In most cases, you do not have many options when dealing with student loans in a personal bankruptcy. Over the past twenty years or so, Congress has changed the Bankruptcy Code to increase the protection offered to student loan creditors.
Student Loans Not Dischargeable Except in Rare Circumstances
If you or someone you know filed bankruptcy years ago, you may remember that student loans used to be dischargeable based on their age. If your student loan came due XYZ years prior to filing, it could be eliminated in a Chapter 7 or paid as a general unsecured debt in a Chapter 13.
In the 1980’s and 1990’s Congress began changing how student loans were to treated in bankruptcy. Under the current law, there are very few instances in which a debtor can use bankruptcy to discharge student loans. Bankruptcy Code Section 523(a)(8) disallows the discharge in bankruptcy of every type of student loan. This includes:
- government backed student loans such as NDSL, HEAL, PELL, Stafford, NDSL
- private student loans issued by banks or by colleges
- trade school student loans
- parent signed student loans
The Bankruptcy Code does provide for an “undue hardship” discharge, but, as a practical matter, you can only fully or partially discharge your student loan obligation if there is some special circumstance – usually with a medical basis – that leaves you unable to have any hope of paying your student loan. Courts will not find undue hardship if you try to argue that you have no job prospects that would allow you to earn enough money to pay back your loans.
In the Northern District of Georgia (which is part of the 11th Federal Circuit), bankruptcy judges follow a Second Federal Circuit decision called Brunner v. New York Higher Education Services Corp, which sets out a three part test to determine undue hardship:
1. the debtor must show that he cannot maintain, based on current income and expenses, a minimal standard of living for himself and dependents if forced to pay his student loans; and
2. the debtor must prove that additional circumstances exist indicating that this state of affairs (i.e. his current budget) is likely to persist for a significant portion of the repayment period of the student loans: and
3. the debtor must prove that he has made good faith efforts to repay the loans
As a practical matter, judges have been reluctant to grant undue hardship discharges. In reviewing several decisions in the Northern District and elsewhere where the Brunner test is used, the sticking points seem to be:
- what is a minimal standard of living? Is this the federal poverty level? Does one need to be receiving Medicaid or Section 8 housing? Do deferment programs allow the debtor to maintain a minimal standard of living even as interest and penalties add up? Do non-judicial wage garnishments of 15% of take home pay prevent a minimal standard of living?
- how can a debtor prove that his capacity for earning more or spending less is “likely to persist for a significant portion of the repayment period?” If a debtor incurred student loans, does that not mean that he has education and skills that would allow for more than an entry-level unskilled job?
- how can a debtor prove that he has made a good faith effort to repay the loans? Is it reasonable to refuse to move to a different state where better jobs are available? Can a teacher (who was an English major) turn down an opportunity to move to North Dakota to work a high paying job in an oil field?
Parents who borrow student loans to help pay for their childrens’ college get no special relief in the Bankruptcy Code.
It does not matter that your school has not provided any vocational help, and it does not matter if your school went out of business, even if the school closed down long before you earned your degree. Your student loan is not dischargeable in bankruptcy.
Many of the bankruptcy judges in the Northern District of Georgia have published decisions arising from undue hardship claims. In the few cases where judges found undue hardship, the debtor was afflicted with a serious medical problem that precluded most work. There have also been a few decisions where a judge forgave a portion of the debt but not all of it because of the remote possibility that an out of work debtor might miraculously find a high paying job.
You should also be aware that the protection against discharge applies to all student loans, whether “government backed” or not. The term “educational benefit” loan also applies to loans made directly by the school.
Chapter 7 and Student Loans
When you file Chapter 7, you should assume that your student loan will not be discharged. If you want to pursue a hardship discharge, you will need to file a pleading called a Complaint to Determine Dischargeability of Student Loan Debt. If you do not file this pleading, your student loan will automatically survive your bankruptcy. Dischargeability Complaints like this are expensive to pursue and, again, not likely to result in a favorable resolution – at least at this time.
You may be able to use bankruptcy to discharge your other debt and thereby increase your monthly disposable income to pay your student loans. Ginsberg Law recently represented a client who graduated college with over $100,000 of student loan debt, and no job prospects that would provide for a salary sufficient to pay that debt back. We were able to obtain a Chapter 7 discharge for this client, over objections by the trustee.
