Federal Student Loan Bankruptcy Laws May Be Changing Soon!
On February 21st, 2018, President Trump’s Administration announced via Secretary of Education Betsy DeVos that they are looking for public comments on bankruptcy standards for student loan debt.
That may seem odd coming from the worst student loan couple in the country’s history, after all, this is the same pair who plan on scrapping the Public Service Loan Forgiveness Program and who have already attempted to kill off the Borrower’s Defense Against Repayment Program, but perhaps they’ve seen the light on the bankruptcy issue?
The conventional wisdom to current day has been that Federal Student Loans cannot be discharged via Bankruptcy, but the reality is that it is possible to wipe out your Federal loans by filing for Bankruptcy, it’s just extremely difficult (more on that later…).
In fact, this is one of the only cases where it’s easier to get rid of Private loans compared to Federal loans, and if you’re interested in that, then be sure to check out my 2018 Guide to Private Student Loan Bankruptcy Discharge.
What Did the Department of Education’s Memo Say?
Per Marketwatch’s article, the DOE’s memo on Federal Student Loan Bankruptcy “requested public comment on what loan holders should consider when evaluating a borrower’s request to have their debts discharge in bankruptcy” – which is a great sign that things could be changing soon.
Currently, the laws about Federal student loan bankruptcy discharges state that you can’t wipe out your loans unless they’re so expensive, and you’re so impoverished, that they may literally lead to your death by placing an “undue hardship” on your ability to cover costs for basic needs like food and shelter.
That means you have to be making almost no money, and owe a fortune, in order to discharge your Federal loans via bankruptcy proceedings, and since so few people actually satisfy the official criteria for the discharge, most people just assume that it’s still impossible to get rid of your loans by filing for bankruptcy.
To be honest, Trump and DeVos are the last two people on planet Earth I would have expected make any positive changes to student loan bankruptcy laws, especially after I recently found out about the fine details of President Trump’s Student Loan Reform Program (hint: it’s all bad!), but I have to admit I’m at least a little bit excited to see what comes of this, because I highly doubt they would have opened the public comment discussion if they weren’t at least considering altering the rules here.
Don’t Hold Your Breath
Not everyone is excited for this development, as some people see DeVos’s move as being a way to clamp down even harder on bankruptcy discharges, including Ben Miller, Senior Directory of Postsecondary Education at the Center for American Progress, who noted “There is a risk that they could make it even more restrictive than it is today”, and personally, I share his fears.
Betsy DeVos is literally the worst thing to happen to student loan borrowers since I’ve been watching the industry for the last decade, so I’m really finding it hard to believe that this lady who’s about as cozy with the massive For-Profit Schools and Student Loan Lenders as you could get will actually make anything better for the people she’s supposed to be serving (us, the average American), but you never do know.
And now that the genie is out of the bottle, it seems that others are finally willing piling on, because just days ago the New Federal Reserve Board Chairman Jerome Powell testified during a Senate Hearing and stated ON THE PUBLIC RECORD that he doesn’t understand why struggling student loan borrowers are the only people barred from discharging their debt in bankruptcy, and that’s a BIG DEAL.
What Did Jerome Powell Say About Federal Student Loan Bankruptcy Laws?
Because I appreciate Jermone’s courage in speaking out on this issue so much, I’m going to do something I virtually never do, which is highlight his actual quote for you:
“Alone among all kinds of debt, we don’t allow student loan debt to be dishcharged in bankruptcy. I’d be at a loss to explain why that should be the case.” – Jerome Powell, Chairman of the Federal Reserve Board
Remember that Jerome said this to the VERY PEOPLE RESPONSIBLE FOR KEEPING BANKRUPTCY DISCHARGES DIFFICULT, and then think about what kind of courage it would require to SAY THAT TO THEIR FACES. Also, while we’re here, think about how much money the Big Banks, Debt Collectors, Wall Street Investors, and everyone else who makes TRILLIONS of dollars off the existing student loan debt system donates to the Senators Jerome Powell was speaking to here…
But before I digress too far down Conspiracy lane, let’s just make one thing clear: all sorts of people are about to pile onto this issue, and it’s the best chance we’ve had, ever, at generating some kind of reform, which is why I’ve created a new Petition on Change.org that calls on Congress to make Federal Student Loan Debt Dischargable Via Bankruptcy, and I would urge you to sign it immediately!
