(Reuters) - When Diana Valle decided to intern at a bankruptcy firm during law school, she had no idea how useful the experience would prove - in her own case.
Shortly before graduating from the University of Maryland School of Law, the 26-year-old Valle, burdened with $150,000 in student debt and with no immediate job prospects, filed for Chapter 7 personal bankruptcy protection.
“I was really thinking it would be much easier to get a job,” said Valle, who now lives with her mother and recently landed legal contract work through a temp agency. “I knew it was bad, but I didn’t think it would be this bad.”
Valle, who represented herself, found out the hard way that federal law prohibits courts from discharging student-loan debt except in cases where repayment would create a so-called “undue hardship” on the debtor - a difficult standard to meet.
It’s a sad irony of the Great Recession: Law students are borrowing an average of $106,000 for private schools or $70,000 for public schools at a time when there are fewer legal jobs to help them pay off the loans. And that’s brought a rise in defaults, leaving some like Diana Valle turning to the courts to help them cope with huge debt loads.
Although no definitive data tracks how many law-school students and recent graduates have declared bankruptcy, observers say law graduates face a “perfect storm” in which average law-school debt is up 50 percent between 2001 and 2010 and is now outpacing graduates’ earning power.
“If you did not go to a top 40 law school and finished in the top 25 percent of your class, you’re not going to get one of those jobs,” said Jordan Abshire, principal of attorney recruiting agency Lateral Link. Abshire said that since 2008, he has seen more attorneys with a few years of experience filing for bankruptcy, often carrying a new home mortgage on top of their student loans.
Bruce MacEwen, law firm consultant and president of JD Match, an online attorney job service, said he would be “shocked” if bankruptcy filings hadn’t gone up among law graduates since 2008. He said the financial predicament for law graduates from lower tier schools is especially dire.
“It’s a tragedy,” he said.
Consumer bankruptcies overall were actually down by 11 percent in 2011, but several indicators, such as student-loan default rates, suggest that law students and graduates have not benefited from this trend.
At Access Group, one of the largest private lenders to law school students in the country, law-school loan defaults started rising in 2008 and peaked toward the end of 2010, when students were defaulting at twice the expected rate, according to president and CEO Christopher Chapman.
Chapman said default rates began a decline after that, but he acknowledged that the drop may be influenced by the fact that Access has not issued any new student loans since Congress passed a law in March 2010 effectively stopping private lenders from issuing government-backed student loans.
For all types of student loans, which include undergraduate, graduate and professional students, defaults rose to 8.8 percent in 2010 from 7 percent in 2009 - the latest year that data was available from the U.S. Department of Education.
Bankruptcy filings by college graduates also increased by 20 percent between 2005 and 2010, according to 2011 findings by the Institute for Financial Literacy.
The debt load on students is made worse by the shrinking legal job market. Since January 1, 2008, major law firms have laid off about 5,900 attorneys, according to the Lay-Off tracker at lawshucks.com, a blog that tracks law firm hiring. That is about 5 percent of all attorneys at the 250 largest law firms, according to the National Jaw Journal. (The U.S. Department of Labor does not collect job data on attorneys specifically.)
For the first time, law school students graduating with the median amount of law school debt are unable to make ends meet if they make the median starting salary - about $63,000 in 2010 - said James Leipold, executive director of the National Association for Law Placement, at an attorney-recruiting conference in New York last month.
“There’s a mismatch between the amounts law schools charge and the pay most graduates receive,” Leipold said. “It doesn’t work.”
Most law graduates enter the profession with far less debt than the University of Maryland’s Valle, but the availability of borrowed money can be enticing, Bourne said.
Misty Kennedy, 34, took out about $145,000 in loans to attend Appalachian School of Law in Grundy, Va. She graduated in 2005 and filed for bankruptcy in March 2010.
“I asked for the maximum amount of loans, and it was just handed to me,” she said. “I thought, spend now and pay later, when my income grows.”
One of Kennedy’s creditors is Wilmington, Del.-based Access Group. Access CEO Chapman declined to comment specifically on Kennedy’s case, but said the company maintains high lending standards.
“Even in the flush times when credit was easy, we were always careful about maintaining lending and underwriting standards,” Chapman said. “While many lenders reduced their standards, we held firm. And it cost us some loan volume. We try to err on the side of caution.”
After graduation, Kennedy moved to Knoxville, Tenn., where she found work as in-house counsel for a general contracting company, but she was laid off in 2008. In September of that year, she opened her own law office in Tazewell, Tenn.
Kennedy said that she has net income of $1,000 a month, which makes it nearly impossible to pay the $700 a month she owes on her law school loans.
Kennedy filed for Chapter 7 bankruptcy in 2010. In 2011, a Tennessee bankruptcy court determined repayment would not be an undue hardship.
“ financial difficulties stem, in large part, from her own personal choices,” the court ruled. But declaring bankruptcy can provide some relief to those in Kennedy’s position. While her law school debt remains, the court discharged her personal debt of $36,000.
Meanwhile, the American Bar Association, which accredits U.S. law schools, is in the process of changing its rules to require more transparency in the job-placement data that schools report about their graduates. That change comes amid concerns - and, in some cases, lawsuits against schools - that schools were publishing incomplete or misleading numbers to make the employment picture seem rosier.
Last month, ABA President William Robinson stirred controversy when he told Reuters that it was “inconceivable” that people in a position to go to law school would not know “that the job market out there is not as opportune as it might have been five, six, seven, eight years ago.” After the story was published, an ABA spokeswoman said Robinson’s remarks were used out of context.
At her practice in Tazewell, Kennedy said is looking for ways to bring in more cases so she can make her loan payments. For now, she is not optimistic.
“It’s bleak, and very discouraging — especially this many years out of law school,” she said.
Reporting by Leigh Jones and Moira Herbst; editing by Jesse Wegman and Edward Tobin