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Tuesday, November 13, 2012

Reforming Legal Education's Finances: How to Cut Tuition?

Yesterday I posted about the choice between cutting tuition and cutting class size.  My conclusion was that whatever money schools had to "spend" on reductions in revenue, rational schools would always choose to reduce class size over cutting tuition.  This is an oversimplification -- cuts in tuition can also attract better students, and therefore lead to better incoming credentials and higher bar passage rates.  And in fact many schools have been cutting tuition (in various ways) this year. So what are the pros and cons of the different methods?

There are three basic paths to cutting the costs for students: cut the "sticker" price, offer merit scholarships, and offer a loan repayment assistance program (LRAP).  Cutting the sticker price sends a market signal to all potential applicants and reduces costs for all students.  Since it applies across the board, it may seem (or be) more equitable.  However, merit scholarships allow the law school to apply the advantages of price discrimination; the school can pick and choose the price for each applicant based on the desirability of that applicant.  Merit scholarships thus allow the school to improve its incoming class credentials more directly, which in turn helps the US News ranking.

Students may also be attracted to a school based on a generous loan repayment assistance program.  In addition, an LRAP pays the money out on the back end, as opposed to the upfront losses that price cuts and merit scholarships entail.  But because many applicants will be less certain about how the program will benefit them, the tangible effects on applicants will be diminished.  In addition, there is more uncertainty for the school, as the number of alums who would be eligible for assistance cannot be clearly staked out ahead of time, unless the school limits the program in some way.  Costs are thus more uncertain.   Merit scholarships are also uncertain, however -- at least if the school offers more in scholarship money than it actually has to spend. And LRAPs do have the advantage of targeting those students who more clearly need the money, whereas merit scholarships often reduce costs for those who have the best chances of securing higher-income employment.

So what do you think?  How schould schools cut tuition, and are the various incentives correctly aligned?

Posted by Matt Bodie on November 13, 2012 at 11:25 AM in Life of Law Schools | Permalink

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How Law Schools Could Save Students $150 Million http://spotlight.cali.org/2012/07/18/how-law-schools-could-save-students-150-million/

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This sends a message to law students that law schools are doing something innovative, serious and substantive to increase the value and quality of legal education and reduce the cost.

This idea leverages the benefits of electronic books and ubiquitous internet connectivity and exposes law faculty to 21st century technologies that are becoming de rigueur to their students.

The result provides a remixable foundation of electronic course materials that is a starting point for innovation in courses and curriculum design.

Posted by: John Mayer | Nov 13, 2012 11:38:26 AM

I just wanted to add one additional benefit of LRAP programs as compared to across the board (or selective) reductions in tuition. LRAP programs are cheaper to run than tuition reductions for each dollar in reduced cost of attendance. This is true both for the reason you mentioned, namely the timing of the payment (or discount) but also because of the way an LRAP program interacts with the Income Based Repayment program. An LRAP program that provides benefits to persons working in public service loan forgiveness eligible employment, and with an income cap for participation, can pay off a students full cost of attendance (tuition and living) at considerably less than the princple amount of the debt. I will illustrate with an example.

Say a student attends a highly ranked New York City Law School, well known for its commitment to public service, at full sticker.

Full cost of attendance at this school is 78,112 dollars per year, for three years this will leave a student with 234,336 dollars in student loans, and the law school with 153,450 dollar of tution payments (tuition is 51,150 dollars per year).

Assume the student works in the public sector for 10 years, making an average of 70,000 dollars. After these payments the balance will be forgiven. The total loan payments the law school will have to make under an LRAP program which covers their full would be 670 dollars per month (calculated using the governments calulator on the IRB website). 12 payments a month for ten years comes to 80,400 dollars. Both the payments to the student, and the relief of the debt at the end of the period are tax free. Thus, at the end of the day the law school has made 73,050 dollars from this transaction (tuition less LRAP payments) and the student has not paid a dime (and got free living for 3 years).

This does not take account of the time value of money (which runs in favor of the law school for the most part) or the risk of a law change, or failure to secure PLSF eligible employment (which is born by the student). Nevertheless, I think the above shows how LRAP programs, including ones far less aggressive than the above, might well be attractive options for reducing the cost of a legal education.

