Student Loan Bankruptcy Hardship Options

Bankruptcy can offer several methods to help deal with student loans.  First, you can get a hardship discharge.  Second, if you don’t qualify for a hardship discharge, you can use the bankruptcy process to limit how much can be garnished and provide for food, shelter, and necessities (whereas just being garnished at full rate may make that impossible).  Lastly, you can use the bankruptcy process to discharge other debts to free up the cash flow to help pay the student loans.  Call us today for a free initial phone consultation.

Bankruptcy Options For Student Loans

Student loans can be handled in many ways.  This includes litigation, settlement, the use of forgiveness programs, bankruptcy, and other out of court possibilities.   This page is designed to focus on bankruptcy options.  However, even inside the bankruptcy, litigation, settlement, forgiveness programs, and other options are still possible.  So in essence, while we will emphasize bankruptcy options, all options are still possible if you choose to go down the bankruptcy path.

What Does Filing For Bankruptcy Protection Do For You?

We have filed bankruptcies for many clients with student loans and have obtained hardship discharges, avoided fraudulently obtained loans, and provided realistic repayments in chapter 13 plans while discharging non-student loan debt.  Here is a quick summary of how we like to answer this question for our clients.

  1. It stops any garnishment (it does not stop offset of taxes or other government benefits).  This applies in both chapter 7 and chapter 13 scenarios.  The garnishment is only stopped for the duration of the bankruptcy, so chapter 7 will stop garnishment for about six months give or take while a chapter 13 will stop garnishment for three to five years, depending upon your plan.
  2. It gives you a vehicle to file for a student loan hardship discharge under 11 U.S.C. 523(a)(8).  This applies in both chapter 7 and chapter 13 scenarios.  Despite word of mouth and many ill-informed journalists, you can discharge student loans in bankruptcy and it occurs more frequently than you think (though it is not easy and requires proper preparation of your case and presentation of your facts).
  3. It gives you a vehicle to litigate in Bankruptcy court (instead of state or federal) via adversary proceeding.  This includes instances of consumer protection violation, fraud, false certification, identity theft, mistakes or errors upon the amount owed, and any other student related matter  This applies in both chapter 7 and chapter 13 scenarios.  Class actions generally should not be litigated in bankruptcy court, particularly in a chapter 7.
  4. It forces a creditor to prove up the amount and ownership of any debt they claim is owed in a chapter 13 scenario.  Usually you may have to spend attorney fees on discovery to get this information.  In a chapter 13, you often get this information for free.  You also get a chance to object in the chapter 13 process to both the amount and the ownership of the debt.  It is possible to do the same in a chapter 7 but it is rare and usually only if some sum of money would be distributed inside your case.
  5. It discharges other debts to free up the cash flow to assist in paying your student loans.  If you do not qualify for hardship discharge of your student loans, discharging non-student loan debt is an excellent way of staying in compliance with contractual or program based repayments.
  6. It buys time for you to rehabilitate your loans and buy time to try to enter into a loan forgiveness program.  While the automatic stay of bankruptcy protection in place, you cannot be garnished.  This allows you time to try to rehabilitate your loans and find a more permanent solution while you can afford to make your rent or mortgage.
  7. It may allow for separate classification inside of a chapter 13 where you pay your student loans at full rate but other unsecured debts at only a fraction of what is owed.  If you pass the Wolff test, you can take advantage of the ability to separately classify student loans under the bankruptcy code.
  8. Chapter 13 can allow you to cure the arrears on a loan and make ongoing full payments while paying only a fraction of unsecured debts.  Pursuant to 11 USC 1322(b)(5), you can choose the option of paying the arrears and ongoing monthly amount even to the detriment of unsecured debts.

How Does A Hardship Discharge Work?

Update: Private Student Loans may become dischargeable.  Certain members of Congress and the Senate are pushing bills to allow for private student loans to be or more easily discharged in bankruptcy (avoiding the Brunner test as discussed thoroughly below).  See our Student Loan Legislation Updates Page.

