Filing Bankruptcy to Deal With Your Student Loan Debt? Here are 5 Things You Should Know!

Everyone knows that it’s very hard to discharge student loans in bankruptcy. But that is not the same thing as saying that student loans can never be eliminated through a bankruptcy filing. Ultimately, it’s the bankruptcy court judge that makes the decision on whether someone should be able to eliminate their student loans through bankruptcy. Here are the five things you should know if you’re considering bankruptcy to deal with your student loan burden.

Is Your Student Loan Really a Student Loan? If Not - You May Be Able to Discharge Your Liability! 

The concept of student loans is straightforward – a student or aspiring student applies for a line of credit to be used to pay for tuition and other educational expenses. However, not all student loans are created equal. Whether your student loan may be discharged by the bankruptcy court ultimately comes down to whether your student loan meets specific requirements and whether remaining indebted to your student loan creditors will cause you undue hardship. If your financial situation meets the criteria outlined by the court, your student loan may be discharged. If not, you’ll need to use other debt relief resources to make your student debt more manageable.

Student Loans - A Definition 

The federal Bankruptcy Code explains what kinds of debt are eligible for bankruptcy discharge. Under 11 U.S. Code § 523, it is made clear that a bankruptcy court cannot discharge student loans unless remaining indebted to student loan servicers will cause the bankruptcy filer and their dependents undue hardship. The key thing to note about this general rule is that the courts have traditionally taken a very strict approach to what it means to cause “undue hardship.” Simply not being in a position to meet your basic needs while burdened with student loan payments doesn’t tend to be enough “undue hardship” for courts to discharge student loans. Eliminating student debt under bankruptcy law is therefore a relatively rare occurrence. 

When thinking about your student loans, consider first who your servicer is. Did the federal government extend the credit for your educational expenses or did you obtain credit through a private lender? Or is your loan a personal one, perhaps bankrolled by your parents or another loved one? In the context of personal bankruptcy, the government considers student loans to be those lines of credit that are:

• Insured, guaranteed, or otherwise funded by the federal government or a nonprofit organization; or

• Created as an obligation to pay back credit received initially as a scholarship, stipend, or other educational benefit; or

• A loan that is classified as an individual qualified education loan per Section 221(d)(1) of the Internal Revenue Code of 1986 (which essentially means that it is a loan taken out solely to pay for the cost of attending a college, university, graduate program, or facility that offers training to be applied towards earning a degree or postgraduate accreditations)

Speaking practically, this definition may impact your bankruptcy filing in a few ways. First, if your student loan is actually a personal loan or is part of a larger line of credit used to pay for things other than educational expenses, it may be eligible for discharge by the bankruptcy court. Why? Because the bankruptcy court only considers certain kinds of loans to be student loans subject to the strict discharge criteria associated with “undue hardship” noted above. Second, if your student loans are classified as student loans by the bankruptcy judge assigned to your bankruptcy case, you’ll only be able to have them discharged if your situation meets the Brunner test, which is explained in detail later in this guide.

Getting Your Student Loans Discharged is Never Automatic

Every now and then someone asks whether the fact that their student loan lender received a copy of their discharge order means that their student loans have been discharged. Unfortunately, that is not correct. In order to discharge your student loans, the court has to make a separate finding that it would be an undue hardship for you if the loans are not discharged. 

To ask the court to make that separate finding, you must file an action separate from your original bankruptcy filing. This additional legal action is commonly referred to as an adversary proceeding. Technically, this means that you’re filing a lawsuit but practically speaking, you’re simply asking the court to determine whether your situation meets the undue hardship standard that allows the judge to discharge your student loan debt.

If you’ve filed for Chapter 7 bankruptcy, you’ll be permitted to file an adversary proceeding immediately after filing your case with the court. If you’ve filed for Chapter 13 bankruptcy, you may be permitted to file this additional action right away or you may wait until after a significant portion of the repayment period has elapsed. 

