Cozy charter-school tie-ups bring risk of fraud, federal audit finds

Cozy relationships between charter schools and their management companies — in Michigan and nationwide — subject federal funds to serious risks of fraud and abuse, according to a federal audit that drew conclusions similar to those of a 2014 Free Press investigation of charters in the state.

►Related:Michigan spends $1B on charter schools but fails to hold them accountable

Auditors with the Office of Inspector General in the U.S. Department of Education say those cozy relationships are resulting in potential conflicts of interest, transactions between related parties that could result in self-dealing, and insufficient segregation of duties between the schools and their management companies. None of it is illegal, but the the audit cites examples of fraud caused by these practices and criticizes the education department for not providing federal oversight.

The audit, conducted from 2011 to 2013, states that a lack of separation between the schools and their management companies can lead to internal control weaknesses that open the door to waste, fraud and abuse; a lack of accountability over federal funds and little assurance that charter schools are following federal guidelines while implementing federal programs.

The findings, said Casandra Ulbrich, the vice president of the State Board of Education in Michigan, "should be a wake-up call."

►Related: Gains seen but more work needed for charter authorizers

"When you have really lax charter school laws, it becomes an open playing field for a lot of bad activity," Ulbrich said.

Dan Quisenberry, the president of the Michigan Association of Public School Academies — a charter school advocacy group — said Michigan has some of the strongest conflict of interest guidelines in the country for charter schools, after the Michigan Legislature toughened the law in 2012. However, the updated law wouldn't have addressed any of the weaknesses discovered in Michigan.

The Free Press investigation highlighted examples of board members, school founders and employees steering lucrative deals to themselves or insiders; charter schools whose buildings were owned by their management companies, which charged jaw-dropping rents; and accusations of kickbacks. The series noted that the state spends almost $1 billion in taxpayer money each year while demanding little financial accountability or seeing a strong return on its investment in academic performance.

Auditors looked at 33 schools in six states, including seven schools in Michigan. None of the schools was identified, but in Michigan they are in Holland, Kentwood, Orleans, Muskegon, Walker, and two in Grand Rapids.

This is what the audit says about Michigan:

• All seven charter schools had at least one reportable issue.

• Six of the charter schools had at least one potential conflict of interest.

• At one charter school, the management company's sole employee and the director of the charter school it managed were husband and wife.

• Four of the charter schools used the same external auditors as their management company, while two schools used the same attorney. Federal guidelines say a lack of separation of these two functions indicates a school isn't sufficiently independent from its management company.

• Another charter school's legal counsel was the sister-in-law of the charter school board president.

• Five of the charters had related-party transactions.

• Four of the charters leased school facilities from their management companies.

• One of the charters leased its facilities from an entity that provided contracted services to both the charter school and the management company.

One company "had significant authority over operations of three Michigan charter schools and one New York charter school," the audit said.

The boards of those schools, the audit said, had signed contracts that gave the management company control over all federal, state and local funds.

"The charter school boards did not approve expenditures throughout the school year or final expenditures. The (management company) was contractually allowed to retain all charter school funds not spent at the end of the year as the management fee."

Quisenberry said it's important to note that the audit didn't find anything illegal in Michigan schools.

"These are things to watch and monitor," Quisenberry said.

The auditors looked at federal funding the charters received, including funding that goes toward charter expansion, growth and replication; grants that go to schools with large numbers of disadvantaged students; school improvement grants, and special education grants

The auditors also looked at charter schools in California, New York, Florida, Pennsylvania and Texas. Schools were selected based on a number of factors, including findings from state and local audit reports, news articles about charter school relationships with management companies and the number of states in which a charter management company operated.

Given that "we judgmentally" selected 33 schools in six states, "the rate of occurrence of these internal control weaknesses cannot be projected to the universe of all charter schools with (management companies). However, through these case studies, we determined that similar systemic internal control issues could occur at other charter schools."

Quisenberry said those are important things to understand about the audit.

"As the OIG acknowledges, this was not any sort of scientific study," Quisenberry said. "So we can’t view the findings as being representative of the larger charter school community.”

The charter management organizations, both nonprofit and for-profit, either manage all operations of a school or handle smaller functions, including administrative, financial, compliance, human resources, professional development, instruction or facilities.

Quisenberry said he thinks one of the Michigan schools has since closed.

"The Michigan Legislature needs to take this seriously," Ulbrich said.

The State Board in 2013 adopted a policy statement calling on lawmakers to adopt laws that would require lease agreements to reflect market conditions, require charter authorizers to review and approve lease agreements, and outlaw the practice of management companies having control over both the school's budget and building.

The federal audit was released on the heels of the U.S. Department of Education announcement that eight state education departments would share in $245 million in funding to expand and boost charter schools. For the second year in a row, the Michigan Department of Education was rejected for the funding.

Ulbrich said she believes it's because of the state's lax laws. Last year, after Michigan lost out on its $45 million request, the Free Press reported that evaluators of the grant application raised concerns about the lack of oversight of charter school authorizers, among other concerns.

Contact Lori Higgins: 313-222-6651 or  lhiggins@freepress.com. Follow her on Twitter  @LoriAHiggins.