Can I get rid of Private Student Loans in Bankruptcy?

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News | by — October 29, 2013

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Can I ever eliminate Private Student Loans in a Bankruptcy?

The short answer is that it is not likely, but you can, with the right facts.  In 2005 the U.S. bankruptcy laws were changed.  Among the many changes, private student loans were given protected status, making them generally non-dischargeable in a bankruptcy proceeding.

It is common to hear that there is no way to eliminate any student loans through bankruptcy, or that the only way to do it is if something drastic has happened, like permanent disability of the borrower.  Unfortunately, under current law, this is often the case.  We have written before about the Brunner “undue hardship” test that the bankruptcy court applies to determine if a borrower should not be required to pay back their student loan(s).  This same test can be applied to both federal and private student loans.

Yet, with private student loans, there may be another avenue to eliminating them in a bankruptcy; by arguing that under the specific facts of the borrower’s case the private student loan should be treated just like other unsecured loans.  This avenue is not available to most private student loan borrowers, but it is to some, and is therefore worth exploring.

The growing problem of student loan debt.

The Consumer Financial Protection Bureau (CFPB) has estimated the total outstanding student loan debt in the United States to be almost $1.2 trillion, with about 7 million borrowers in default on their obligations to repay.  About 10% of this huge student loan debt load is from private student loans.

The problem for many borrowers is that private student loans do not provide borrowers with the same payment options and protections that federal student loan borrowers benefit from.  This makes the private loans significantly more onerous.  Unlike federal loans, for example, private student loans generally have higher and variable interest rates, and less choices for a borrower experiencing hardship.  We have written before about the options available to federal student loan borrowers who default on their obligations.  Unfortunately, these same options are not available to private student loan borrowers.

The CFPB has recently released a report analyzing complaints received from borrowers of private student loans.  There is a growing consensus that there will need to be a systemic change in how private student loans are treated, but until that time comes a borrower has to address the law as it currently stands.

How can one know if there may be a way to eliminate their private student loan in a bankruptcy?

If a borrower believes that the “undue hardship” standard may apply, then they should seek a consultation with a local bankruptcy attorney to assess that possibility.

Moreover, a borrower can reference the information below to spot facts that may mean the private student loan should be treated as any other unsecured loan in bankruptcy.  In other words, the loan should be eliminated through a bankruptcy proceeding, just like, for example, a car loan.  The following analysis is nuanced, as it is very fact specific.  This is not meant to be a substitute for legal counsel, but rather a tool to see if you should invest the time in exploring this further with an attorney.  Note that terms bracketed with quotation marks have special legal meaning, and that this list will help identify issues, but should not be construed as legal advice.

DO ALL OF THESE FACTORS APPLY TO THE PRIVATE STUDENT LOAN?

  1. The debtor is a tax payer (e.g. are you a foreign student not paying U.S. taxes?)
  2. The debt was incurred for benefit of the tax payer, his/her spouse, or any “dependent” (e.g. did you co-sign on a loan for a friend?);
  3. The debt was incurred solely to pay for the “cost of attendance” at the school (were you loaned more money than needed to cover cost of school, room, and board?);
  4. The debt was incurred to attend an “eligible educational institution” (e.g. did you attend a school that closed down?  Did the school aggressively market to students when there was little chance of finding gainful employment for the skills learned?  Was your school eligible for Title IV funding?);
  5. The school expenses were paid, or were incurred, around the same time that you actually received the loan;
  6. The borrower was an “eligible student” at the time (e.g. were you studying at least ½ time?);
  7. The lender was someone outside of the debtor’s family (e.g. was the money borrowed from your uncle?); AND
  8. The loan was not related in any way with any “qualified employer plan”.

If all of the factors above apply, then the loan is likely to be treated as a non-dischargeable student loan debt under current bankruptcy law.  If one or more of the factors above do not appear to apply, then seek legal counsel to see if the loan can be eliminated in bankruptcy.

As always, our office offers a FREE consultation to any consumer who would like an analysis of their specific financial circumstances, to determine all bankruptcy and non-bankruptcy options in addressing debt obligations.

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