Study Finds the Net Present Value of a Law Degree is Highly Positive

The hot legal paper of the moment is undoubtedly The Economic Value of a Law Dregree by Michael Simkovic and Frank McIntyre who are respectively a law professor and professor of finance.

Their data-driven conclusion (p. 49) flies directly in the face of recent conventional wisdom:

After controlling for observable differences, we find that a law degree is associated with approximately a 60 percent increase in expected median monthly earnings and a 50 percent increase in hourly wages, as well as reduced risk of unemployment or underemployment. We find earnings differences between men and women, and that these differences are due primarily to differences in hours worked. The law degree earnings premium is cyclical and recent years are within historic norms. Applying reasonable discount rates, we estimate the mean lifetime value of a law degree in 2012 dollars as of the start of law school to be approximately $1,000,000 before taxes, and $700,000 net of taxes. Median pre-tax lifetime values are approximately $600,000 (after taxes, $420,000). This suggests that, for most law school graduates, the value of a law degree typically exceeds its cost by a very large margin.

Some other key findings:

  • [A] law degree increases both work hours and wages per hour, and most of the increase in earnings is due to increased earnings per hour. (p. 15)
  • The mean annual earnings premium is approximately $53,300 …. starting salaries are not very good predictors of lifetime earnings. (16)
  • Law degree holders’ annual earnings grow faster and peak later than bachelor degree holders (20).
  • “Even at the 25th percentile, the earnings premium is large …. on a percentage basis, the earnings premium is similar for those at the median and 25th percentile, and considerably higher for those at the 75th percentile. In 2012 dollars, the annual earnings premium increases from $17,300 at the 25th percentile to $32,300 at the 50th percentile, to $62,200 at the 75th percentile.” (22-23)
  • “The data does not suggest that law graduates were unaffected by the recession. Rather, earnings dropped for both law graduates and college graduates after the late 2000s recession, and law graduates maintained their relative advantage. It is this relative advantage—not absolute outcomes— that measures the value of the law degree. Our data suggest that law degree holders are not immune to economic downturns, but they have continued to fare better in the recent downturn than bachelor’s degree holders without advanced degrees. Moreover, long-term historic data remains a reasonable and appropriate data source to forecast future earnings premiums.” (32)
  • “Rounding to the nearest $10,000, we find that the mean value of a law degree is $990,000, the median is $610,000, and the 25th and 75th percentiles are $350,000 and $1,100,000 respectively. The Internal Rate of Return at the median is 13 percent in real terms, or approximately 16 percent in nominal terms.” (41)
  • “[E]ven at the 25th percentile, a law degree exceeds typical net-tuition costs by hundreds of thousands of dollars. At the mean and 75th percentiles, the difference is close to one million dollars. We therefore reject the claim that law degrees are priced above their value. Indeed, the value compared to net-tuition prices suggests that legal education is a competitive market in which surplus redounds to the benefit of student-consumers.” (41)
  • There is a large gender difference at the high end: “Rounding to the nearest $10,000, the mean value of a law degree is $1,030,000 for men and $820,000 for women. The median values are $580,000 each for both men and women, although the premium is higher for women in earlier years and higher for men in later years. At the median, internal rates of return are 11.5 percent for men and 14.3 percent for women. Higher earnings for men at the high end of the distribution are likely due to longer hours and increased labor force participation.” (42)
  • “Even at the 25th percentile of women, our estimate of the lifetime earnings premium of a law degree, $350,000, exceeds the typical cost of a law degree by a wide margin. That is, in spite of lower average lifetime earnings premiums for women compared to men, a law degree remains a good investment for most women who obtain a law degree.” (42)
  • These are pre-tax dollars, but the after-tax story, at current tax rates, is similar: “the mean after tax value of a law degree is $720,000 for men and $570,000 for women. For low earners, such as those in the 25th percentile, values should be multiplied by 0.75. For very high earners, such as 75th percentile men, or for those anticipating higher tax rates in the future, values can be approximated with a 0.65 multiple.”
  • The paper also presents data suggesting that the current law school ‘crisis’ is similar to previous cyclical downturns; they argue that the decision as to the value of law school should be based on relative earnings and unemployment to those with just a BA — to the extent everyone is doing badly now, law school graduates may still be doing well in relative terms.
  • Key point: “Because we discount our estimated law degree value to the start of law school, interested parties can multiply annual net-tuition by three and compare the results to our estimates of after-tax value.” (43 n. 109)

I should note four assumptions in the calculations, set out at pages 39-40, that I think increase the claimed value of the law degree, although I don’t think any or all of them would change the bottom line enormously:

  1. The authors assume that students graduate at 25 (thus giving them more years to realize the increased earnings).
  2. They assume that law school costs $30,000 per year in tuition and expenses (which they say is consistent with ABA data on average net tuition after scholarships and grants in 2010-2011) — this allows them to say the opportunity cost per year is c. $55,000, which feels low to me although I admit I’m not clear on whether in light of #4 below this number includes living expenses; if it doesn’t it might be reasonable.
  3. They assume law students earn an average of $24,000 in summer and term-time work during the 3 years of law school, which may be high.
  4. They assume costs of living while in school are similar to costs of living while working full-time and that “any differences reflect consumption benefits, and therefore need not be accounted for separate from opportunity costs of lower in-school earnings.”