The timeframe for filing an adversary proceeding related to student loan debt in a Chapter 13 bankruptcy case will depend upon the state in which you’re filing bankruptcy and the reason for proceeding under Chapter 13 instead of Chapter 7. Once this action has been filed and served on your lender, the judge assigned to your case will decide your request based on the evidence presented during your student loan debt adversary proceeding.

What’s a Brunner Test and Why It Matters

When evaluating your adversary proceeding request, the court will analyze your financial situation according to the Brunner test. This standard helps the court to determine whether an undue hardship prevents you from paying back your federal student loans and/or private student loans. To accurately assess whether a student loan borrower faces undue hardship to the extent that student loan repayment is either unreasonable or impossible, a bankruptcy judge must seek the answers to three primary questions:

1. If the bankruptcy filer remains responsible for their student loan repayment plan, will they be unable to maintain a minimal standard of living and ultimately fall below the poverty line?

2. Is the filer suffering as a result of financial and additional circumstances that would make repayment a hardship on a permanent basis or (at minimum) for the remainder of their repayment term?

3. Has the filer made good faith efforts to repay their loan?

If the answer to all three of the above questions is “yes,” then the judge assigned to your case may choose to grant you a full student loan discharge or a partial discharge. Alternatively, if you aren’t granted a full or partial discharge, you may be able to secure a lower interest rate, negotiate a lower monthly payment amount, obtain an extension of your repayment period, or request a temporary deferment of your obligations.

You May Be Able to Discharge a Student Loan Even If You’re Income-driven Repayment Plan Has a Monthly Payment of $0

If you have set up an income-driven repayment plan for your student loans through the Department of Education, your current monthly repayment amount has been calculated based on both your income and the size of your household. Know that the bankruptcy court may opt to discharge student loans even if your IDR monthly payment obligation is $0/mo. If your IDR monthly payment obligation is either very low or $0/mo, this calculation by the United States federal government supports the idea that repaying your federal loans would cause you and your family undue hardship. 

If you haven’t yet applied for an IDR adjustment to your repayment terms, you should consider doing so before filing an adversary proceeding. Failure to do so may be seen as a lack of good faith effort on your part to repay your loans under the Brunner test.

Remember the Big Picture! Bankruptcy Can Give You Relief Even If You Can’t Eliminate Your Student Loans

Even if the court doesn’t discharge your student loans, know that the debt relief bankruptcy provides will likely make it far easier for you to pay back any debts that the court did not eliminate on your behalf. For example, if the court discharges multiple credit card debts, you can use the funds you’d ordinarily be paying back to your credit card companies to pay your student loan servicers. Filing for bankruptcy allows you to achieve a relatively fresh start financially so that you can start rebuilding your credit score and meeting your basic needs with greater ease. As a result, even if your student loan debts aren’t discharged in bankruptcy, you’ll still benefit significantly from being freed from other financial burdens that may be keeping you from making timely student loan payments right now.

Conclusion

Getting student loans discharged in bankruptcy is a relatively rare occurrence as this particular kind of debt relief is not granted automatically. However, if your situation meets the three-pronged Brunner test and it’s determined that repaying your loans would cause undue hardship, it’s possible to have them fully or partially eliminated by the court. Keep in mind that elimination of loans is not the only way to make repayment of student debt more manageable. Filing for Chapter 13 bankruptcy can help to make your repayment terms more affordable. 

Having other debts discharged in a Chapter 7 bankruptcy can free you to make your student loan payments with greater ease. If you don’t already have one, requesting an IDR modification to your repayment schedule can lower your monthly payment amount. Finally, requesting a temporary deferment while you catch up on missed payments (or simply take a breather from your monthly obligations) can also be helpful. Student loan debt doesn’t have to be an unmanageable burden on your finances. There are ways to make the challenges of paying off your student debt far less stressful than they might be right now.