Navigating Student Loan Bankruptcy: A Comprehensive Guide

Student loan debt can be a significant burden for many Americans. While bankruptcy is often seen as a way to find relief from overwhelming debt, the rules surrounding student loans are complex. This article provides a comprehensive overview of how bankruptcy can be used to manage or discharge student loan debt, including eligibility requirements, the steps involved, and alternative options for debt relief.

Can Bankruptcy Help Discharge Student Loan Debt?

Yes, it is possible to discharge student loans through bankruptcy, but it's not a straightforward process. While the general rule is that student loans are not dischargeable in bankruptcy, there is an exception. If a debtor can prove that repaying the loans would cause "undue hardship," they may be able to have their student loan debt discharged.

Federal vs. Private Student Loans

It's important to distinguish between federal and private student loans. Federal student loans, specifically federal Direct Loans or Direct Consolidation Loans held by the Department of Education, are eligible for discharge through bankruptcy under certain conditions. Private student loans, on the other hand, are generally more difficult to discharge, though not impossible.

Undue Hardship Standard

To discharge student loans in bankruptcy, you must meet the "undue hardship" standard. This typically involves demonstrating the following:

You cannot currently afford to repay your loans while maintaining a minimal standard of living.
Your financial hardship is likely to continue for a significant portion of the loan repayment period.
You have made a good faith effort to repay your loans.

These three elements are often referred to as the Brunner test.

Read also: Chapter 13 Bankruptcy Overview

Filing for Bankruptcy: Initial Steps

Before pursuing bankruptcy specifically for student loan discharge, it’s essential to assess your overall financial situation and determine if bankruptcy is the right option.

Assessing Your Financial Situation

Consider the following factors:

The types and amounts of debt you have.
Whether you own any assets, such as a car, home, or retirement accounts.
Researching other debt relief options to ensure bankruptcy is the best fit for you.

Bankruptcy Options: Chapter 7 vs. Chapter 13

You'll need to determine whether Chapter 7 or Chapter 13 bankruptcy is more suitable for your financial situation and goals. To see if you’re eligible for Chapter 7 bankruptcy, you’ll need to know your income and expenses for the means test.

Qualifying Loans for Bankruptcy Discharge

Not all student loans are eligible for discharge through bankruptcy under the standard process. Department of Education loans are eligible for a bankruptcy discharge under the new guidance.

Identifying Your Loan Type

If you aren't sure what type of loans you have, you can get that information from the National Student Loan Data System (NSLDS). The NSLDS can provide you with a report on all federal student aid you've received.

Loans That May Not Qualify

Perkins Loans, FFEL/FFELP loans, and private student loans aren't currently eligible to be discharged through bankruptcy under the standard process. In some cases, you can file bankruptcy on these and private student loans, but the process will look different.

How to File Student Loan Bankruptcy: A Step-by-Step Guide

Here are the basic steps to getting your student loans discharged in bankruptcy:

Step 1: File an Adversary Complaint

An adversary complaint initiates the adversary proceeding, which is the first step to discharging your student loans in bankruptcy. You initiate the adversary proceeding by filing a complaint with the court clerk. A complaint is a formal legal document. Depending on which district you're in, you may be able to file your complaint electronically. If you don't file it electronically, you'll need to submit it with a cover letter, which the court provides as a PDF form.

Step 2: Notify Relevant Parties

Department of Education in the proceeding. The point is to let the defendant - your lender - know about the adversary proceeding. Trustee of the Bankruptcy Filing District

Step 3: Complete the Attestation Form

Next, you'll fill out an attestation form. This is the form that will be used to determine if you meet the undue hardship requirements. There are several main parts to this form as covered below.

Read also: Guide to UC Davis Student Housing

The Attestation Form: Income and Expense Information

The form begins by asking basic questions to gather some personal financial information, including:

Income information, such as your household gross income, unemployment benefit payments, and Social Security payments
Expense information, such as your basic living expenses, uninsured medical costs, payroll deductions, housing costs, transportation costs, and other necessary expenses, such as child care

What you'll need to answer these questions: It’s helpful to gather recent paystubs, bank statements, and unemployment or Social Security paperwork (if applicable) to help you fill out the income portion of this form. For the expenses, gather recent bills, including medical bills, insurance payments, your paystub (to see deductions), recent transportation bills and receipts (including for maintenance and gas). If you use a credit card or debit card to pay your expenses, you can look at your recent transaction history to capture expenses that you may not keep receipts for, like groceries, housekeeping supplies, apparel, personal care products, gas for your car, or public transportation costs. Be sure to include expense information for your dependents as well.