Now Let Me Explain How The Current “Undue Hardship” Rules Work
Since we’re here, and since it could take years for the laws to change, I might as well explain how the current rules, laws, and process works just in case you’d like to try getting rid of student loans by filing for bankruptcy…
But before I go do that, let me first make one thing abundantly clear: most people’s student loans are a complicated mess, and if you’re one of the millions of Americans buried in debt, but struggling to decide what to do with it, then you need to call the Student Loan Relief Helpline.
Whether you need help with Federal or Private loans, the Helpline can assist you in tackling the debt, figuring out your best options for getting rid of it quickly, and affordably, and set you on the path to becoming debt-free.
This is the ONLY student loan relief company I work with, and the ONLY relief agency I’ll send anyone to for help, because they’re the only ones I trust to get the job done right. Yes, the Helpline will charge you for their services, and it can cost a few hundred dollars, but I’ve received TONS of positive feedback about them, and I know that if anyone can assist you with your debt, it’s these guys.
If you’re looking to reduce your monthly payments, apply for Forgiveness or Discharge benefits, or just need some help figuring out which repayment plan you should be enrolled in, then call the Student Loan Relief Helpline at 1-888-906-3065.
And now, back to our regular programming…
Federal Student Loan Bankruptcy Discharges Via “Undue Hardship”
Like I was saying… in 2018 it absolutely IS possible to get rid of your Federal student loans by filing for bankruptcy, it just isn’t easy.
Here’s how it works: in the 1970’s, Congress passed a law banning the regular bankruptcy avenue for student loans, but left a tiny sliver of hope for people, stating that if borrowers could prove that having to pay back their loans would created an “undue hardship” on their life, then they could still wipe out their debt via bankruptcy proceedings.
The problem with this rule is that Congress NEVER DEFINED what an “undue hardship” actually is, so it’s been left to Courts to decide what constitutes an undue hardship, and for several decades, the restrictions on this process were extremely tight. Like, so tight that NOBODY was qualifying for discharges.
Historically, No One Qualified Under the “Undue Hardship” Rule
Why were people having so much trouble getting approvals for Federal bankruptcy discharges? Because the way that Courts interpreted the “undue hardship” rule was COMPLETELY INSANE!
For the nearly 50 years, Court after Court ruled against bankruptcy discharges, stating that the rule required borrower’s to prove that being required to pay their loans would prevent them from maintaining a basic standard of living (i.e. struggling to provide basic necessities like food, shelter and clothing), and that their situation wasn’t likely to improve in the future (by getting a better job, inheriting money, etc.) and that they had at least attempted to pay down the loan (even though doing so threatened their very existence…).
Is it any wonder that no one was qualifying for bankruptcy discharges under this interpretation? The courts were literally telling people to prove that they would DIE if they had to keep up with their student loan payments!
Fortunately, The Times They Are A Changin’
Fortunately, in recent years, Courts across the country have lightened up their standards for satisfying the “undue hardship” clause, and begun allowing borrowers to discharge their Federal loans under bankruptcy proceedings at a much higher rate. Don’t get me wrong, it’s still wildly infrequent that anyone gets approved for a discharge, but at least it’s happening everyone once in a while now.
And in case after case, we’re finally seeing the walls get broken down, because SEVERAL people have received complete Federal Student Loan Bankruptcy Discharges in just the past couple years. Maybe even DOZENS of them! (I don’t have time to keep up with EVERY case…)
To help you decide if you might be one of the lucky few would could possibly qualify for a Federal bankruptcy discharge, let’s explore how Judges across the country are determining whether borrower’s truly are facing an “undue hardship”.
But before you spend the next 30 minutes reading the rest of this post, let me inform you of one important little detail. The Department of Education keeps a list of “Eligible Education Institutions” that Congress has decreed ARE NOT ELIGIBLE for Bankruptcy Discharges, and if your school is on that list, you’re not going to be receiving a discharge.
