Can Student Loans Now Be Discharged In Bankruptcy
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It’s one of the most intensely-debated student loan questions: Can you discharge your student loans in bankruptcy?
The short answer: normally, student loans are not dischargeable. However, that may change.
Here’s what you need to know – and why.
Student Loans & Bankruptcy: Overview
First, a quick overview. As many borrowers struggle to repay ballooning student loan debt, bankruptcy is one option that gets floated.
According to Make Lemonade, there are more than 44 million borrowers who collectively owe $1.5 trillion in student loan debt in the U.S. The average student in the Class of 2016 has $37,172 in student loan debt.
Student loans are now the second highest consumer debt category – behind mortgages, but ahead of credit card debt.
Unlike other consumer debt such as credit card and mortgage debt, however, student loans traditionally cannot be discharged in bankruptcy.
Why? Some can’t explain the rationale for the student loan “no bankruptcy” exception, but others say it grew from a concern that student loan borrowers could take advantage of bankruptcy laws, borrow a bunch of debt, earn a degree and then file for bankruptcy.
There are exceptions, however, namely if certain conditions regarding financial hardship are met.
The Brunner Test: Financial Hardship
In plain English, the Brunner standard says:
So, What’s Changed Now?
Why Student Loan Debt Is Treated Differently
Over the years, Congress has decided that good reasons exist to stop people from getting rid of their debts by declaring bankruptcy. For instance, Congress has made child support, alimony, certain tax debts, and criminal restitution non-dischargeable. The need to protect those types of debts from discharge is obvious. But after the federal government decided to start offering federal loans, Congress chose to do the same for student loan debt.
Student loans became non-dischargeable in the late 1970s when Congress added Section 523 to the U.S. Bankruptcy Code. The thinking was that the U.S. Department of Education should be protected from borrowers racing to bankruptcy after graduating. Over the years, Congress has amended Section 523 to protect different types of federal loans , and Federal Perkins Loans) and private loans.
Currently, Section 523 protects a student loan from discharge absent undue hardship if:
- it was made or insured by the federal government
- it was made under a loan program funded by the federal government or a nonprofit
- it is a qualified education loan according to the IRS’s criteria
All federal student loans are protected from student loan bankruptcy discharge. However, some private loans may not be. You can read more about discharging private loans here.
What Qualifies As Undue Hardship
Unfortunately, bankruptcy law is unclear on what makes undue hardship.
Congress never defined what undue hardship means, Kantrowitz says. They left it up to the courts to define it.
Bankruptcy courts are free to use two different tests to decide if the borrower is experiencing undue hardship the Brunner test and the Totality of the Circumstances test. According to Kantrowitz, the Brunner test is far more widely used.
Under the Brunner test, the debtor must prove three things.
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Can You File Bankruptcy On Student Loans
Filing bankruptcy on student loans is possible, but youll have to go through a difficult process to do so. To discharge your student loan debt through bankruptcy, you have to prove that you cant pay back your student loans without it having an extremely negative impact on you and your dependents.
Courts are left with some room to interpret your eligibility. Most, but not all, federal courts of appeal evaluate hardship using a set of standards known as the Brunner Test, which was established as the result of a 1987 federal court ruling, Marie Brunner v. New York State Higher Education Services Corp.
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Can you file bankruptcy on student loans? First, can you pass the Brunner test? |
The factors of the Brunner test are outlined by the U.S. Department of Educations Federal Student Aid office and include three main points:
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Other courts, namely the 1st U.S. Circuit Court of Appeals and the 8th U.S. Circuit Court of Appeals, rely on a different standard, known as the totality of circumstances, which considers your past, present and future financial resources reasonable living expenses and other relevant factors related to bankruptcy proceedings.
Which Assets Can You Keep When Filing Bankruptcy
In most cases, the following assets are what you may keep when filing bankruptcy in Canada:
- Your home, provided it has equity of less than $10,000
- A car or motor valued to a provincial limit
- Personal belongings and clothes
- Furniture, food, and tools in your house
- Some types of agricultural property
- Any RRSP, RRIF, RESP, and DPSP savings
If you have a lot of high value assets, it is worth discussing bankruptcy alternatives like consumer proposal or debt consolidation with your Licensed Insolvency Trustee.
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What You Should Know If You Cannot Pay Your Student Loans
It is very common for individuals graduating from university or community college to be burdened by significant debt. Often, this debt is from student loans. In some instances, students may also carry other types of unsecured consumer debt primarily credit card debt.
This article will address the key issues facing people who owe a significant amount of money because of student loans.