The Attestation Form: Information on Your Present Ability To Pay Your Student Loan Debt

The rest of the form asks for information related to the undue hardship standard by asking about your income and expenses.

There’s a pretty simple formula to determine your ability (or inability) to make your monthly student loan debt payment: your gross income minus your allowed expenses. These expenses are detailed on the attestation form starting on page 5.

You’ll tally your gross income and allowed expenses on your attestation form. If you run these numbers through the formula and it shows there is $0 remaining each month, this shows an inability to pay your student loan debt. If you have some income remaining, you may still be able to have some of your debt discharged. The AUSA will look at your loan payment to determine if you qualify for a partial discharge.

The Attestation Form: Information on Your Future Inability To Pay Your Student Loan Debt

The attestation form will ask you a series of questions to get a sense of whether you’ll be able to repay your student loan debt in the future. The AUSA can presume you will not be able to repay your loans in the future if you meet any of the following criteria:

Are 65 or older
Have a disability or chronic injury that impacts your ability to work
Have been unemployed for five or more years in the last decade
Didn’t get a degree that the loan was meant to finance

The AUSA can also presume an inability to pay if your loan has been in repayment status for 10 years or more. These presumptions provide a more straightforward case to the AUSA, but they aren’t the only way to show an inability to pay. If your reason falls outside these presumptions, you can explain it in the space provided on the attestation form.

The Attestation Form: Information Showing a Good Faith Attempt at Repayment

The next portion of the attestation form helps the bankruptcy court determine whether you’ve made a good faith effort at student loan repayment.

The DOJ cites several examples of evidence of good faith. To demonstrate good faith, you need to demonstrate that you’ve done one or more of the following:

Made at least one student loan payment
Applied for or been approved for deferment or forbearance
Applied for or enrolled in an income-driven repayment plan
Applied for or received a federal consolidation loan
Contacted the loan servicer/lender or responded to a contact from the loan servicer or a collector regarding their repayment options
Contacted a third-party organization whose goal was to help the borrower manage their student loan debt

To demonstrate good faith, you must also show you’ve made an effort to work or find work and to maximize your income while minimizing expenses. Essentially, filers must show they have managed their debts and finances responsibly given their circumstances.

Step 4: The AUSA Makes Its Recommendation to the Bankruptcy Court

The AUSA will review your attestation form to assess whether they believe the undue hardship standard has been met. Then, the ASUA makes a recommendation to the bankruptcy court handling the case. The DOJ guidance notes that this recommendation “is not binding on the bankruptcy court.” Though, the court will use this information to determine whether or not to discharge all or a portion of the filer’s student loan debt.

It’s common for AUSAs to request extensions to review a filer’s paperwork. These extensions may last weeks or even months. Though the wait can be frustrating, it’s often seen as a routine part of the process, and many filers choose to agree to these requests.

Step 5: The Bankruptcy Court Issues a Decision

The judge in your case may decide to hold a hearing on your request. (Many are being held virtually.) If so, it’s a good idea to attend the hearing so you can answer any questions the judge may have and so you can then hear the judge’s decision.

If you don’t agree with the judge’s decision, you can appeal the decision.

The Brunner Test: Proving Undue Hardship

The Brunner test is the most widely used standard for determining undue hardship in student loan bankruptcy cases. It consists of three parts:

Minimal Standard of Living: You must prove that you cannot maintain a minimal standard of living if forced to repay the loan.
Persistence of Hardship: You must demonstrate that your financial hardship is likely to continue for a significant portion of the loan repayment period.
Good Faith Effort: You must show that you have made a good faith effort to repay the loan.

Each part of the Brunner Test has specific requirements that must be met to prove undue hardship.

Part 1: Minimal Standard of Living

To pass the first part of the Brunner Test you must prove you have extenuating circumstances that create a hardship. In other words, you can't pay the student loan while still maintaining a minimum standard of living. Each court can decide for itself how to define a minimal standard of living.

Part 2: Hardship Persists for a Substantial Portion of the Repayment Period

If you pass the first part of the test, you then have to prove that your hardship will continue for most of the loan’s repayment term. As you might imagine, it can be difficult to predict how long a bad financial situation will persist. To complicate matters, courts interpret hardship differently. This may be easier to prove if you are over age 65 or you have a permanent disability. Your local Bankruptcy Court will have its own interpretation of what it considers a “substantial portion” of the repayment period.