Check the list here before proceeding, as I’d hate to waste a ton of your time reading the rest of this post if you’re not eligible in the first place.
The Undue Hardship “Tests”
Currently, there are four main “Tests” being used to determine whether you truly do face an undue hardship, and whether or not you deserve to get your loans discharged.
These four tests are called:
- The Brunner Test
- The Johnson Test
- The Totality of Circumstances Test
Each test looks at similar things to determine how badly your student loans are impacting your quality of life, attempting to figure out if your loans will actually lead to your death, or are merely inconveniencing your ability to pursue pleasure.
Your job under any of these tests will be to prove that you may die if you’re forced to keep paying back your student loans, or that at least you’re be miserable, poor, and mostly unable to afford eating anything other than top ramen for the rest of your life.
The Brunner Test
The Brunner test allows you to qualify for a bankruptcy discharge if you can prove that you meet three important conditions of financial destitutory (I just made that word up, so don’t use it or you’ll look like a fool).
- The Brunner Test for Undue Hardship Evaluates:
- Poverty – If you are forced to continue repaying your Federal student loans, your current income and expenses will not allow you to maintain a minimal standard of living for yourself and your dependents
- Persistence – Your current (hopeless) financial situation is likely to continue throughout the rest of your loan’s repayment schedule
- Good Faith – You aren’t just being lazy, or lying, or hiding money, but have actually attempted to repay your loans by changing your spending habits (let’s hope you don’t have the latest iPhone!)
How can you prove that you’ve really made the grade? (Anyone else a big fan of Space Oddity?)
You need to show that you can barely afford rent, electricity, and food for you and yours, but you’ll also need to prove that you haven’t been taking vacations, aren’t buying new cars, don’t have all sorts of the latest tech gadgets, and aren’t spending tons of money on entertainment or frivolous expenses.
In short, you need to look like a poor person. You need to appear miserable, impoverished, and barely able to scrape by. You should not be wearing a nice suit. You should not be driving a fancy car. You should not own anything of real value, because doing any of these things will invalidate your claim.
The Johnson Test
The Johnson Test is similar to the Brunner test, in that is looks at the same issue – whether or not your loans will harm your ability to maintain a minimal standard of living – but with this test, they’re going to dip way deeper.
- The Johnson Test for Undue Hardship Evaluates:
- Employment & Income – The Court is going to look at your current employment, income, and future prospects, comparing all of these to the Federal poverty line to see if you really are “impoverished” (legally speaking)
- Education – The Court will review your level of education, in order to determine your ability to generate income both now, and in the future; let’s just hope you didn’t get one of them fancy STEM degrees from a top-ranked school
- Health – The Court will evaluate your ability to stay healthy and remain in the workforce, and you’d better hope they don’t think you can work until 80, because that will increase your earnings potential, and make it harder for you to qualify for the discharge; now would be a good time to discover a chronic, life-threatening or at least disability-inducing disease…
- Dependents – The Court will take a look at your dependents in order to determine whether or not they’re adding to your financial burden; happen to have 8 children who have been eating your out of house and home? Things may be finally looking up for you!
- Good Faith Efforts – The Court will analyze your previous attempts to pay off the loan, evaluating whether or not you were the architect of your own destruction, i.e., if your current financial situation was caused by your own irresponsible or negligent spending
How can you prove that you deserve that discharge?
Just like the Brunner test requires, you’re going to need to look like you’ve really given it a solid go and attempted to pay down your loans by cutting expenses, reducing wasteful spending, and making every penny count.
The more cool stuff you have and the more exotic your Instagram feed looks, the harder you’ll find it to convince the court to let you walk away from your debt.
The Totality of Circumstances Test
Honestly, it sounds the scariest, but this is my favorite test of the bunch, because it looks at things on a case-by-case basis, and I think it’s actually the most fair.
The Totality of Circumstances Test feels like it wants to help you win approval for a discharge, so if you can find a Court who has been applying this test instead of the Brunner or Johnson test, then I’d recommending pursuing Bankruptcy proceedings there instead.
