Alternatives To Bankruptcy For Student Loans
Since bankruptcy can be an expensive and cumbersome process, most experts see it as a last resort for borrowers. Consider bankruptcy after youve exhausted all other options, like debt consolidation, credit counseling and negotiating with creditors for a lower payment or interest rate.
If youre balancing student loan payments with other expensive, dischargeable debts like credit cards and medical bills, then bankruptcy may be able to provide relief. But if student loans are your only concern, consider these alternatives.
Criteria Based On The Borrower
- The loan must have been borrowed by a U.S. taxpayer.
- The student must have been the borrower, the borrowers spouse or a dependent of the borrower. For example, private parent loans are not considered qualified education loans if the borrower did not claim the student as a dependent. If the loan was borrowed by a grandparent, aunt or uncle of the student and the student was not claimed as a dependent, the loan is not a qualified education loan.
Bankruptcy Discharge Of Student Loans Is Very Rare
You cant simply wave a magic wand, announce to the world I declare bankruptcy and watch your student loans disappear. It isnt that easy.
In a 1981 bankruptcy court case, Judge Burton R. Lifland said that discharging student loans required a certainty of hopelessness, not simply a present inability to fulfill the financial commitment.
It is much easier to wipe away credit card debt, personal loans, auto loans and mortgages than student loans. The U.S. Bankruptcy Code puts student loans in the same category as child support obligations, taxes and criminal fines.
Statistics concerning the rarity of bankruptcy discharge for student loans are based on information provided by the Educational Credit Management Corporation . ECMC is the guarantee agency that services defaulted federal student loans when the borrower files for a bankruptcy discharge.
Only 29 of 72,000 student loan borrowers with active bankruptcy filings in 2008 succeeded in getting a full or partial discharge of their student loans, according to ECMC.
Thats 0.04%, or odds of about 1 in 2,500. Youre more likely to die of a heart attack or of cancer than to get your student loans discharged in bankruptcy. Still, the odds of discharging student loans in bankruptcy are better than your odds of winning the Powerball lottery jackpot.
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What About Private Student Loan Debtors
Unfortunately, the Education Departments efforts and new reforms like the Fresh Start through Bankruptcy act only cover federal student loans. It means, both attempts, if successful, will not help private student loan borrowers. The undue hardship is still required for such borrowers. Unless Congress passes legislation that involves private student loans, there is no expectation of improved conditions for bankruptcy on private debt.
Explain The Proposed Law To Allow Bankruptcy For Student Loans
If enacted, the bipartisan FRESH START through Bankruptcy Act would change the current law to remove the lifetime ban on student loan discharge in bankruptcy and replace it with a 10-year ban.
Under the proposed law, if borrowers can show that paying their student loans caused undue hardship during the first 10 years, then they can get it discharged after that 10-year period is over without having to prove that it would be an undue hardship from that point forward.
This change would only apply to federal student loans, not private student loans. Any discharge of private student loans, regardless of the repayment timeline, would still require proving undue hardship.
To help shoulder some of the financial cost to the federal government of this proposed change, the bill also includes an accountability measure for colleges and universities. The schools would have to reimburse the government for a portion of the discharged student loan amount depending on the cohort default rate and repayment rate of the institution at the time the first loan payment comes due.
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If Youre Drowning In Student Loans With No Solution In Sight You Might Have Considered Declaring Bankruptcy
Unfortunately, discharging student loans in bankruptcy can be one of the most challenging tasks in whats already a complicated legal process. Still, trying to get rid of student loans in bankruptcy can make sense for some borrowers. If you think it might be worth the effort, heres what you should know before getting started.
What Is Student Loan Bankruptcy
You may have heard that student loans cannot be discharged in bankruptcy. That statement oversimplifies the truth. You actually can get student loans discharged in some cases, but the bar is higher, and the process is more burdensome than it is for other types of debt.
Filing for bankruptcy to discharge student loans may get easier, though, if a recently introduced bipartisan bill is passed. The Fresh Start Through Bankruptcy Act of 2021, by Senators Dick Durbin and John Cornyn , would restore the ability for struggling borrowers with federal student loans to seek a bankruptcy discharge for their loans 10 years after the first loan payment comes due.
It would also make it possible to retain the existing undue hardship discharge option for private student loans and for federal student loans that have been due for fewer than 10 years.
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Stop A Foreclosure Repossession Or Eviction
The automatic stay will stop these actions as long as theyre still pending. Once complete, bankruptcy wont help.
- Evictions. An eviction thats still in the litigation process will come to a halt after a bankruptcy filing. But the stay will likely be temporary. Keep in mind that if your landlord already has an eviction judgment against you, bankruptcy wont help in the majority of states. Learn more about evictions and the automatic stay.