Student loans that are not qualified as non-dischargeable will be discharged in either a chapter 7 or chapter 13.  If they are qualified as non-dischargeable, then you must qualify for a hardship discharge to discharge them.  See the below discussion of this analysis:

Controlling law: 11 U.S.C. 523(a)(8)

(8) unless excepting such debt from discharge under this paragraph would impose an undue hardship on the debtor and the debtor’s dependents, for—

(A)
(i) an educational benefit, overpayment, or loan made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or nonprofit institution; or
(ii) an obligation to repay funds received as an educational benefit, scholarship, or stipend; or

(B) any other educational loan that is a qualified education loan, as defined in section 221(d)(1) of the Internal Revenue Code of 1986, incurred by a debtor who is an individual;

Determining if your loan is qualified to be non-dischargeable:

The blue, red, green, and purple sentences must be met for a loan to qualify as non-dischargeable.

  1. Was the loan an educational benefit, overpayment, or loan?  So if you go to the University of Washington and they give you a loan to build pay for the ultimate graduation party, it is likely not within this meaning.
  2. Was the loan made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or nonprofit institution?  If you went to school in Germany and a private bank in Germany gave you a loan and there were no Government guarantees, it is likely not within this meaning.
  3. Did you incur an obligation to repay funds received as an educational benefit, scholarship, or stipend?  This usually applies to GI Bill, ROTC scholarships, and certain Work Repayment programs (where your job pays you to go to school but you quit prior to the number of years they required in return).
  4. Any other educational loan that is a qualified education loan, as defined in section 221(d)(1) of the Internal Revenue Code of 1986.  Basically did you go to an accredited school in an accredited program.  If you went to the Tacoma School of Cookie Monster Impersonation, it is probably neither an accredited school or program and would be dischargeable.

We can go over whether your loan applies to each of these factors and determine if your loan is dischargeable outside of a hardship context.  This is far easier than qualifying for a hardship discharge.  If your loan is qualifying as non-dischargeable, then you have to see if you qualify for a personal hardship discharge.

Determining if you qualify for a hardship discharge:

The orange line represents the only statutory text regarding the hardship discharge.  Case law has developed to define what hardship means.  The seminal case is Brunner to define this and is often referred to as the Brunner Test.  The factors the Bankruptcy Court will consider are as follows:

  • If you cannot maintain a minimal standard of living for yourself and your family
  • If your current financial situation is likely to continue for the foreseeable future
  • If you have tried to repay your student loans in good faith

Let’s unpack this test.  The court generally takes a very harsh view of these standards though it will vary from judge to judge.

What does “you cannot maintain a minimal standard of living for yourself and your family” mean?

To some, a daily cup of Starbucks or your preferred local coffee shop feels like a necessity.  The court disagrees.  You are generally expected to have no more than a modest home, modest car, modest lifestyle, mow your own lawn (unless there is a disability), pack your own lunches and make most of your own food (eat out rarely), have few to no vacations, etc.  Do you have a guest room?  They may expect you to be renting it out.  This is not an impossible standard but it is slightly more luxurious than living like a Spartan warrior or Tibetan monk.  We have had clients meet this standard so it is doable but there will be belt tightening in most instances.

What does “if your current financial situation is likely to continue for the foreseeable future” mean?

Generally this is your career trajectory and is it possible or likely during the course of the loan repayment term to improve it?  An example of someone who would potentially fail this test would be a 30 year old doctor who is in the middle of their residency.  While things seem bleak and you are living on Ramen noodles, you will likely make a lot of money in the future.  An example of someone who meet this standard is a person in a small town who works as a teacher and has maximized their pay scale and is maybe ten years from retirement- their income is likely not going to change or improve.  This test really means have you reached your glass ceiling and could you be young enough to find a higher ceiling?

What does “if you have tried to repay your student loans in good faith” mean?