- The Totality of Circumstances Test for Undue Hardship Evaluates:
- Your Past, Present & Future Financial Resources – How much money have you been making? How much are you making now, and what will you be making in the future? Will it be enough to provide for a minimal standard of living if you’re required to continue paying back your loans?
- Your Reasonable Living Expenses – Based on the number of dependents you have, what is a reasonable estimate for your true cost of living expenses? How much money do you really need to survive (not thrive!)? And will your loan prevent you from doing so?
- The Duration of The Hardship – How much longer are you going to have to work to pay off the loan, fit it’s possible at all? Are you just temporarily impoverished because of a downturn in the economy, or a bad break at your company, or are you permanently disabled, running out of time to work, or do you owe so much that even 20 lifetimes wouldn’t let you repay the entirety of the loan?
- Your Good Faith Attempts to Pay Up – Have you really attempted to find a way to pay down this debt, or have you just been treading water? Are you pretending to be saving money, but actually sitting on a massive collection of vintage, sealed Star Wars: Power of the Force Figures worth tens of thousands of dollars? Have you really attempted to cut costs in non-essential expenses, or did you just switch from the daily $8 cup of Starbucks to the $4 one, and limit Avocado Toast outings to 5 days a week?
How can you prove that you should receive a discharge?
At the end of the day, the Totality of Circumstances Test works just like the Johnson and Brunner Tests, and your ability to qualify for a discharge will be entirely based on what you’ve been doing the past few years.
If you did actually cut costs, you have really been searching for better employment, and you simply have no realistic opportunity to pay down your massive debt, then you’ll have a shot at getting approved for the discharge.
The Bryant Poverty Test
I like the Bryant Poverty Test because it’s simple and straightforward, but it’s not one you want to face because it’s the hardest to qualify under, unless you’re literally impoverished to the point that you may literally die, and if you were, I don’t think you’d be reading this post right now, so for your sake, let’s hope you don’t have to stare down the barrel of this excruciating test.
Unlike the other tests, the Bryant Test is is all about numbers, and only requires one very basic calculation:
- The Bryant Poverty Test Asks:
- Is your after-tax net income near or below the federal poverty level?
How can you pass the Bryant Poverty Test?
You’d better hope that you are POOR AS HELL, or you’ve got no chances at getting a discharge under the Bryant Poverty test, because that’s all that matters.
No matter how much you owe, what your other financial obligations are, or how hard you’ve tried to pay back your loans in the past, you’d better not be making any money, because the Federal Poverty Level is LOW, and if you’re working full time then you probably won’t have any hope at getting this discharge.
Other Considerations Involved In Federal Bankruptcy Discharges
Now that we’ve gone through all the core details of the bankruptcy discharge process, let me point out some other things that you might want to take into account when deciding whether or not it’s worth pursuing a discharge in the first place.
The difficulty in getting a discharge isn’t just about the tests mentioned above, but also about what kind of school you attended, where exactly you received your education, and how you went about borrowing the money to pay for the higher education program whose loans are currently destroying your finances.
Typically, it’s going to be easier to qualify for a discharge if you satisfy any or all of the following conditions:
- Things That Make It More Likely You’ll Get Approval
- If you took out loans to attend a school NOT ON the Department of Education’s list of “eligible educational institutions”, then you’ve got a better shot
- If your loans were provided by one of the large, national lenders, like a well-known bank or other massive financial institution, then you may have a chance at getting a discharge
- If your debt relates to education programs that aren’t offered at traditional four year colleges and universities (like technical or vocational programs, IT training, coaching classes, cooking or beauty schools), then you definitely have hope for wiping out that debt
One other thing to consider is that even if you don’t qualify for a complete bankruptcy discharge, it may be possible to receive relief from some percentage of your debt.
This is actually more common than a total discharge, because it gives the Courts some wiggle room, and keeps their masters happy (did you know that the people who appoint the Judges often get their Political Campaigns funded by big banks?).