It seems like a careful job. I do want to stress that the numbers offered are present discounted value in current dollars and that they do NOT take account of the cost of tuition. Thus, to figure out how these numbers work for a prospective student, the student would need to compare the total of three years of law school tuition with a PDV of income estimate adjusted for these factors:

  1. Age at graduation (the higher it is, the lower the PDV of the increase in the projected lifetime income stream)
  2. Tuition (but not living expenses unless they are much higher than the alternative)
  3. Lost salary during law school, after taxes (?), if much in excess of $25,000 per year
  4. Gender, if you think existing patterns of work and/or discrimination will continue
  5. Where you think you might be in the income distribution

Thus, to take a near-worst-case scenario assume you are a woman planning to graduate at age 25, who believe sex discrimination will continue, or that you may choose to drop out of the workforce, or take reduced hours, for a chunk of your career. Assume further you are risk-averse, and thus want to find out if a degree is a good value even if you earnings are at the 25th percentile in the class. [Note that the study ranked earnings by percentile, it did NOT estimate earnings by class rank, although we know there is some imperfect correlation. Thus the 25th percentile here is an income outcome not an educational outcome.] The present discounted value of your expected earnings is $427,500 (which is less than a similarly distributionally challenged male, who would have a PDV of $540,000). If your law school tuition and expenses (other than room and board you would pay anyway) are less than this in 2010 dollars, odds are you are making a smart bet in terms of net lifetime earnings. So if tuition is $160,000 total, and before law school you make $65,000 per year, you compare ($160,000 + (65,000 – 25,000)*3*[1-tax rate]) to the PDV post-tax value of the degree, which is $427,500. Because, say, $280,000 is less than $427,500, the law degree has a real positive net present value — over your expected life time, even if not in your first year out of law school. And of course the numbers are substantially better with less restrictive assumptions.

Note, however,that the analysis assumes you graduate. And it doesn’t attempt to take much account of the practical effects of an increased debt service burden when combined with undergraduate debt (except to note the historically low rate of student loan default for law grads as a group). Nor does it consider the effect that debt may have on your career choices or happiness. It could be that having less debt young might allow you to buy a house younger and thus be happier while having less money over all. But economists are not concerned with that sort of issue; this is a strictly financial calculation. Even so, it’s interesting work — and encouraging stuff for those of us engaged in the production of law graduates.

[Note: Latter part of next-to-last paragraph edited and expanded for clarity.]

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7 Responses to Study Finds the Net Present Value of a Law Degree is Highly Positive

  1. Jon Weinberg says:

    But that calculation relies on the assumption is that what we’re seeing now is in fact a cyclical downturn rather than a sea change. If today’s legal marketplace is fundamentally different from that of five years ago, the paper’s results are of more limited value. And because the paper doesn’t look at the earnings of people who graduated in the class of 2009 or later, it doesn’t have much to say about that.

    • That is correct. The authors make only two claims relevant to the structural change issue. The first is that the size of the current downturn in lawyer salaries is not historic compared to previous cyclical downturns. The second is that they are concerned about *relative* gains, and that to the extent that other professions are equally harmed by, say, globalization, their conclusions will still be valid.

      If one believes that there genuinely is a cultural transformation underway unique to (or nearly unique to) legal services then the paper is measuring the wrong thing.

      The study covers graduates through the class of 2008, but includes their earnings through 2011.

      A more serious limitation that I forgot to mention is that because it uses aggregates, the study treats all law schools as alike. They are not: different degrees have different expected values. OTOH, to the extent that law school admissions is meritocratic, it may be that the opportunity costs are somewhat correlated, i.e. that students offered places in top schools would have earned more outside of law schools than students offered places in Podunk would have earned outside of law schools. In which case the overall numbers may work well at least for most schools outside the extremes.

  2. Tyler says:

    $30,000 in tuition and expenses is laughably low. UM tuition alone is $44,000 a year, not to mention cost of living in Miami (build in another $20,000, minimum). Many students get some grants/ scholarships, but not where near all of them.

    $24,000 in summer and part time work (8k per year)? Please. Firms have taken to eliminating summer programs or making summer associates work for free or some token amount. Only those who summer at large firms make anything. And those large firms have severely reduced the sizes of their summer classes. One of my friends in town who summered at an AM Law 100 (top 50) firm in 2007 said there were 39 SAs at her firm that year. This year there are 4.

    The only other point I wanted to make is about interests rates on student loans. Interest rates, of course, vary greatly (high 3s for some fed loans to around 12 percent for a loan to take you through bar study). Even assuming a very low overall rate of about 4.5% and a total loan balance of 100,000, it is safe to say that person will end up paying about $200,000 for a $100,000 education. In other words, much a mortgage, it’s pretty reasonable to say that by the time you pay off your loans, you will have paid at least double the amount you originally took out.

    Anyway, thinking about this too much makes my blood boil remembering how I’m part of the Lost Generation of lawyers who were in school when the bottom dropped out. So that’s all I have – off to bother the whiskey bottle some more.

    • As I tried to make clear, the $30,000 number is AVERAGE and NET tuition and non-living expenses. The average includes public and private institutions, and the NET includes also all the scholarships and grants. Expenses include books, but don’t include food/lodging on the theory those net out with what you would otherwise be doing (you still have to eat if not in law school).

      I agree that the $24K number seems high, but even if the true number were half that, or zero, it wouldn’t change the overall conclusions, would it?

    • On the interest rate point, the authors do use a discount rate, which covers some if not all of that; that’s the point of present discounted value calculations. But your more general point — that the higher the interest rate you have to pay, the worse deal it is, holds as true for legal education as any other expenditure.

  3. Tyler says:

    This study only covers those who graduated in 2008 or before? Then the numbers are more understandable. So the study that comes out in 10-20 years should paint a picture more like the one recent graduates see every day: former law review members working at the YMCA or managing a grocery store.

  4. bobbins says:

    estimates of the economic value of law school are worthless without any way of measuring career ambitions/life plans etc. Regression with some observable characteristics isn’t even close to sufficient.

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