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Student Loan Debt Discharge: Changes Ahead? American Bankruptcy Institute Commissioned Study

Posted By USFN, Tuesday, November 13, 2018
Updated: Monday, November 5, 2018

November 13, 2018


by Marcy Ford
Trott Law, P.C.
USFN Member (Michigan)

It is the rare and fortunate individual who graduates from a trade school, a public or private university, or a professional school and does not have student loan debt. Student loans are a benefit to those of us who need them to fund our education; but, often, they are incurred without a realistic understanding of the upcoming cost to pay those loans or the impact the debt will have in the future — both on the individual student borrower and on society as a whole. Various commentaries suggest that student loan debt is associated with decreased levels of homeownership, lower numbers of automobile purchases, increased household distress, and a variety of other detrimental financial and psychological conditions.

Commission Formed

In December 2016 the American Bankruptcy Institute (ABI) established a Commission on Consumer Bankruptcy with the goal of “researching and recommending improvements to the consumer bankruptcy system that can be implemented within its existing structure.” This included recommending improvements to deal with the growing problem of student loan debt. On May 21, 2018 the Commission released some findings and recommendations ahead of schedule, as a result of the U.S. Department of Education’s request for information on this same issue. (The Commission’s final report will be released in the coming year.)

The Commission’s comments suggest several changes to both the interpretation of 11 U.S.C. § 523(a)(8) and the Brunner test. [See Brunner v. New York State Higher Education Services, 831 F.2d 395, 396 (2d Cir. 1987).] These comments can be read in their entirety at https://s3.amazonaws.com/abi-consumercommission/statements/DOE_Comments_and_Letter_from_Commission.pdf.

Under the current interpretation of Brunner a student loan may only be discharged if undue hardship is established by a three-factor test:

1. The debtor cannot maintain, based on current income and expenses, a “minimal” standard of living for herself and her dependents if forced to repay the loans;
2. Additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans; and
3. The debtor has made good faith efforts to repay the loans.

Commission Suggestions
The Commission suggests a “best interpretation” of the Brunner test, which still complies with the Bankruptcy Code, should require the debtor to establish simply that:

1. The debtor cannot pay the student loan sought to be discharged according to its standard ten-year contractual schedule while maintaining a reasonable standard of living;
2. The debtor will not be able to pay the loan in full within its initial contractual payment period (10 years is the standard repayment period) during the balance of the contractual term, while maintaining a reasonable standard of living; and
3. The debtor has not acted in bad faith in failing to pay the loan prior to the bankruptcy filing.

The Commission also made specific recommendations for regulation or interpretive guidance for the Department of Education with regard to evaluating hardship claims in adversary actions in bankruptcy. Those suggestions include:

• Bright-line Rules. Creditors should not oppose discharge proceedings where the borrower meets federally-established guidelines that indicate household financial distress and undue hardship for either disability-based or poverty-based guidelines.
• Avoiding Unnecessary Costs. Creditors should accept borrower proof of undue hardship based on the established criteria and avoid formal discovery.
• Alternative Payment Plans. Payment of the student loans in bankruptcy should be effective to (i) satisfy any period of forgiveness or cancellation of the loans under an income-driven repayment plan, (ii) rehabilitate a loan in default, and (iii) in Chapter 13 cases, prevent the imposition of collection costs and penalties.

Possible Consequences
A change in interpretation and application of the Brunner test would have significant and wide-ranging effect. While many current and past debtors with student loan debt have filed bankruptcy, very few seek to discharge their student loan debt. An adjustment in that alone would have a substantial impact on Chapter 13 plan formulation, discharge rates, and the financial shape of those who are successful in their confirmed plans.

Improved post-discharge fiscal health may lead to an increase in home and auto purchases, as well as other benefits associated with general financial stability. An additional impact may be a noteworthy increase in the number of bankruptcy cases not currently commenced, but that could (and likely would) be filed under a more liberal student loan discharge standard. Because the price of bankruptcy participation has increased considerably for all creditors, a rise in filings would also result in an increase in bankruptcy servicing costs for all creditors — not just for student loan creditors/servicers.

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Note for consideration of the USFN Award of Excellence: This article is a "Feature."


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