This is the Second Article in a Series of Four Dealing with Student Bankruptcy.To learn more about student loan debt and waiting periods, read on. You can also skip to another section by clicking one of the links below:
Two: Student Loan Debt & Waiting Periods
If you owe monies on your student loans and you wait long enough, it is possible for you to eliminate this debt by taking advantage of either a consumer proposal or personal bankruptcy. If, however, you do not satisfy certain waiting periods under federal law, your student loan debt will survive your bankruptcy or your consumer proposal. Therefore, you must proceed very carefully when student loans form all or a part of your debt.
When we talk about student loans, two waiting periods are key to the timing of making a consumer proposal or filing for personal bankruptcy:
Canadas insolvency laws punish those with outstanding student loans who file for personal bankruptcy or make a consumer proposal within seven years of ceasing to be a student.
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Cost To File Bankruptcy On Student Loans
The bankruptcy court does not charge court fees to file student loan bankruptcy. However, the fee you paid your bankruptcy attorney to file Chapter 7 or Chapter 7 did not include the attorney filing an adversary proceeding for student loans. Therefore, unless you find an attorney willing to file the AP at a reduced rate, you may have to spend several thousand dollars hiring a student loan bankruptcy lawyer.
Your Student Loan Discharge Options
While traditional student loan bankruptcy is not yet an accessible choice, some procedures can be tried to make student loans discharged, even though they are anything but easy. These procedures apply to each federal and private student loans and are outside the traditional student loan bankruptcy process. Congress got federal student loans ineligible for discharge to secure the solvency of the federal loan program. But, if borrowers can verify that they meet certain standards, exceptions have been made. The process is complicated though.
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Undischarged And Discharged Bankruptcy
After having your bankruptcy accepted, you become an undischarged bankrupt. At this stage of the process, creditors cannot chase you for payments and your bank accounts will be frozen. Youll also be placed under strict restrictions by your Official Receiver.
Undischarged bankruptcy typically lasts for one year, and then you will be discharged. When you discharge from bankruptcy, you are simultaneously freed from your debts as well. However, not all debts are dischargeable by bankruptcy.
Will student debts be written off at this stage of bankruptcy? We have the answer further below!
Your bankruptcy may include an order to keep paying a monthly payment to some creditors if you have an income. These debt payments can continue even after your bankruptcy is discharged for up to three years.
There are times when you can remain undischarged for longer, up to a maximum of 15 years. For example in cases of serious fraud or reckless financial behaviour.
Student Loans Are Treated As Nonpriority Unsecured Debts In Chapter 13 Bankruptcy
InChapter 13 bankruptcy, student loans are treated as nonpriorityunsecured debts just like credit cards and medical bills. This meansthat you are not required to pay them off in full through your Chapter13 repayment plan. Student loans receive a pro-rata share of the totalamount paid to unsecured creditors in your plan . As a result, Chapter 13 bankruptcy can helpdelay or reduce your monthly student loan obligations during the life ofyour bankruptcy . However, once your Chapter 13bankruptcy is over, you must continue to pay your student loans.
Undercertain circumstances, you may also be able to continue making studentloan payments outside of bankruptcy. However, whether you can do thisdepends on where you live. Most jurisdictions do not allow debtors topay student loans outside of bankruptcy because they believe it unfairlydiscriminates against other unsecured creditors by reducing the amountthey get paid through the bankruptcy.
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Student Loans After Bankruptcy
In Canada, student loans are treated a little differently to other unsecured debts because they are granted by the government. If you have been out of school for seven years or more, your student loan debt can be discharged by filing bankruptcy. You must ensure to have made effort to repay your student loans before you can have them cleared. In some rare circumstances, student loans can be considered for early discharge after five years. This would need to be based on evidence that effort was made to repay the student loans, including the utilization of assistance programs.
Student Loans And Bankruptcy
When one files for bankruptcy, the bankruptcy court may eliminate debts by “discharging” them. Debts that are non-dischargeable are those that generally cannot be eliminated through a bankruptcy filing and will need to be paid. For cases filed prior to October 17, 2005, a student loan may be dischargeable if the program under which your student loan was issued involved only for-profit, private entities. However, if the program is funded in whole or in part by non-profit institutions , the loan is not dischargeable in bankruptcy. For cases filed on and after October 17, 2005, and under current law, both federal and private student loans are not dischargeable in bankruptcy unless you can show that your loan payment imposes an “undue hardship” on you, your family, and your dependents. Historically, it has been very difficult to meet the requirements of “undue hardship.” Courts have generally disfavored discharge of student loans, but some courts will discharge part of a student loan if repaying it all would be an undue hardship. In order to have a student loan discharged on undue hardship grounds, you must file a separate motion with the bankruptcy court and then appear before the judge to explain your hardship.
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Student Loan Bankruptcy Reform Legislation
While a shift in the Department of Educations treatment of undue hardship bankruptcy cases for federal student loan borrowers would be significant, it would take an act of Congress to fundamentally and permanently change the bankruptcy code.
