Bankruptcy Laws & Student Loans

Strict bankruptcy laws govern student loan discharges.

Depending on the type of bankruptcy you file and the types of debts you owe, your financial obligations will be handled differently during bankruptcy proceedings. While relief from most unsecured debts, such as credit card debts and medical bills, is readily available through bankruptcy, student loans present a greater degree of difficulty during bankruptcy and often cannot be discharged.

Significance

Student loans are notoriously hard to discharge through bankruptcy regardless of whether the loans were extended by the federal government or a private lender. Thus, filing for bankruptcy solely with the hope of extinguishing student loans is often a lost cause. The U.S. Bankruptcy Code does contain special provisions for individuals who suffer from a permanent disability that prevents them from working or individuals who suffer from a financial hardship that is unlikely to improve. In these isolated cases, discharging student loans through bankruptcy is possible.

History

The U.S. Bankruptcy Code was established in 1976. Prior to 1976, an individual could discharge overdue student loans that he could not pay through bankruptcy. The original U.S. Bankruptcy Code allowed consumers to continue to discharge student loans made by private lenders in bankruptcy, but made discharging federal loans nearly impossible for most debtors. The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 amended the original U.S. Bankruptcy Code to provide the same protections from discharge for private lenders that previously only applied to the federal government.

Features

In order to secure a bankruptcy discharge of a student loan, an individual must provide solid proof that circumstances beyond his control make paying off the loan impossible by placing an undue hardship on him or his family. What constitutes a hardship varies depending on the laws present in the debtor's jurisdiction. Ultimately, the bankruptcy judge must review the debtor's financial situation and decide if the debtor is capable of ever improving his income to a degree that would allow him to repay his debt. If not, the student loan may be discharged.

Considerations

Debtors hoping to get a bankruptcy judge to approve an undue-hardship discharge of their outstanding student loan debts must file a separate motion with the bankruptcy court to request an undue-hardship discharge. If, however, a debtor files a repayment plan through bankruptcy that proposes to pay the principal of the loan and discharge interest charges, the lender has the option to reject or accept this plan. Should the lender accept a repayment plan from the debtor that discharges any interest owed, filing a separate motion requesting an undue-hardship discharge is unnecessary.

Warning

In many cases, a debtor may decide to withdraw her bankruptcy petition after filing.
This is common in cases where a debtor files for bankruptcy only to discharge a particular debt that she later discovers is not dischargeable. If the bankruptcy case is a Chapter 7 case, however, whether or not to grant the debtor a dismissal is at the discretion of the judge in the case. This may result in an individual's attempting to withdraw a bankruptcy petition after discovering his student loan cannot be discharged, only to be forced to proceed with the bankruptcy and allow the court to liquidate his assets.

References

• Cornell University Law School: U.S. Bankruptcy Code - Chapter 11 - section 523 (a)(8)
• FinAid: Student Loan Bankruptcy Exception
• Federal Student Aid: Loan Cancellation and Discharge
• Supreme Court: United Student Aid Funds Inc. vs. Espinosa
• TheBKBlog: Voluntary Dismissal of Chapter 7 Not Always Available

Resources

• Lawyers.com: Student Loans in Bankruptcy
• NOLO: Student Loans - Cancellation, Deferment and Forbearance