Part 3: Good Faith Effort To Repay the Student Loan

The final hurdle in the Brunner Test is showing that you’ve made a “good faith effort” to repay your educational loans. Like the second part of the test, bankruptcy courts interpret this differently and some are more strict than others. As a general rule, most courts want to see that you’ve at least made an effort to find employment, maximize your income, and minimize your expenses. They also want to see that you’ve made an effort to make at least one student loan payment or made an attempt to negotiate a repayment plan with the lender.

New DOJ Guidance and Its Impact

In 2022, the Department of Justice (DOJ), in close coordination with the Department of Education, announced a new process for handling cases in which individuals seek to discharge their federal student loans in bankruptcy. The new process will help ensure consistent treatment of the discharge of federal student loans, reduce the burden on borrowers of pursuing such proceedings and make it easier to identify cases where discharge is appropriate. This guidance aims to streamline the process and provide clearer standards for recommending discharge to the judge.

Key Objectives of the New Process

Ensure consistent treatment of student loan discharge cases.
Reduce the burden on borrowers pursuing bankruptcy.
Facilitate the identification of cases where discharge is appropriate.

Leveraging Department of Education Data

The new process leverages Department of Education data and a borrower-completed attestation form to assist the government in assessing a borrower’s discharge request.

Alternatives to Bankruptcy for Federal Student Loan Relief

If you’re struggling with student loans, there are options to manage your debt without filing for bankruptcy. Federal government programs and other solutions can help make payments more affordable and provide long-term relief.

Income-Driven Repayment Plans (IDRs)

These plans lower your monthly payments based on your income and family size. After 20-25 years of qualifying payments, the remaining balance may be forgiven. Keep in mind, forgiven amounts could be taxable.

Loan Forgiveness Programs

Programs like Public Service Loan Forgiveness (PSLF) forgive loans for borrowers working in qualifying public service jobs after 10 years of payments. Other forgiveness options exist for teachers, healthcare workers, and military personnel.

Loan Consolidation

Combining multiple federal loans into one can simplify payments and open up new repayment options. However, it may increase the total interest paid over time.

Deferment or Forbearance

These options let you temporarily pause payments during financial hardship. Interest may still accrue, especially with forbearance, so they’re best used as short-term fixes.

Refinancing (Private Loans)

Refinancing can lower your interest rate but comes with risks. For federal loans, refinancing into private loans means losing federal benefits like income-driven plans and forgiveness options.

Private Student Loan Repayment Options

Federal student loan borrowers often have access to income-based repayment plans, loan forgiveness or cancellation for work in certain nonprofit jobs, or forbearance or deferment. As a private student loan borrower, you’re unlikely to have access to these kinds of debt relief, but there are other options. You can try to refinance your loans to lower your interest rate and/or monthly payment or try to negotiate a debt settlement to pay less than the full amount you owe. However, to be successful with a debt settlement, you may need to be able to offer a large lump-sum payment. If you’re also struggling with credit card debt or other debt in addition to your student loans, you may want to talk to a credit counselor to help get your finances in order.

Addressing Misconceptions and Potential Issues

For too long, a myth has persisted that student loans are not dischargeable in bankruptcy. The myth is not true because, in fact, student loans can be discharged bankruptcy.

Consumer Complaints and Industry Practices

Complaints submitted to the CFPB suggest that some of these companies might be making false statements to borrowers about the protections bankruptcy offers-or worse, even collecting on debts that have already been discharged by a bankruptcy judge.

Complaints raise serious questions about whether student loan companies are violating discharge orders-meaning they’re unlawfully collecting on loans even after a borrower has been through bankruptcy.

Student loan companies cannot collect debts that a consumer no longer owes. certain types of education loans are dischargeable in bankruptcy without the higher standard and without the filing of an adversary proceeding. Collecting on debts that have been discharged through bankruptcy might not only violate the Consumer Financial Protection Act’s prohibition on unfair, deceptive, and abusive practices-it could also violate the order of a United States bankruptcy judge.

Has Your Loan Been Discharged?

If you have been through bankruptcy and have private student loan debt that is still being collected, consider the following questions:

Did you take out the loan for educational expenses solely for the cost of attendance (tuition, books, room, and board) or did you take out a loan that was higher than the costs of attendance? If your loan was greater than cost of attendance, your loan might have been discharged.
Did you take out the loan to pay for education at an unaccredited school, a school in a foreign country, or unaccredited training and trade certificate programs? If so, your loan might have been discharged.
Did you take out the loan for fees or expenses related to studying for a professional exam? Or the cost of the board examination or fees, moving, and living expenses for a medical or dental residency? If so, your loan might have been discharged.
When you took out the loan, were you in school less than half-time?

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