In August, a bipartisan group of senators unveiled the Fresh Start Through Bankruptcy Act. The bill, sponsored by Senator Richard Durbin and Senator John Cornyn , would amend the bankruptcy code to more easily permit federal student loan bankruptcy loan discharges.
Specifically, the bill would eliminate the undue hardship standard for federal student loan borrowers who have been in repayment on their loans for at least the previous 10 years, allowing these borrowers to eliminate their federal student loan debt as easily as any other type of dischargeable consumer debt. No adversary proceeding would be required. The 10-year waiting period would be similar to earlier bankruptcy legal standards for student loans decades ago, before Congress passed legislation establishing the undue hardship standard. Such waiting periods were designed to prevent fraud .
While the Fresh Start Through Bankruptcy Act enjoys bipartisan support, its fate is currently uncertain, as Congress is now focused on other pressing matters, including passage of President Bidens signature infrastructure and social spending bills.
Chapter 13 Bankruptcy Can Delay Student Loan Payments
Sinceyou are protected by the automatic stay, you do not have to makeregular student loan payments during Chapter 13 bankruptcy. Your studentloans will be paid through your Chapter 13 payments according to theterms of your plan. If you have little or no disposable income, you maynot have to pay anything towards your student loans in your repaymentplan. However, keep in mind that interest will continue to accrue onyour student loans during bankruptcy and you will still be required topay them back after your case is closed.
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Crushed By Student Loan Debt You May Get A Bankruptcy Option
Student loan borrowers crushed by five- and six-figure balances could have their payments forgiven under a bill introduced by federal lawmakers this week that would expand the nation’s bankruptcy laws.
If passed, the Consumer Bankruptcy Reform Act of 2020 would create a new Chapter 10 provision in the U.S. bankruptcy code under which student loans would be treated like credit cards, medical expenses and other consumer debt. Borrowers would be able to file for Chapter 10 and eventually have their student loan balance removed with the approval of a bankruptcy judge.
The proposal is part of a broader bankruptcy measure introduced Wednesday by Senator Elizabeth Warren of Massachusetts and Representative Jerrold Nadler of New York, both Democrats.
Filing for Chapter 10 would give “meaningful bankruptcy relief and give Americans a better chance to get back on their feet,” Warren said in a statement.
Can Bankruptcy Get Rid Of Student Loans
Filing bankruptcy can allow you to eliminate debt and get a clean slate financially, either through a structured payment plan or a liquidation of your assets. Many types of debt can be discharged in bankruptcy, but student loans typically aren’t included on that list.
It is possible to include student loan debt in your bankruptcy filing and get it approved by the court if you can prove undue hardship, but that process can be difficult. If you’re struggling financially and are thinking about filing bankruptcy, here’s how to know if your student loans are eligible.
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Continue To The Next Article Student Loan Debt And Waiting Periods
If you want to learn more about how to deal with your student loan debt then you should speak with a Licensed Insolvency Trustee. You can find trustees everywhere from Ottawa to Montreal, from Calgary to Quebec and more. Find one today!
You can also skip to any one of the article sections below to continue reading or re-cap on any information covered in this series of articles
Debts You’ll Still Have To Pay
These include:
- magistrates court fines
- any payments a court has ordered you to make under a confiscation order, for example, for drug trafficking
- maintenance payments and child support payments, including any lump sum orders and costs that have arisen from family proceedings, although you may be able to ask the court to order that you don’t have to pay this debt
- student loans from the Student Loans Company
- debts you owe because of the personal injury or death of another person, although you might be able to ask the court to order that you don’t have to pay this debt
- social fund loans
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Would Bankruptcy Become An Attractive Way To Get Rid Of Student Loans
Declaring bankruptcy is not an ideal option to deal with student loans because it comes with substantial immediate and long-term consequences. The immediate consequence is that bankruptcy can result in the sale of property to pay off debts. The longer-term consequence is that, depending on the type, Chapter 7 or 13, bankruptcy stays on credit reports for seven to 10 years. The substantial negative mark on credit reports means it will be more difficult to obtain a credit card, auto loan and mortgage. When any form of credit is obtained, the interest rates are likely to be much higher with a bankruptcy on record.
Another solution to a large student loan debt is to enroll in an income-driven repayment plan, such as Revised Pay As You Earn. These plans limit the amount of the monthly payment on federal student loans to a percentage of your discretionary income, which is the difference between your income and 150% of the state poverty guideline, adjusted for family size.
After 20 years of repayment for undergraduate loans , the remaining balance is forgiven. If the new bill becomes law, borrowers in income-driven repayment plans will have a choice. They can either pursue bankruptcy after 10 years and suffer the consequences, or continue paying through loan forgiveness.
