Student Loans- Bankruptcy Basics

Posted by Kevin on May 31, 2017 under Bankruptcy Blog | Comments are off for this article

The Bankruptcy Reform Act of 1978, referred to as the Bankruptcy Code, provided that student loans made by a governmental unit or a non profit institution of higher education was not dischargeable in bankruptcy unless (a) the loan became due before five years before the date of the filing of the petition (in plain English, after 5 years of payments), or (b) if not discharging the loan imposed an undue hardship on the debtor or the debtor’s dependents.   Note, private student loans were dischargeable under the 1978 statute.  Many students took advantage of the ability to discharge their student loans after five years.

Since in the 1970’s and 1980’s student loans were to be repaid in 10 years, many said that it was unfair to allow students, in effect, to wipe half their debt obligation by filing bankruptcy.  So, in the latter part of the 1980’s, the statute was amended to require 7 years of payments or undue hardship.   In 1998, Congress amended that statute again to limit the discharge of student loans only to cases where the debtor could demonstrate undue hardship.   In the meanwhile, the regulations relating to federal loans started to allow more flexibility in paying back student loans based on the borrower’s income.  Those income driven repayment plans morphed into today’s IBR, ICR and REPAY programs.

In 2005, once again, there were major amendments to the Bankruptcy Code under BAPCPA which states for the Bankruptcy Abuse Prevention and Consumer Protection Act (still trying to figure out where the consumer protection comes in). Under BAPCPA,  a debtor cannot get a discharge of a student loan unless the debtor can demonstrate an undue hardship on the debtor and the debtor’s dependents.  The types of student loans that are not dischargeable included the following:

1.  loans made, issued or guaranteed by a governmental unit;

2.  made by any program funded in whole or part by a governmental unit or non-profit institution: or

3.  any other educational loan that is a qualified education loan, as defined in section 221(d)(1) of the Internal Revenue Code, incurred by the debtor who is an individual.

Since many private loans are qualified education loans under the Internal Revenue Codes, private lenders received a windfall under BAPCPA- their loans became non-dischargeable but the private lender was not required to provide income driven repayment plans.

It is difficult to get a undue hardship discharge.  You must file an adversary proceeding (lawsuit) in the bankruptcy.   The test used by the bankruptcy court in New Jersey to determine undue hardship is called the “Brunner test”, and consists of the following:

1.  Based on current income and expenses, the debtor cannot maintain a “minimal” standard of living for the himself and the his dependents if forced to repay the student loans;

2.  Circumstances exist which indicate that the debtor’s economic situation is likely to persist for a significant portion of the repayment period of the loan(s); and

3.  The debtor has made good faith efforts to repay the loan(s).

The Court has wide latitude in either granting or withholding a discharge to student loans.  It also means that if you lose at the trial level, it is very difficult to get the decision overturned on appeal.  Obtaining a discharge of a student loan under the Bankruptcy Code is an expensive and not always successful way to deal with student loan debt.  However, given the right set of circumstances, it can eliminate your student debt.

Because of the difficulties of proving undue hardship, student loan lawyers have developed various strategies outside of bankruptcy arena to deal with the ever increasing problem of repaying your student loans. I welcome you to visit my student loan website (http://studentdebtnj.com) which provides more options in dealing with your student loan debt.