Most discussions of financial aid focus on helping lower- and middle-income students afford college. Paying for college is often not possible for these families without assistance. How much aid they get and whether that amount is sufficient are critical questions in assessing the extent of college access and equal opportunity.
But what about students from higher-income families? The financial aid system may consider them able to pay the full price, but they also often pay less than that. Many colleges offer such students discounts in the form of merit scholarships or institutional grants.
Why do colleges discount prices for these students? How widespread is this practice? How do institutions use it strategically? What are the policy implications?
This is the first in a four-part series of reports exploring these questions. This part begins by defining the language of financial aid and explaining why colleges offer aid to students without financial need. The short answer is that colleges need the revenue that higher-income students generate to cover their costs. The challenge is to set a price high enough to bring significant revenue to the institution but low enough to attract them. This dynamic points to broader issues explored in the rest of this series: how a system that relies on discounting for higher-income students shapes pricing, competition, and college access.
Financial aid terminology complicates discussions about student pricing
In most markets, all buyers pay roughly the same price. But the market for higher education is different: Sellers (colleges) charge different prices to different buyers (students). The starting point is the “sticker price,” formally known as the “cost of attendance”, which is what a college charges before any financial aid. It includes tuition, housing, food, books, and other expenses. Sticker prices attract a lot of attention, but most students pay less than that because colleges offer them financial aid.
Some of that financial aid is based on a family’s financial need, which is awarded to lower- and middle-income students who are deemed to be unable to afford the sticker price. Families apply for such aid by submitting extensive information about their finances on the federal financial aid form known as FAFSA. The federal government uses FAFSA to calculate a Student Aid Index (SAI), which is an indicator of the amount a family can afford to pay. Some institutions also ask students to complete a supplemental form, the CSS Profile, which many private colleges use to determine the amount of institutional financial aid they provide. It requires greater financial detail and provides an alternative indicator of the amount families can afford; this is known as the Expected Family Contribution (EFC).
Students whose estimated ability to pay (SAI or EFC) is less than the sticker price have financial need; any aid they receive to help close that gap is labeled “need-based aid.” Such aid can be provided by the government, including Pell Grants, or from the colleges themselves. Because financial need depends on the sticker price, the same family may have financial need at a high-price institution but not at a lower-price one.
Students without financial need, whose families appear able to afford the full price based on the calculations, sometimes also receive grants or scholarships from the institutions they attend. These awards are often called “merit aid.” Some do reward academic achievement, but many function primarily as discounts designed to attract students to enroll.
The “net price” is the sticker price minus grants and scholarships that don’t have to be paid back. The net price is what students actually pay and the price that ultimately matters to students and families.
Colleges need revenue from higher-income students to help cover costs
Colleges are nonprofit institutions with educational and social missions, but they still need to balance their books.1 Payments made by students to cover their tuition, fees, housing, and food make up a large share of a college’s revenue. Governments also contribute, especially at public institutions. Some colleges, particularly private ones, can draw on endowment income; a small number have large endowments. But most institutions rely heavily on what students pay to cover their costs—and financial aid directly reduces that revenue.
To see how these financial pressures operate in practice, I compare the revenue colleges receive from students to their core educational expenses using data from 722 four-year nonprofit colleges and universities. The revenue data comes from the Common Data Set (CDS), a survey that many institutions complete.2 Data on core educational expenses comes from the federal Integrated Postsecondary Education Data System (IPEDS).3 I group institutions into five categories: public flagship and other highly research-intensive (“R1”) institutions; other public institutions; and three tiers of private institutions distinguished by the size of their endowment—small, large, and very large.4
Table 1 shows the results for 2024-25. Consider public flagship/R1 institutions, which represent 40.5% of undergraduate enrollment at these four-year nonprofit colleges and universities. Their core educational spending averages $37,179 per student—more than the $34,583 sticker price for state residents. This means that even if every student paid the full price for in-state students, student revenue alone would not cover core educational expenses.
But many students cannot afford the full sticker price. The average payment made by students with financial need (including both state residents and nonresidents) is $25,239, widening the gap. Funding from the state and federal governments help, but if that falls short, the books can only be balanced by enrolling students without financial need, especially those from other states. Those students face a much higher sticker price and still pay more even when they receive discounts in the form of merit aid.
Private institutions face a similar challenge. They still receive federal funding but no state support. At these institutions, the ability to use endowment returns to subsidize operations is critical. Those with small endowments depend heavily on revenue from students without financial need, even when those students pay less than the sticker price. Only institutions with very large endowments can afford to spend far more than they collect, averaging $124,908 per student in spending versus $57,286 in student revenue. Their endowments make up a large share of the difference. Only 36 institutions in this analysis, representing 2.9% of students, fall into that category.
The bottom line from this analysis is that student revenue alone often falls short of covering the full cost of educating undergraduates. Enrolling students who can pay more can help close a structural gap between what they spend on education and what they collect in revenue from revenue.
Colleges offer aid to students with no financial need to get them to enroll
The budget math shows why colleges need to enroll students without financial need but not why they offer those students discounts. Colleges would maximize revenue if those students all paid the sticker price or, at public institutions, the higher, nonresident sticker price. At first glance, offering discounts seems counterintuitive.
They do so because students have choices, and many institutions are competing to enroll them. Aside from their financial capacity, higher-income students have higher average academic achievement as well, which also increases institutions’ interests in enrolling them. A student who does not enroll generates no revenue.
Just because a student may have the ability to pay according to the financial aid formula does not mean they have the willingness to pay full price. The financial aid system is designed to measure ability to pay. One problem is that how much a family can afford is a nebulous concept. The formula generates a specific value that defines that amount, but many families find it difficult to pay the expected amount. For example, a student with family income of $200,000 might be expected to pay around $50,000.5 That means they would have no financial need as an in-state student at many public institutions. Could they afford $50,000 per year for four years to enroll? It’s hard to say.
Even if students could afford the full price at an institution, they may not be willing to pay it, especially when competing colleges offer a lower price. Only institutions with the strongest demand can fill their classes with higher-income students willing to pay the full sticker price. These are mostly highly selective institutions with very large endowments. For everyone else, competition forces the issue. Most private colleges compete with public colleges, which have considerably lower sticker prices, at least for state residents. Public institutions compete with counterparts in other states for students who can pay more. To attract these students, many institutions reduce the price, packaging the discount as a merit award or scholarship. In effect, colleges tailor prices to individual students based not just on financial need but on their likelihood of enrolling.6
Not all such discounts are unrelated to merit; some genuinely recognize academic achievement. But many are primarily a pricing tool—a way to enroll a student who will pay a substantial amount, even if less than the full sticker price. To survive economically, most colleges must attract higher-income students by providing these discounts.
In most markets, competition reduces prices for all consumers. But that isn’t necessarily the case in higher education. When colleges compete for students without financial need by offering price discounts, competition reduces prices primarily for higher-income students who could afford to pay full price—not for lower- and middle-income students.
Part 3 in this series will elaborate on these pricing strategies. The next part examines how widespread these practices have become across colleges and universities.