Navigating Financial Aid During and After Bankruptcy: A Step-by-Step Guide

Bankruptcy Law and Federal Student Aid: What You Need to Know

Bankruptcy exists to help people who are struggling financially get a fresh start. While there is some stigma around consumer bankruptcy in the U.S., this legal tool is a successful lifeline for thousands of families who are buried in debt, including student loan debt. Filing bankruptcy has its pros and cons, but it will not prevent you from getting federal student aid.

Also, though many people believe you can’t, you actually can file bankruptcy on student loans. In fact, the process for discharging federal student loan debt in bankruptcy got easier at the end of 2022. Upsolve is helping federal student loan borrowers erase their debt as part of their Chapter 7 filing. See if you’re eligible for help now.

You can file bankruptcy on private student loans as well, but this process remains legally difficult. Many filers opt to hire a bankruptcy attorney to help erase private student loans. Upsolve can provide a legal referral for a free consultation if you have private loan debt.

The Bankruptcy Code Protects Most Student Loan Borrowers

The Bankruptcy Code (the law that governs the bankruptcy process) essentially protects bankruptcy filers from being discriminated against when it comes to federal student loan eligibility. Under the law, government agencies that offer student aid (loans or grants) can’t deny aid to someone who is in or has filed bankruptcy. 

The same rule applies to anyone in the business of offering loans that are guaranteed or insured under a student loan program from the federal government. This can get complicated, but we’ll talk more about different types of loans later.

For now, here’s what you need to know:

• You can’t be denied federal financial aid because you’ve filed bankruptcy in the past.

• Government student aid providers can’t hold nonpayment of a dischargeable (or discharged) debt against you. 

• You can get federal loans while in Chapter 7 bankruptcy. 

Importantly, this does not apply to private student loans. Private lenders may look at your credit report and credit score to determine your eligibility for loans, including private student loans. They use your creditworthiness and other eligibility information to determine whether or not to lend to you.

What Kind of Financial Aid Can You Get if You’ve Filed Bankruptcy?

Generally speaking, you can get federal financial aid even if you’ve filed bankruptcy. There are many different kinds of federal student aid, but the two broadest categories are aid that doesn’t have to be paid back and aid that does have to be paid back.

Financial Aid You Don’t Have To Repay

Some types of federal aid don’t have to be paid back. These usually come in the form of grants, scholarships, and work-study jobs. These can be very helpful in offsetting the cost of college, but they don’t always cover the full cost of attendance. This is why many people turn to student loans to cover the difference.

Financial Aid You Do Have To Repay

There are two main types of student loans: federal loans and private loans. Federal student loans are backed by the federal government. Private loans are issued and backed by private financial institutions like banks and credit unions.

Regardless of which type of student loan you get, you’ll have to pay it back, including interest, with a monthly payment during a set repayment period. To apply for federal student aid, simply complete the Free Application for Federal Student Aid (FAFSA) form. According to the U.S. Department of Education, financial need is one of the primary eligibility requirements for most federal financial aid programs.

To apply for private student loans, you’ll need to find a private lender and go through the application process with that lender. Each application process will vary depending on the terms of each lender or loan servicer.

Can You Get Federal Student Loans if You’ve Filed Chapter 7 Bankruptcy?

Yes. You can get federal student loans if you’ve filed for bankruptcy. And if you’re planning to file for bankruptcy, the process to erase your federal student loan debt is now easier.

The main federal student loan program is the Direct Loan Program. It offers four types of direct loans:

• Direct Subsidized Loans

• Direct Unsubsidized Loans 

• Direct PLUS Loans (for parents or graduate students)

• Direct Consolidation Loans

Note that Direct Loans are sometimes called Stafford Loans or Direct Stafford Loans.

As the name implies, Direct Loans are made directly by the U.S. Department of Education and backed, or insured, by the federal government. This is the current standard for federal loans, but that wasn’t always the case. 

