcomes-based funding system is optimal. This will avoid a sudden, catastrophic loss in funding and give institutions time to adjust to the new incentive structure.

Before making any changes to actual funding levels, state governments should publish institutions’ current outcomes data. They should also publish simulated funding levels that institutions would receive with their current outcomes, were the OBF system in effect. These data should be disseminated in an easily accessible way.

After this initial informational publication, the state government could consider implementing a “hold harmless” policy for two to three years. Institutions that already produce outcomes that would earn higher appropriation under OBF would get that funding, while institutions that currently would earn less under their current operations would retain access to the same appropriation as the previous year. When Kentucky passed OBF in 2017, they used a hold harmless policy for the first year of implementation (FY 2019).

States could also consider a “stop-loss” policy, under which no institution could lose more than a set percentage of their state funding each year. In Kentucky, after the initial hold harmless year, they used a one percent stop-loss policy in FY 2020 and a two percent stop-loss policy in FY 2021 so that no institution would lose more than three percent of their state allocation over the first three years of the OBF policy. Another option is to gradually increase the share of funding allocated through OBF over a period of several years. Nevada carved out the state funding for OBF from current state base funding over a four-year period: five percent in FY15, 10 percent in FY 2016, 15 percent in FY 2017, and 20 percent in FY 2018 and following years.

One or more of these transition policies will protect institutions from catastrophic or politically unpalatable losses of funding. Transition policies will also give institutions time to undertake the reforms that will enable them to be successful under an outcomes-based funding system. 

Conclusion

Outcomes-based funding offers a promising pathway to beneficial change in higher education. Linking funding for public colleges to the success of their students will refocus institutions’ attention on these success metrics. Texas State Technical College, a triumph of the outcomes-based funding model, illustrates how this can work in practice: when the school’s funding became directly dependent on its students’ earnings, the school made significant changes to boost w outcomes–and saw state funding rise as a result.

However, the design of OBF is critical to its success. Outcomes-based funding initiatives should choose appropriate performance metrics to target and make appropriate allowances for schools that enroll disadvantaged students. States need to commit wholeheartedly to OBF; underfunded or inconsistently applied OBF programs will not have the strong effect on college incentives that proponents hope for. While many states have experimented with OBF, the OBF programs which adhere to these principles have seen the greatest success.

Designed well, however, OBF can be a powerful tool to improve outcomes in higher education. At a time when Americans are losing trust in the value of college, policymakers should remember that labor market success is what most students say they want from their college experience. Aligning colleges’ financial incentives with students’ goals can help restore that lost trust.