If someone offered you an exceptional long-term investment with an annual return of 15% and an attractive dividend for life, wouldn’t you take it? Long-term returns like that are hard to find. And, there is one out there available exclusively for you: a college education.
Now, college is not for everyone, and there are many ways to improve your skills, knowledge, and earnings power through other education and training. We’ll use college as our example today. The rationale is applicable to other skills and development opportunities although the returns will vary.
Is College Really Worth It?
I had a conversation not too long ago with someone who was questioning whether it was a good idea to pay for a college education.
We discussed the rising cost of tuition, student loan debt, and job availability. And, what about the cases of underemployment where college graduates worked in jobs that didn’t require a degree?
It’s a crucial question.
As you will soon see, these examples are lessons for us that others had to learn the hard way, but not enough to change the outcome on average.
The Economic Benefits of a College Education
Federal Reserve Bank of New York economists Jaison R. Abel and Richard Deitz published a study: “Do the Benefits of College Still Outweigh the Costs?”
They analyzed four decades of data and found that the investment in a college associate and bachelor’s degrees yielded an average 15 percent return over the past decade when compared to what is earned without one.
There is no guarantee the earnings patterns will hold in the future. And, these are average outcomes, so some individuals will experience better or worse results than these estimates suggest.
Still, uncertainties exist in all investments. So, don’t let the uncertainties deny you the exceptional long-term investment returns of college eductation.
Exceptional Long-Term Investment Return through Lifetime Earnings
The life-cycle wage profiles for each education group was used to determine the benefits associated with earning a college degree over an entire lifetime.
Where else can you find a high return investment of that duration? No day trading needed here!
As illustrated in the graph below the wage differentials by education are key to determining whether a college degree is a good investment. Details on the assumptions used in the study can be found here.
Average Annual Wages by Education, 1970-2013 (Thousands of Dollars)
Source: FRB of New York, U.S. Census Bureau and U.S. Bureau of Labor Statistics
Those with a bachelor’s degree earn over $1 million more than high school graduates. And, those with an associate degree make about $325,000 more. This assumes they entered the workforce only after finishing their education.
In a Georgetown University study, “What’s It Worth: The Economic Value of College Majors”, the authors conclude: “In the United States today, there is no more certain investment than a college education. On average, college graduates make 84 percent more over a lifetime than their high school-educated counterparts.”
Yet, many may fail to realize this potential for vast wealth creation because they focus on the upfront expense and not the benefits. A college education is an exceptional long-term investment.
The Direct Cost of College
A college education requires an upfront commitment of money and time. A high school graduate not in college and working is used for comparison.
The direct costs include the expenses associated with college and not incurred in the base case.
College tuition, for example, is a direct cost for college students but not a high school graduate who didn’t go to college.
Both college students and high school graduates (not in college) pay for room and board. We all have to live an eat somewhere, right? So, they are not attributed to the cost of a college education.
The “Sticker Price” is the published tuition and fees for attending either a two or four-year college. Data from the College Board and the U.S. Department of Education show most students don’t pay the “Sticker Price” for a college education.
“Net Tuition” is the actual price paid. It varies significantly from the Sticker Price due to many forms of financial aid and grants from the colleges themselves.
It represents the out-of-pocket expenses paid by the average student after grants, concessions, and tax benefits. The exceptional long-term investment returns of college eductation are often masked by headline sticker prices.
Annual Published and Net Tuition, 1970-2013 (Thousands of Dollars)
Source: FRB Bank of New York, U.S. Bureau of Labor Statistics, U.S. Department of Education
The Opportunity Cost of College
Opportunity costs are the benefit or value of something given up to acquire something else. An opportunity cost of going to college is the income you can’t earn while attending college.
In this study, for example, it’s the income a high school graduate would earn working instead of attending college. It’s the alternative use and value of time working at a job if you don’t go to college.
The most significant cost of college are by far the opportunity costs. Abel and Deitz estimate a bachelor’s degree student would forgo almost $96,000 in wages, or four times net tuition costs.
The associate’s degree student would forgo almost $46,000 in wages. Subsidies for an associate’s degree, living at home for example, offset the tuition cost. The lost income is the primary cost of the associate’s degree.
The Total Costs
Total costs include both direct cost (net tuition) and opportunity cost. These costs are real but they are more than offset by exceptional long-term investment returns of college eductation discussed further below.
To earn a bachelor’s degree in 2013, the average student would have paid $26,000 in tuition and fees and foregone about $96,000 in wages for a total cost of about $122,000.
The associate degree total cost was about $43,700, made up of mostly the wage opportunity cost for that typically two-year degree.
Abel and Deitz conclude: “Overall, despite the steady rise in tuition, the total cost of a bachelor’s degree has not changed that significantly over the past several decades, ranging between $110,000 and $130,000…the total cost of an associate’s degree…followed a similar pattern, remaining in the $40,000 to $60,000 range over the same period.”
Alternatives to College
The alternatives to college include advancing your skills and education through continuing education classes, certifications, in-person or online courses and training, webinars, and reading anything related to the skills and knowledge you wish to improve.
Whatever and however you choose, an exceptional long-term investment is yourself.
Summary
There are no guarantees in life, but the facts on a college education are clear. A college education may be your best long term investment ever if you keep in mind these facts:
- An associate or bachelor degree provides an exceptional long-term investment with an average 15% return per year.
- Over a lifetime a bachelor’s degree earns $1 million more and an associate’s degree makes about $325,000 more than high school graduates.
- In “Stocks are the Best Investment,” we saw that stocks (S&P 500 Index) and bonds (10 Year T-Bills) produced average annual returns of 10% and 4.9% respectively.
- The numbers are clear, an investment in a college education returns 50% more than the average stock market return.
- It provides almost four times what the average individual investor will realize in the stock market as discussed in “The Rational Investor.”
- A college education return is high in spite of rising tuition and student debt due to the college wage premium.
- Also, a college degree can significantly increase your quality of life along with Net Worth.
You may still decide college is not the right thing for you but if you do it will be an informed decision. You know you may be giving up to $1,000,000 in additional future lifetime earnings on average.
In future posts we’ll discuss strategies that can significantly improve these average outcomes more in you favor.
References:
Do the Benefits of College Still Outweigh the Costs? by Jaison R. Abel and Richard Deitz
Trends in College Pricing 2013 and Student Aid 2013
What’s It Worth?: The Economic Value of College Majors by Anthony P. Carnevale, Jeff Strohl, and Michelle Melton
The Rational Investor