- Foreclosure and repossession. Although the automatic stay will stop a foreclosure or repossession, filing for Chapter 7 wont help you keep the property. If you cant bring the account current, youll lose the house or car once the stay lifts. By contrast, Chapter 13 has a mechanism that will allow you to catch up on past payments so you can keep the asset. Find out more about bankruptcys automatic stay and foreclosure and car repossession and bankruptcy.
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Expected Changes In Bankruptcy Student Loans
In October 2022, the Federal Student Aid chief operating officer informed Congress that the Education Department is working on improving the conditions for bankruptcy cases. He mentioned that the current rules for bankruptcy on student loans are not acceptable, and the process does not work well.
Therefore, the Education Department is working on new solutions to improve the bankruptcy process. Meanwhile, the advocates recommended the Education Department support the borrowers rather than oppose them. Such a shift could help some borrowers to get bankruptcy on student loans.
Yet, there is still no exact decision on the new rules. However, the FSAs chief operating officers notes create positive expectations from the process.
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The Osap Reduction Program
The Repayment Assistance Plan is the OSAP debt reduction program that the Canadian Government offers to students struggling to pay back their loans. This plan applies to the following loans:
- Canada-Ontario Integrated Student Loans
- Canada Student Loans issued before August 1, 2000
- Ontario Student Loans issued before August 1, 2001
- Part-Time Canada Student Loans
Eligible borrowers for the OSAP debt reduction plan will either be exempt from their monthly loan payments for the eligibility period or allowed to make affordable payments.
Student Debt Less Than Seven Years Old
If your student loan is less than 7 years old, then you still have student loan forgiveness options that can help make repayment of your student debt easier. Negotiate new payment arrangements. Try contacting the student loans office to negotiate a new payment arrangement. Repayment assistance is available through the National Student Loan Service Centre and their Repayment Assistance Plan. You can:
- Ask for a temporary reduction in payments including making interest only payments.
- Ask for more time to repay your student debt. You can extend your payment period for up to 14.5 years.
- Apply for a hardship reduction. The government will reduce your interest costs for the first 10 years and may reduce the principal owing after 10 years. However, you must prove financial hardship to qualify, including meeting an income threshold and approval is not guaranteed.
Be aware that the first two options will keep you in debt longer and will increase the total interest you pay on your student debt. The hardship option is the only option, other than bankruptcy or a consumer proposal, that will reduce the total student loan payments you make over time. If you are successful in negotiating new student debt repayment terms, do your best to maintain the payments to sustain your agreement. The area of bankruptcy and student debt can be complicated. We answer more questions on our student debt help FAQ page.
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Student Loans And Bankruptcy: How It Currently Works
While it is far from impossible to get student loan debt cancelled through bankruptcy under current law, it is not easy. To be successful, most student loan borrowers have to show that they have an undue hardship, which is a challenging legal standard. The bankruptcy code does not define in detail what it really means to have an undue hardship, so bankruptcy courts have had to step in to create rules and tests . In many states, student loan borrowers have to show that there is a certainty of hopelessness to their situation.
The process of even trying to prove undue hardship also presents challenges. A student loan borrower seeking to discharge their loans in bankruptcy court must initiate an adversary proceeding essentially, they must sue their student loan lenders in bankruptcy court to prove that they meet the standard. In most cases, student loan lenders including the U.S. Department of Education and U.S. Department of Justice will oppose the borrower. Adversary proceedings can be a long, exhausting, and if the borrower hires private legal counsel expensive, which can itself cut against their undue hardship argument. Meanwhile, lenders have significantly more resources than borrowers do, providing them with an advantage in court. As a result, many borrowers dont even bother trying to get their student loans discharged in bankruptcy.
Is Your Private Student Loan A Qualified Educational Loan
As stated above, if you have a private student loan, you may have other arguments available in addition to undue hardship. You can discharge private student loans in bankruptcy in a number of other ways.
There is a presumption that student loans in bankruptcy are non-dischargeable if they meet the statutory requirements. For private student loans, this requires the loan to be a qualified educational loan.
To be a qualified education loan, a private student loan must be:
- For an eligible student
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Can You Discharge Private Student Loans In Bankruptcy
Before 1976, borrowers could discharge private and federal student loans in a bankruptcy, just like credit card debt or medical expenses. But the introduction of the U.S. Bankruptcy Code in 1978 caused a major shift with regard to student debt.
At the time, the intent of Congress was to protect educational loans from bankruptcy abuse. The amended bankruptcy code stated that funds received as an educational benefit would no longer be discharged unless the borrower could demonstrate undue hardship.
Since the ability to discharge private student loans became limited, theres been much debate on the subject. In recent years, there have been a number of major court rulings that made it possible to discharge private student loans. Yet attorneys caution that those rulings still dont necessarily mean that all private student loans are dischargeable in bankruptcy at least not without special circumstances.