Older federal loan programs like the Federal Family Education Loan (FFEL) Program and the Perkins Loan program were made and serviced by private lenders but insured by the federal government. No new FFEL Program loans have been made since July 1, 2010, and no new Perkins Loans have been made since September 30, 2017.

Can You Get Rid of Federal Student Loans by Filing Chapter 7 Bankruptcy?

Yes, you can get rid of most federal student loans by filing bankruptcy if you meet the eligibility criteria.

The Department of Education and Department of Justice released new guidelines in late 2022 to help bankruptcy courts interpret the eligibility criteria more consistently. In a student loan bankruptcy, the main thing you have to prove to a bankruptcy judge is that repaying your student loans is causing and will continue to cause you undue hardship. You also need to prove that you’ve made a good faith effort to repay your loans. 

You can learn more about how to file bankruptcy on federal student loans in our article: Yes, You Can File Bankruptcy on Student Loans. Here’s How.

Bankruptcy and Private Student Loans: What You Need To Know

Think of a private student loan like a personal loan or a car loan. These loans are issued by banks and financial institutions that set the interest rate and define the loan terms and eligibility requirements. You usually need good credit to get private loans.

Private student loans often have higher interest rates than federal loans and rarely come with flexible repayment plan options like federal student loans do, so think carefully before taking out this kind of debt. And know that if you bring a cosigner aboard to help you secure the loan, they’ll be on the hook for your student loan repayment if you default.

Because the federal government doesn’t offer or guarantee private student loans, these loans aren’t addressed in the U.S. Bankruptcy Code. This means the private lender gets to decide whether to lend to you if you have a bankruptcy on your credit report.

Why Bankruptcy Might Be Your Best Best for Dealing With Student Loan Debt

Student loan debt has been increasing steadily since 2006 because the cost of higher education has been increasing, too. As of early 2023, total student debt in the U.S. is at a staggering $1.75 trillion, and the vast majority of that debt is from federal loans. The average borrower has about $40,000 in student debt.

While many student loan borrowers were holding out hope that President Biden’s proposed student loan forgiveness program would bring financial relief, the Supreme Court unfortunately struck down the program in summer of 2023. Student loan payments will now resume in October 2023 after a payment pause that’s lasted more than three years.

Borrowers who aren’t able to resume making payments can apply for deferment or forbearance or try to get on an income-driven repayment plan, but this may just be a temporary solution. 

To get rid of student loan debt for good, you may want to look into filing Chapter 7 or Chapter 13 bankruptcy — to get a student loan discharge.

What You Need To Know About Filing Bankruptcy on Student Loan Debt

Both federal and private student loans are treated differently than other consumer debt in a bankruptcy filing. Neither are automatically discharged like credit card debt or medical bills (called unsecured debts) if your filing is successful.

To get rid of your student loans, you must take the additional step of filing an adversary proceeding so the bankruptcy court can evaluate whether you meet the undue hardship standard. This has historically been done through the ill-defined Brunner test. 

In late 2022, the elements of the test were more clearly defined, making the adversary proceeding process easier, at least for federal student loan borrowers. In fact, Upsolve is now able to help eligible filers through this process. Check your eligibility now.

If you have a private student loan, you still need to file an adversary proceeding and the process will be more difficult. That said, it’s not impossible. In fact, of the bankruptcy filers that have tried, 40% have received some kind of student loan debt relief as part of their bankruptcy case.^[1]

Learn more by reading our article Adversary Proceedings: How To Get Rid of Student Loans in Bankruptcy.

Let’s Summarize…

Filing bankruptcy does not prevent you from getting federal student loans or other types of federal financial aid. While some federal loans do require that you have good credit (which may take a little while to rebuild after filing bankruptcy), most don’t depend on creditworthiness. Instead, they look at your financial need based on your current financial situation. 

If you want to erase your student loan debt for good, you can go through a bankruptcy proceeding. The bankruptcy discharge won’t automatically include your student loan debt, but if you can prove undue hardship in an adversary proceeding, you can get federal student loan debt discharged.