The relationship between bankruptcy and Federal student loan debt is definitely complicated, but like I’ve been saying all along, there is a glimmer of hope that you just might very well qualify for a discharge.
I Think I’ll Qualify – What Should I Do Next?
To start the process, you’ll first need to file a petition called an “adversary proceeding”, which requests a Court Judgement called a “determination” on whether or not you deserve to receive approval for having your loans forgiven.
After filing the Adversary Proceeding Petition (or, ideally, having your Lawyer file it for you), you’ll then get into the “Undue Hardship” process I outlined above, and need to prove to a Court that you’re really struggling under the weight of those loans.
Remember, if you can’t make it look like your debt is LITERALLY DESTROYING YOUR LIFE, then you probably don’t want to take a chance at going down this route, because it’s a huge pain in the ass that you’d probably rather avoid.
I’m Going to File – But Which Type of Bankruptcy Should I Pursue?
All kidding aside, you really do a need a Lawyer to handle this for you, because while I can give you some basic advice, you’re going to run into a world of hurt without an expert by your side.
Got your Attorney? Great! Now that that’s settled, I’ll continue to avoid offering legal advice by explaining that Bankruptcies come in two exciting flavors, Chapter 7 and Chapter 13, each of which has Pros and Cons.
Depending on which type of Bankruptcy you file, if your discharge request is denied, you’re going to face very different outcomes, so it’s important that you pick the right one or you could end up costing yourself tens or even hundreds of thousands of dollars, and you may have to sell those Vintage Star Wars figures after all (if you do end up down that, make sure to email me first because I’m in the market!).
Here’s what’ll happen if you fail to satisfy the Undue Hardship Tests outlined above:
- If You Fail to Satisfy the Undue Hardship Conditions
- For a Chapter 7 Bankruptcy Petition – You’re screwed. Do not Pass Go. Do not Collect $200. Your Student Loan Debt is now yours for life.
- For a Chapter 13 Bankruptcy Petition – You’re still screwed, but not entirely. In fact, you may still be able to pursue alternative opportunities to receive financial assistance. Yay!
If you can’t tell, I’d recommend filing Chapter 13, because it gives you a little additional wiggle room. But again, make sure to consult with a local bankruptcy attorney to find out which type of bankruptcy will be best for your specific financial situation, because blah, blah, blah, blah and blah.
And again, I’m not offering legal advice here, so don’t take it that way!
Chapter 13 vs. Chapter 7
If there’s any doubt in your mind about your chances for getting the Bankruptcy Discharge approved, then you’d better file Chapter 13.
Why? Because when you file bankruptcy under Chapter 13, you’re agreeing to undergo a debt “reorganization”, which restructures your debt, instead of wiping it out entirely, which will allow you pay the debt off in a way that prevents you from remaining impoverished.
Chapter 13 debt reorganization plans provide you time to save up money so you can actually afford those bills which you don’t have any funds for now, and can be used for any kind of debt, including student loans (obviously), but also mortgages, credit cards, and other stuff that you never should have bought in the first place since you definitely couldn’t afford it, but did so anyway.
The reason I think you should consider filing Chapter 13 (NOT legal advice!) is that you’ll have options in case your discharge is denied. What do those options look like? I’m glad you asked!
I Failed to Get a Discharged, But Filed Chapter 13 Bankruptcy – What Do I Win?!
If you listened to my NOT LEGAL ADVICE and Filed Chapter 13 Bankruptcy, then failed to receive an approval for your discharge, then I’ve got some good news, because you aren’t completely screwed!
- After Failing to Receive Approval, You Can Still:
- Set the size of your monthly student loan payments based in your Chapter 13 Plan (which could make your monthly payments very low
- You’ll make these payments for 3-5 years, based on how long your Chapter 13 Plan was structured to run for, which could save you a ton of money
- You’ll still owe the remaining balance on your loans after emerging from bankruptcy (3-5 years), but you can then attempt to discharge whatever’s left of the debt AGAIN by pursuing ANOTHER Bankruptcy and facing another Undue Hardship Test (sounds fun, right?)