This is a tricky test and very personal.  If you have done nothing but sit in forbearance for a decade, some judges will determine you fail this factor while others are fine with it.  If you have been in default, this is a big negative factor, but if you have tried rehabilitation and gotten back on track you may be deemed to have met this test.  Generally, if you have never been in default, have paid some money towards the loan, and have only used forbearance when you really needed to, you should pass.  This is also a vestige of the pre 2005 bankruptcy code changes where the test was did you try to repay for seven years.  Most judges are old enough to remember this as current law and old laws sometimes become unspoken traditions.  We usually like to at least see seven years of attempted repayment to maximize your chance of meeting this part of the test.

These sound like very hard standards to meet, is it possible to meet them?

Yes.  We have obtained discharges for clients and other attorneys who are skilled in both bankruptcy and student loans have had success here.  It will not be easy and there will be belt tightening and life style changes likely required to meet the standards.  But we can get you there if the facts and law provide for it in your unique personal circumstance.

How Does Litigation Inside Bankruptcy On Other Types Of Actions Work?

Hardship discharge under 11 USC 523(a)(8) is not the only way to get a student loan discharged or to avoid it.  We can also file an adversary proceeding to determine dischargeability for other reasons.  The most common is fraud.  Did someone else fake your name on a parent plus loan or did a school falsely certify you for loans you did not apply for?  We can prove the fraud and avoid the loans.  We can also sue for other violations of law.  If you are suing for things other than hardship discharge, you do not have to meet the hardship standards of 11 USC 523(a)(8) or the Brunner test.

How Does Objecting To A Student Loan Proof of Claim Work?

In a chapter 13 (and sometimes chapter 7), a creditor must submit a document called a proof of claim where they must prove up with admissible evidence and documentation the amount of a loan that is owed.  Their math or chain of title documents are not always correct.  Sometimes the interest calculations are wrong, sometimes they have added too much in collection fees, other times they lack documents.  We can object in these situations and if successful avoid some or all of a student loan.  Potentially, we can use evidence obtained from a proof of claim to file counter claims or an adversary proceeding for damages.

How Does A Chapter 13 Bankruptcy Plan Protect Me?

Chapter 13 provides many options to resolve student loan debt.

  1. Stops Federal Wage Garnishment immediately
  2. Provides the ability to file for Hardship Discharge or an Adversary Proceeding to Litigate other issues ranging from fraud to consumer protection violations to standing issues.
  3. Provides the ability to object to the student loan Proof of Claim and requires the Creditor to provide support documents to establish the amount and extent of the student loans
  4. Separate Classification: The bankruptcy code allows you to classify some debts for higher repayment rate and others for a lower rate.  This technique means you pay your student loans and only a fraction of your other unsecured debt.
  5. Repay all arrears and ongoing payments in full while providing only a fractional amount of unsecured debts pursuant to 11 USC 1322(b)(5).
  6. Provides time to consolidate, apply for hardship programs, or other repayment programs while limiting payments to what your discretionary income allows.

If you would like to learn more how chapter 13 can help, give us a call for a free initial phone consultation.

How Does A Chapter 7 Bankruptcy Protect Me?

A chapter 7 bankruptcy offers only a limited amount of protection compared to a chapter 13.  Primarily, a chapter 7 operates to discharge unsecured debts to free up cash flow in order to pay back student loans as well as being a vehicle to file for hardship discharge.

How Does A Chapter 20 Bankruptcy Protect Me?

A chapter 20 is a chapter 7 followed by a chapter 13 (hence chapter 20).  You use the chapter 7 to get rid of unsecured debts.  You use the follow up chapter 13 to pay the otherwise non-dischargable student loan debt.  If you are considering a hardship discharge, this should be done inside the chapter 7 as you are qualified for discharge.  Whatever portion survives can be amortized into the subsequent chapter 13.

Questions?

We offer a free initial phone consultation as well as paid in depth review, analysis, and strategy sessions.  If you are concerned about your loans and would like to understand your options, call us at 206-535-2559 to schedule to speak with an attorney.