Q: Can you file bankruptcy on private student loans?

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Stanley tate

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You can file bankruptcy for student loans, including private student loans. You can do so even if you're current on your repayment.

You must do two things to file bankruptcy on private student loans:

  1. file a Chapter 7 bankruptcy or Chapter 13 bankruptcy and
  2. file an adversary proceeding to discharge your private student loan debt.

Filing bankruptcy will eliminate your consumer debt (unsecured debt and secured debt).

But filing an adversary proceeding to discharge your student loans is a crapshoot.

The law firm you hired to file your bankruptcy case will not automatically try to discharge your student loans. You'll have to pay them a separate fee to file the adversary proceeding unless they offer pro bono help.

It may or may not eliminate your student debt.

Your ability to win depends on a bankruptcy judge.

You have to convince them that repaying your student loan debt causes you an undue hardship.

I've been filing student loan adversary proceedings for almost a decade.

In that time, I've found that it's easier to discharge private student loans than federal loans.

What the Bankruptcy Code says about the dischargeability of private student loans

Section 523(a)(8) of the Bankruptcy Code tells us when student loans are dischargeable in bankruptcy.

Under that section, a student loan is nondischargeable unless it would impose an undue hardship on the debtor and the debtor's dependents.

There's no universal eligiblity requirements to prove undue hardship.

The Bankruptcy Code doesn't define it.

As a result, bankruptcy judges have developed different tests to analyze undue hardship.

The most popular of those tests is the Brunner Test.

Brunner Test

Under the Brunner test, the bankruptcy court asks three questions:

  1. Based on your current income, can you maintain a minimal standard of living for you and your dependents while repaying your student loan debt?
  2. Is your financial situation likely to stay the same for a significant portion of the repayment period of the student loans?
  3. Have you made a good faith effort to repay your student loans?

If the answer to each of these questions is yes, you will have met the undue hardship standard.

The bankruptcy judge will enter an order declaring your student loan debt discharged.

Click here to read Creating the Brunner Test: Analysis of Brunner v. New York State Higher Education

Totality of the circumstances test

Bankruptcy judges in the Eighth Circuit don't use the Brunner Test. They instead use the totality of circumstances test. Like the Brunner Test, the totality of the circumstances test looks at your past and current financial situation, any permanent disability, and your efforts to pay your creditors back for your student loan obligations.

How to discharge private student loans in bankruptcy

To discharge student loan debt in bankruptcy, you must first file a bankruptcy case and then file an adversary proceeding.

The adversary proceeding is the name given to lawsuits in bankruptcy proceedings.

You can file the AP before your bankruptcy case ends.

You can also file it after you've gotten a bankruptcy discharge.

If you wait until then, you'll have to file a motion to reopen your bankruptcy case.

The motion to reopen doesn't get rid of your bankruptcy discharge. And it doesn't reset the clock or hurt your credit score.

Instead, the motion allows the bankruptcy clerk to connect the adversary proceeding to your bankruptcy case.

Click here to learn How to File an Adversary Proceeding for Student Loans.

How do private student loans differ from federal student loans in bankruptcy?

Section 523(a)(8) of the Bankruptcy Code says that an education loan is nondischargeable absent undue hardship if:

  1. the loan was made by the government or a governmental unit
  2. the loan was made under a loan program guaranteed by the government
  3. the loan was made under a loan program funded by a nonprofit or
  4. the loan is a qualified education loan within the meaning of the Internal Revenue Code

The Bankruptcy Code also says you can't discharge an educational debt if it's an:

  • educational benefit,
  • scholarship, or
  • stipend.
What is an educational benefit? According to a bunch of recent cases, including from Circuit Courts, it's a conditional grant of money. This is what the court in McDaniel v. Navient was trying to determine.

Right away, we can see that numbers 1 and 2 apply to loans made by the Department of Education. So federal loans are clearly covered.

But what about a loan made by a private lender under a loan program funded by a nonprofit? To answer that, we have to know what funded means. The case law on this point is weak, in my opinion.

When does a nonprofit fund a loan program?

Historically, bankruptcy courts have said that a nonprofit institution has funded a loan program if it meaningfully participates in the program.

Over time, bankruptcy judges have said that a nonprofit meaningfully participates in a program by guaranteeing the loans made under the program.

This interpretation and precedent are weak.

If Congress wanted to protect loans made under a program guaranteed by a nonprofit, they could have said that.

We know they knew how to say it because they used the word guaranteed in the clause immediately before it used funded.

When is a private student loan a qualified education loan?

A private student loan is a qualified education loan if:

  • the student was attending a school that participated in the federal student aid program and
  • the loan did not exceed the student's cost of attendance for the period the loan was made.

Admittedly, that's a shorthand answer to what makes a loan a qualified education loan.

