Student Loan Bankruptcy Guidelines: What You Need to Know

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Updated on February 22, 2023

Federal student loans owned by the Education Department are easier to discharge in student loan bankruptcy — for now. But that could change if Congress doesn’t change the Bankruptcy Code before the Biden administration leaves the White House.

The U.S. Department of Education partnered with the Department of Justice to create new guidelines that the departments believe will ensure fairer treatment of people in bankruptcy who seek relief on their federal student loan debt. It will also allow the Justice Department attorneys to identify cases that merit a student loan discharge by the court.

Unlike credit card debt, medical bills, and other consumer debts, student loans aren’t automatically wiped out in bankruptcy. Borrowers who file bankruptcy won’t truly get a fresh start without their student loan debt unless they file a separate lawsuit, known as an adversary proceeding.

Historically, few people have filed the paperwork needed to have their student loans discharged. But the new process should encourage more people to try.

Here’s what you need to know about the new student loan bankruptcy guidelines.

Related: When Did Student Loans Become Nondischargeable in Bankruptcy?

It’s challenging to discharge student loans in bankruptcy

While not impossible, using bankruptcy to wipe away your federal or private student loans is difficult, stressful, and costly. People are forced to lay their entire lives out before the court, only to have their spending and life choices ruthlessly interrogated by student loan lenders and bankruptcy judges.

That wasn’t always the case. Before 1976, bankruptcy wiped out student loan debt like any other form of consumer debt. But a handful of lawmakers were concerned that doctors and lawyers with expensive degrees and high earning potential would game the system by rushing to bankruptcy court shortly after graduation. So they tightened the rules, requiring borrowers to wait five years after their first student loan payment was due before receiving a discharge unless they could show that repaying the debt would cause an undue hardship.

Congress didn’t define undue hardship in the Bankruptcy Code. And courts haven’t been able to agree on one either. Instead, they eventually adopted two tests that judges use to review student loan borrowers’ financial situations. Some courts use the “totality of circumstances” test. But most use a stricter test, named after a woman who walked off the stage of her master’s program and into bankruptcy court.

The Brunner Test asks three questions:

  • Do your current monthly income and expenses allow you to maintain a minimal standard of living for yourself and your dependents while repaying your student loan debt?

  • Is your financial situation likely to persist throughout a significant part of the loan’s repayment period?

  • Did you make a good-faith effort to repay your loans by making monthly payments, enrolling in an income-driven repayment plan, requesting a deferment or forbearance, and so on?

Few borrowers who have faced these tests have been able to persuade their judges that their hardship was undue. The new policy is designed to change that.

Related: Student Loan Bankruptcy Changes

“Today’s guidance outlines a better, fairer, more transparent process for student loan borrowers in bankruptcy," said Associate Attorney General Vanita Gupta. "It will allow Justice Department attorneys to more easily identify cases in which we can recommend discharge of a borrower’s student loans. We are grateful to the Department of Education for its partnership in developing this guidance. ”

How the student loan bankruptcy guidelines work

Federal student loan borrowers can take advantage of the new guidelines by first filing a Chapter 7 or Chapter 13 bankruptcy case. Next, they’ll kick off the student loan bankruptcy proceedings by filing a Complaint to Determine the Dischargeability of the Student Loan Debt and an adversary cover sheet. You can file the lawsuit soon after filing bankruptcy, after the court enters the discharge order, or even after it closes your case.

Related: Can I Get a Student Loan After Filing Chapter 7 Bankruptcy?

When the Education Department receives a copy of the lawsuit, it will forward your payment history and loan status to the Justice Department’s attorney, who will send you that information along with an “attestation form.” The form essentially tracks the Brunner Test’s three prongs. It asks about your current earnings and expenses and the earnings of anyone else in your household. It also inquires about your age, employment history, health, the length of time you’ve been in repayment, and whether you have a degree.

The department’s attorney will review the form and recommend to the court whether you should be granted a bankruptcy discharge.

The new guidelines apply only to loans Ed-held federal student loans. Commercially-held FFEL and Perkins Loans likely won’t benefit from this policy change unless they’re consolidated into a Direct Consolidation Loan. Similarly, private lenders will ask judges to follow the law from old bankruptcy cases rather than use these guidelines.

Related: Can Private Student Loans Be Discharged in Bankruptcy?

Are permanent changes coming?

During his campaign, President Biden pledged support to a bill that would allow borrowers to get student loan debt relief while filing bankruptcy. Despite bipartisan support for some, none have gained traction.

Rather than wait for Congress to act, the Biden administration has decided to change how it will defend these cases. This interim step is great. But it could go away when a new administration takes office.

UP NEXT: Can You File Bankruptcy on Student Loans in Collections?

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