Chapter 13 and Student Loans
You can elect to include your unpaid student loan debt in your Chapter 13 case and pay it back in full through the Chapter 13 reorganization process. Generally you will pay your student loan directly to the loan creditor when you are in Chapter 13. Trustees in the Northern District generally do not object to direct payments of student loans in Chapter 13. This strategy is imperfect but in some cases it can make sense.
Non-Bankruptcy Relief Options
There are a number of non-bankruptcy relief options available to you. The Ginsberg Law Student Loan Debt Settlement Help website offers much more information about these options.
If your student loans were issued or guaranteed by the federal government you may have attractive options. The federal government has introduced the “IBR” and “ICR” programs. IBR stands for “income based repayment” and ICR stands for income contingent repayment. These programs use a formula to reduce your payments, based on your income and family size. However, ICR and IBR modifications will not help you if you are already in default or if your student loans are not government guaranteed. Again, visit the Ginsberg Law Student Loan law site for more information.
The ICR and IBR programs have not been widely used. Critics contend that the formulas are not reasonable and that the program suffers from administrative bloat.
If you are able to qualify for a deferment or forbearance, make sure to carefully read about all of the terms and conditions. What constitutes a default of the agreement? Will your tax refunds be seized. If debt is partially forgiven, will you get a 1099 for debt forgiveness?
Will Bankruptcy Disqualify me from Ever Getting Another Student Loan?
One of the issues that most concerns bankruptcy filers has to do with recovering from bankruptcy. While you can fairly easily recover access to most forms of consumer credit, student loan credit after bankruptcy may be more difficult to obtain. Here is what you need to know about student loans during and after bankruptcy.
Student Loans During Bankruptcy
Chapter 7 – Chapter 7 cases usually last only about 5 months before a discharge is issued so the question of whether you qualify while still in Chapter 7 rarely arises. If your Chapter 7 case is an “asset case” – meaning that there are assets that the Chapter 7 trustee is liquidating, your case may remain “open” for 2 years or longer. Our experience, however, has been that student loan creditors are more interested in the discharge date than in the date that the case is actually closed.
Chapter 13 – in a Chapter 13 case, you will be an active debtor for up to 5 years. If you want to apply for a student loan while your Chapter 13 is active, you will need to do two things: first, you will need to arrange for student loan financing (see below) and second you will need to obtain permission from the Chapter 13 trustee to incur new debt.
In the Northern District of Georgia, there are three Chapter 13 trustees, each of whom requires you to fill out an application for outside loan. On this application you will need to reveal when the loan payments start (usually after your case is over) and you will need to explain if your attendance at school will impact your confirmed Chapter 13 plan. If your household income goes down because you have left a job to go to school, you will need to file an amended Chapter 13 plan, serve the amendment on all creditors and resolve any creditor or trustee objections.
While it is possible to qualify for student loans during your Chapter 13, doing so is something of an uphill battle and you and your attorney need to prepare for questions from the trustee and/or creditors, especially if your trustee payments will be going down.
New Student Loans After Bankruptcy
Generally you will find it easier to qualify for federal, or government backed student loans than it will to qualify for private student loans. Federal law specifically disallows financial aid administrators from considering a prior bankruptcy as evidence of willingness or ability to pay.
Student loan administrators at colleges and universities can look at your payment history as evidence of credit worthiness, which is why we encourage our clients with active student loans to make every effort to keep those loans current while our clients are in Chapter 7 or Chapter 13.
Parents applying for PLUS loans can be denied based on a prior bankruptcy (although Stafford Loan eligibility should not be impacted).
Private student loan issuers are not subject to the same anti-discrimination rules as government or government backed loan issuers. Private loan issuers evaluate creditworthiness on a case by case basis but a prior bankruptcy is likely to be considered. Generally a Chapter 13 case (especially one with a 100% payout to creditors) will create fewer problems than a Chapter 7 discharge of all debts.
In researching this question I found a very helpful resource at finaid.org, which you can review by clicking on the link. Also, money expert Gerri Detweiler offered her take on this question recently – click here.