It appears as though the courts will eventually answer this question, unless Congress acts first. However, until that happens, the bankruptcy code allows for private student loans to be discharged in bankruptcy only if borrowers can meet the undue hardship standard.
The Totality Of Circumstances Test
A few states use the “totality of the circumstances” test. It might seem that this is an easier standard to meet because it doesn’t consider whether youve made a good-faith effort to repay your loans, such as consistent attempts to obtain employment, maximize income, and minimize expenses. However, the totality of the circumstances test also includes an any other relevant facts and circumstances component that could be broadly interpreted.
Under either standard, the bar to clear is high, especially for federal student loans, for which the government specifically states that the burden of proof is on the debtor to prove undue hardship.
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What Happens If The Bankruptcy Court Doesnt Discharge My Loans
Once you move forward with Chapter 7 or Chapter 13 bankruptcy, three possible scenarios might play out. You could see all of your student loans and other debts wiped away completely, your loan could be partially discharged or you could have to repay your loan under better terms, such as with a lower interest rate or monthly payment. You may also fail at having the terms of your loans changed at all during bankruptcy proceedings, which is a risk youll need to take.
If the courts do not find your claim of undue hardship adequate to qualify for bankruptcy, you may have no choice but to carry on in an effort to repay your loans. Some of the options you can consider at this point include:
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Consider Other Options Before Bankruptcy
Obtaining a bankruptcy discharge of your student loans is not easy, and fortunately there are other steps desperate borrowers can take before making this last-ditch effort.
“In proceedings where clients of ours have tried , if they can’t prove that they have no hope of paying back the debt, then the Department of Education usually responds by telling the borrower to enroll in an income-based repayment plan,” Hornsby explains.
Federal income-driven repayment plans recalculate your monthly bill based on any changes in your income. Your monthly student loan payment is therefore reflective of how much you can afford to pay.
Hornsby suggests income-driven repayment plans such as Pay As You Earn and Revised Pay As You Earn . With these programs, your credit score won’t be ruined like it would in bankruptcy proceedings, plus you’ll only need to pay 10% of your discretionary income. After the repayment period ends, any remaining balance is forgiven.
If your monthly payment is just too high, consider refinancing your student loans. Through refinancing, you can both score a lower interest rate and extend your loan term so that your monthly payments are lower. Though this means more months, or years, of interest collecting, it can help you in the immediate term if you are tight on cash.
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Procedure To Discharge Your Student Loan In Bankruptcy
If you want to try to discharge your student loan in bankruptcy, you must file an adversary proceeding to determine dischargeability with the bankruptcy court. But that’s not all. You’ll need to present evidence and prove to the court that payment of your loans will cause an undue hardship. It’s likely that you’ll need to retain an expert to testify about your ability to be gainfully employed in the future.
Broader Push For Student
A handful of recent cases have poked holes in the argument that student debt is forever. Last year, 51-year-old Katy Adams won a discharge of $41,000 in student debt when the government’s lawyers asked for the personal bankruptcy case to be dismissed before the judge could rule on whether she met the undue hardship standard.
A court in Nebraska relieved a 50-year-old grandmother of nearly $90,000 in debt, finding her prospects of finding higher-paying employment uncertain and her ability to continue working two jobs due to health conditions and the needs of her autistic grandson in her care unlikely. And a judge in Poughkeepsie, New York, made waves in a scathing opinion that cleared $220,000 of debt accrued by law school graduate and Navy veteran Kevin Rosenberg.
“ost people believe it impossible to discharge student loans,” Judge Cecelia Morris wrote. “This Court will not participate in perpetuating those myths.”
Amid a broader movement for student-debt relief, some Americans are pushing to make it easier to discharge old loans in bankruptcy. Senators Dick Durbin and John Cornyn introduced a bill last month to include student loans older than 10 years in bankruptcy proceedings, and penalize schools if too many of their graduates go bankrupt.
Loe, too, is hoping for a change in the bankruptcy laws. Until that happens, she said, “the No. 1 thing for people to understand is to not pay attention to the statistics.”
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Why Should I File Bankruptcy If I Have Student Loans
Even though your student loan may not be dischargeable in a Chapter 7 or Chapter 13 bankruptcy case, you might still greatly benefit from filing for bankruptcy relief. In a Chapter 7 case, you could discharge your other unsecured debts, making it easier for you to afford to pay your student loan payments.
The same is true in a Chapter 13 case. However, in the Chapter 13 case, some of your student loan debt is paid through the Chapter 13 bankruptcy plan, and the student loan is in forbearance. You are not required to make your student loan payments during your Chapter 13 case, but you will owe the loan and the interest when your bankruptcy case is complete. Some debtors make small payments to their student loan company during the Chapter 13 case to help reduce the debt while other debtors prefer to wait until the Chapter 13 case is closed to resume student loan payments.