Posted by: Jesse | Nov 13, 2012 12:07:16 PM

I mentioned in the original thread that an increase in merit scholarships should be considered pernicious inasmuch as they are forward looking regressive (i.e. the students most likely to find a highly compensated job are the very ones getting the discount.)

LRAP, assuming that the guidelines are drawn broadly enough, flip this on its head, and become progressive. That said, few schools follow Harvard's style of LRAP allowing for anyone in a low paying job. Many instead limit their programs to high prestige but relatively low paying jobs in the government or non-profit sector. These jobs are increasingly difficult to get for those towards the middle and bottom of the class in lower ranked schools. So if it is a choice between a narrow LRAP and a headline tuition reduction, the latter is preferable.

Posted by: brad | Nov 13, 2012 12:52:23 PM

Brad-

I fully agree with you on the likely distributional effects of the above outlined tuition polices. Even though at the high end, LRAP can be quite a give away.

But I am wondering why you think it wise for a law school to consider the distributional effects of its tuition system. A law school is an extremely poorly designed system for redistributing wealth. The vast majority of students, even at low ranked law schools who do poorly, are unlikely to be so poor as to be attractive candidates for charity.

It would probably be better for a law school to adopt a revenue/reputation maximizing strategy and dedicate some of the funds it produces either to just direct giving to very low income people or to the provision of free legal services for them. Either one is likely to improve welfare more than the reduction in cost to law students who are poor when compared to other law students.

I will concede though that if the revenue was going to be about the same, and you thought the distributional consequences of law school finance were really important, it might be worth considering. Though again there is a collective action problem in the current rankings world where the charitable law school will be punished. This effect might end up harming the very people it was intended to help.

Posted by: Jesse | Nov 13, 2012 1:38:43 PM

Are need based scholarships just off the table?

Posted by: Derek Tokaz | Nov 13, 2012 4:04:26 PM

Up front need based scholarships for graduate work is tricky. Some are coming straight from college and nominally have little to no assets, while in reality having a reasonable expectation of parental support. While some older students have income / assets but many more financial commitments, and stand to lose that income while they were are in school.

Posted by: brad | Nov 13, 2012 5:22:28 PM

I agree with Brad that the regressive aspect of merit aid is odious. The fairest way to charge students is to eliminate merit aid entirely (leaving only need based), which would cut tuition across the board for everyone, at some schools by as much as 25% to 30%. The problem is that competitors would pick off the high LSAT/GPA students with scholarship offers.

That said, IBR changes things in a significant way, especially the new more generous terms (monthly payment is 10% of income above 150% of poverty rate/cancellation after 20 years). Because loan payments are tied to income, not to the level of debt, IBR makes borrowers less sensitive to high debt--a debtor pays the same amount (based on income) no matter how large the debt. (The main catch is that for non public service jobs the amount forgiven is taxable.) Law schools can thus tell any prospective student likely to end up on IBR that beyond a certain level the size of their debt is irrelevant.

Setting aside the potential negative social consequences of IBR--keeping afloat law schools that would otherwise go under because they do not make economic sense for students--it interacts with our current pricing system of tuition-increases-plus-merit-based-aid in an interesting way.

If we assume that students in the middle and bottom half of the class at many (private) law schools are likely to end up on IBR, then increasing tuition does not really add to their ultimate burden (tax implications aside). Nor are the students at the top significantly affected by tuition increases because they get increased merit aid.

Hence, in this scenario, law schools should raise tuition as high as they can. The students at the bottom don't feel it (owing to IBR). The students at the top don't feel it (owing to scholarships). And law schools reap additional revenue with a clear conscience about the regressive financing system (ameliorated by IBR).

Win-Win-Win! Problems solved. (Thanks taxpayers.)

I'm being sarcastic, but my point is a serious one: the economics of legal education are seriously distorted by the federal loan system on the front end and the back end. We'll see how long this financing system continues.

Posted by: Brian Tamanaha | Nov 13, 2012 6:44:34 PM

From an incoming students perspective, I don't think the LRAP/IBR option is going to influence the decision that much. There is just too much uncertainty: Will I be able to get a job that qualifies, will the LRAP be fully funded with so many students trying to take advantage, will IBR continue, and if so, will it continue unchanged ...