To fully understand what a qualified education loan is, you have to read several different parts of the Internal Revenue Code.

There are two main ways to show your private student loan is not a qualified education loan.

First, you prove you didn't attend a school that was eligible to receive federal financial aid. If that's true, then your school wasn't an eligible educational institution. And since it's not an eligible educational institution, the loan is not a qualified education loan.

Second, you prove the private student loan you got was for much more money than your cost of attendance that semester. Your cost of attendance includes your fees for tuition, books, housing, etc.

If the lender gave you more money than your school said you needed to pay for your education, then the student loan wasn't for qualified higher education expenses. And the loan is not a student loan within the meaning of the Bankruptcy Code.

Is it easier to get private student loans discharged in bankruptcy?

Bankruptcy laws (particularly case law) make it difficult to discharge all educational loans, whether they come from the Department of Education or a private financial institution.

That said, in my experience, it's often easier to discharge or, at a minimum, settle private student loans than it is to do the same for federal student loans.

There are two reasons why this is true.

Reason #1

First, private student loan holders like Navient don't offer monthly payments or student loan repayment plans based on your income. And they don't offer student loan forgiveness programs like the Public Service Loan Forgiveness Program.

The federal government offers both.

It's hard to say you can't afford a $0 payment, which is what you can get with a federal loan.

It's a lot harder to say you can't afford whatever your lender is demanding.

Reason #2

Second, bankruptcy law leaves more wiggle room to argue that a private student loan doesn't meet the eligibility requirements to be a student loan under the Bankruptcy Code.

As I shared above, the Bankruptcy Code sets out four specific ways that an education loan can become nondischargeable in bankruptcy.

Federal student loans are clearly covered by the law. But the law isn't quite as clear on which private student loans are covered. This is where and when I get to use my legal skills to argue that my client's student loan isn't a student loan within the meaning of section 523(a)(8).

When should I file bankruptcy for private student loans?

In my practice, I rarely recommend a student loan borrower try to discharge a federal student loan.

For most people, it's tough to do so.

The federal government's income-based repayment plans and loan forgiveness programs make it difficult to prove that your federal loans are causing you an undue hardship.

Click here to learn How to Discharge Federal Student Loans in Bankruptcy.

My advice changes if my client is trying to get rid of a private student loan.

I've found that it's often easier to get a favorable result (discharge or settlement) for a private student loan in bankruptcy than it is for a federal loan.

Here are the things I look to in deciding whether to advise a borrower to try and discharge their private loan debt:

  • They already filed for bankruptcy;
  • They were sued by one of their private lenders;
  • Their loan balance is double their annual income
  • They can't afford a debt settlement; or
  • Their loan servicer refuses to offer payments or repayment plans they can afford.

How will bankruptcy affect my credit score

No matter the type of bankruptcy you choose, a bankruptcy filing will likely tank your score. But from what my clients have told me, the hit only lasts about a year or so. After that, their credit score bounces back.

Knowing the drop is temporary, I think filing bankruptcy to deal with your student loan debt makes more sense than struggling for years trying to make student loan payments you can't afford.

Sure, your credit report will take a hit at first and the interest rate of your credit cards may rise.

But rebuilding credit is way easier than begging your lender each year for better loan repayment options.

Do I have to be in default to discharge student loans in bankruptcy?

For both federal student loans and private student loans, you don't have to default to discharge student loans in bankruptcy.

You simply need to prove your repaying your loan debt would cause you an undue hardship.

Do I need to hire a bankruptcy attorney?

Filing for bankruptcy to discharge medical bills, credit card debt, etc., is already a complicated process. Add in having to file an adversary proceeding to discharge student loans, and the thought of a non-bankruptcy attorney successfully doing both is near zero.

So if it were me, I'd hire a student loan bankruptcy attorney.

That's easier said than done.

Trying to find a lawyer who's stepped into federal court and argued a student loan discharge case is hard. Few have actually done it.

Final Thoughts

At some point, you're going to run out deferment and forbearance options for your private student loans.

When that happens, you'll need to figure out a repayment option.

Refinancing can work if you can find a lender willing to refinance your student loans.

Settlement may work if you got the money to settle your private student loans.

But if neither of those are options for you, then maybe bankruptcy can be an option for you.

Student loan borrowers can discharge both their private student loans and federal student loans in bankruptcy.

The key comes down to whether they can prove that being forced to make their loan payments will cause them and their dependents an undue hardship.

Proving undue hardship is difficult. It involves researching how judges in the court near you have decided past student loan bankruptcy cases and producing evidence demonstrating your financial situation.

Before you try and file a student loan bankruptcy on your own, speak with a student loan lawyer who knows what they're doing.

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Hey, I’m Tate.

I'm a student loan lawyer that helps people like you with their federal and private student loans wherever they live.

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