It's not that you can't declare bankruptcy on student loans. It's that student loan debt unlike your credit card debt is not automatically dischargeable. To discharge student loans, you have to file an adversary proceeding in bankruptcy court arguing that your loans are an undue hardship.
After you file the adversary proceeding, the bankruptcy court will decide whether your student loans will be included in your bankruptcy discharge.
Why you have to file an adversary proceeding
Under earlier versions of student loan bankruptcy laws, student loan borrowers who filed a bankruptcy case could discharge their student loans without filing a lawsuit.
That changed in the 1970s.
During that time, Congress amended the Bankruptcy Code to make student loans made by the US Department of Education nondischargeable in a chapter 7 bankruptcy unless:
- more than 5 years had passed since a student loan borrower entered repayment or
- the student loan borrower can prove that having to repay the loans would cause him and his dependents an undue hardship.
Over the years, Congress tweaked the student loan bankruptcy discharge rules.
For instance, they included federal student loans made by private lenders (Federal Family Education Loans) and loans made by nonprofit institutions (Perkins Loans) in the type of student debt that can be discharged.
They also increased the discharge time from 5 years after you first entered into a repayment plan to 7 years.
They eliminated the discharge period altogether so that the only way you could discharge a federal student loan is if you could prove undue hardship.
Finally, as part of the Bankruptcy Abuse Prevention and Consumer Protection Act, Congress included private student loans in the student loan discharge rules.
As the law stands now, a borrower can discharge student loan debt in bankruptcy if:
- the loan was made by the Department of Education/government;
- the loan was made under a program funded by the Department of Education/government or nonprofit; and
- the private student loan is a qualified education loan under the IRS Code.
The only way you can get rid of one of those loans is if you can prove that repaying them would cause you an undue hardship.
Of course, the question then is: How to prove an undue hardship for student loan discharge?
How to prove undue hardship
Bankruptcy law doesn't define undue hardship. As a result, there's no one way to show your student loans are causing you an undue hardship.
Over the years, bankruptcy courts have developed different tests to try and define the term for themselves.
The most popular of the tests is the Brunner test, which comes from a mid-1980's bankruptcy case, Brunner v New York State Higher Education. (Another popular test is the totality-of-the-circumstances test.)
The Brunner test asks three questions:
- Based on your current income, can you maintain a minimal standard of living for you and your dependents while repaying your loans? If the answer is yes, you don't have an undue hardship.
- Is your financial situation likely to stay the same for a significant portion of the repayment period of the student loans? If the answer is no, you don't have an undue hardship.
- Did you make a good faith effort in repaying your student debt? If not, then you don't have an undue hardship.
In my experience, it's harder to discharge federal loans than private student loans. The biggest reason why is because federal student loans offer affordable monthly payment plans like the income-based repayment plan.
Private student loans don't offer the same type of programs. The best private loans will do is offer loan deferment or forbearance loan payments based on your monthly interest rate.
Do you need to hire a bankruptcy attorney to handle a student loan bankruptcy?
Short answer: No. You don't need to hire a bankruptcy attorney to handle your student loan bankruptcy.
You can file the bankruptcy case yourself. You can file the AP lawsuit yourself.
But that means you have to navigate the bankruptcy process and all of the bankruptcy proceedings alone.
And that is a difficult challenge. But with a bunch of research, it can be done.
But can it be done right?
I get calls from debtors all the time who are in the middle of their case and don't know what to do.
Even as something as simple as who to serve the summons on troubles them. Do they serve the US Department of Education, the loan servicer, the lender? (Answer: for federal student loans owned by the Department of Education, you serve the Department, but you serve them by serving the local United States Attorney.)
This is why it makes sense to hire an experienced professional that knows what they're doing when you're seeking a bankruptcy discharge of your student loan debt.