If you look at the employment stats for Jesse's "highly ranked New York City Law School, well known for its commitment to public service" you will see that about 25% work in the public sector and another 12% work in school funded jobs. So more than a third of the school's graduating class would qualify for the LRAP. How long can the math work on that?

http://www.lstscorereports.com/?school=nyu

Reduced tuition (whether across the board or in the form of individual aid/scholarships) is a much more attractive option. Or at least should be, if students are really thinking through all possibilities.

Posted by: Dean | Nov 13, 2012 7:18:00 PM

Of course the downside to LRAP is that it needs to be funded - and unless the law school is going to come up with a pre-funding method that means that it will be funded on a pay as you go basis. I think it is a pretty safe guess that the attraction of LRAP for many prawfs is in reality that it "kicks the cost can down the road" so that the law school can avoid cuts today - prefunding LRAP would keep the can at their feet, with the pay and faculty cuts happening now.

The problem though is that if the school makes a binding commitment to LRAP and, as seems likely, the market forces down the number of matriculating students and tuition (and if it is to sensible levels that is a 50/60% cut in both), the school will have to fund LRAP out of a diminishing revenue flow. In effect what is being proposed here is that law schools commit to a new and massive overhead when market signals are that their revenues are going to decline rapidly over the next decade or so - that is simply crazy.

This sort of self serving naivity is what results from so many prawfs having so little practice experience. Any lawyer who had represented corporate clients would have spotted the flaw in the LRAP idea immediately.

Posted by: MacK | Nov 14, 2012 8:54:43 AM

A couple of thoughts:

(1) The market could use some standardization here, as to the terms of the LRAP, vesting requirements, and the amount of prefunding necessary to ensure that the school doesn't come up short. In a way, it's like pension plans pre-ERISA; perhaps we need an ERISA-like system of requirements that is adopted by the AALS, the ABA, or the feds. Of course, the downside is that just as ERISA ended up making defined benefit plans less desirable for employers, regulation could make LRAPs similarly unpalatable for law schools. But the regulation might still be preferable if a lot of schools start setting up LRAPs that have overly stringent pay-out requirements, do not vest, and/or explode because they are not properly funded.

(2) I'm surprised that in the face of criticism about law school tuition rates, the feds made IBR more friendly towards law schools. It's strange when the International Committee of the Fourth International and the New America Foundation agree on something, but here are the respective excerpts:

http://www.wsws.org/articles/2012/nov2012/loan-n13.shtml

The primary beneficiaries will be students who have taken on very large loans for graduate school. Because of federal loan maximums, those merely getting a four-year degree will not benefit. In fact, the report states that middle-income earners who start with salaries under $33,000 and later earn $63,000 or more for the majority of their repayment period, “will actually pay more and for longer due to the pending changes.”


http://www.businessweek.com/articles/2012-11-02/obamas-new-pay-as-you-earn-plan-a-windfall-for-mbas

The big winners under this are graduate students because they can borrow a lot. This is a huge giveaway to graduate students, especially if they are earning high incomes after repayment. Undergraduates can’t borrow enough, so the change is very marginal to them. If you’re only paying $20 a month, a 33 percent reduction in monthly payments is not that big a deal. But if you are paying $800 a month, a 33 percent reduction is a big deal.

Posted by: Matt Bodie | Nov 14, 2012 9:28:23 AM

@Brian Tamanaha,

Of course, that forgiven balance under IBR at the end of the 25/20 year period is counted as realized income by the IRS. Given that IBR does not stop the freight train of principalizing interest, those unlucky souls on IBR for the full duration could very well be looking at a tax bill for far beyond what they initially borrowed, as their IBR payments never surpassed the amount of interest being tacked on the balance. A tax bill they will certainly be unable to pay...

And of course, this is in the alternate universe where IBR is around in the 2020's and 2030's. The one estimate I have seen - from Barclays - pegs the costs of IBR through 2020 as at least $225B. There's no way it's going the distance - it will be killed in some deficit compromise or austerity program or simply from "entitled Millenial" resentment long before anyone sees their loans forgiven under it.

A more elegant solution, to my eyes, would be to make law schools guarantee any and all loans to attend their institutions, as well as bear the costs of defaults of any graduates/dropouts. Call it retributive justice for all the years of fabricated job and salary statistics and the collective, breathtakingly avaricious run-up in law school tuition nationwide. Hell, make these measures retroactive, too - karmic payback for Congress making the nondischargeability of student loans retroactive.

Posted by: Unemployed Northeastern | Nov 19, 2012 10:24:43 AM

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