- Debt Collectors won’t be able to bug you while you’re making payments under the Chapter 13 plan, which is awesome, because anyone who’s been hounded by them knows how terrible that can be
- Your Chapter 13 Plan may allow you to prioritize your student loan debt over other debts,
allowing you to focus all your expendable finances on getting rid of that loan
Once more, because I haven’t said it enough, this is not legal advice and only a local bankruptcy attorney can advise you on how to proceed here. Don’t listen to me; I learned all I know about this stuff from Google.
Raising Defenses in Bankruptcy Proceedings
One final item to consider, though again you need to consult with an Attorney etc., etc., is that you might be able to “Raise a Defense” during your Bankruptcy case, which is kind of like using the Borrower’s Defense Against Repayment Program, in that it allows you to claim that your school, your lender, or your student loan servicer did something illegal and that your debt shouldn’t be valid in the first place.
If you can prove that one of these entities committed breach of contract, leveraged unfair or deceptive business practices, or perpetrated some kind of fraud against you, then you may be able to get a Judge to rule that you don’t need to pay them back.
This isn’t easy, and if you’re going to head this route then I’d suggest just going after the Borrower’s Defense to Repayment Discharge in the first place, but it’s an option for people who didn’t know about Borrower’s Defense, or who ignored my NOT LEGAL ADVICE and proceeded to File for Bankruptcy when they had no hope of getting a discharge approved anyway, and who now are stuck in a hopeless process who need a Plan B with better potential outcomes than bleeding out in a bathtub.
How Does “Raising a Defense” Work?
You’ve got to convince the court that you were swindled in some way, and that you only agreed to take out that massive student loan because someone lied to you, conned you or otherwise did something terrible that made it seem like a good idea.
The key thing you need to accomplish here is getting the court to agree with you that your education credentials aren’t really worth anything, because they were overhyped in some way, and that even though you spent all this time and money (or didn’t spend money but racked up a huge debt), you’re in a worse situation now than you were before you entered school.
Essentially, you’re arguing that you did generate a boatload of debt, but that it only happened because someone else convinced you of a falsehood, and so it should be cancelled since it’s really not your fault (Millennials will definitely understand this argument).
This is a great strategy for vocational or trade schools, like trucking schools, culinary colleges, pilot training programs, or other educational programs that aren’t offered at traditional colleges and universities, and especially those from schools or other institutions with terrible job placement performance, but again… if your’e going to head this direction, just use the Borrower’s Defense Against Repayment Program, don’t file for Bankruptcy.
Do I have a Snowball’s Chance in Hell at Winning a Discharge?
Probably not, but who’s to say. Maybe an Attorney? Not me, that’s for sure.
But in all honesty… it truly does depend on your specific financial situation, as well as which Court your case will be tried in, who the Judge will be, and who’s going to be representing you in Court.
By the way, if you plan on representing yourself like people do in those terrible Lifetime movies or Jailhouse Lawyer stories, then let’s give up all hope for victory now, because you’re going to lose. That part is simple and straightforward.
If, however, you can find a great Attorney, you truly are impoverished, you’re facing massive debt, and have no hope for improving your future earnings potential, then you may have a shot at getting that discharge, and if you’ve already exhausted all of your other options, then I think it’s worth pursuing.
But Wait, There’s More!
Finally, there’s a really easy trick that you can use to determine your chances, which is to understand that in most cases, you’ve got no hope at all, because current bankruptcy laws state that “qualified education loans” from “eligible education institutions” cannot be discharged, and so if your school is on that list which the Department of Education keeps, then you want to avoid trying to a Bankruptcy Discharge.
So, without further ado, check the DOE’s List of Eligible Institutions, and see if your school is on it. You can do that here.
If your school is not on the list, then have at it! GL & HF!
If your school is on the list, then I should have told you this earlier because I just wasted a lot of your time. Sorry about that. I didn’t think of this advice until the very of the post, and it’s taken so long to write that I don’t feel like going back and redoing the whole thing just to make this fit into the earlier sections. (Just kidding, I’m going to go back up there and fix that now!)
Disclaimer:Information obtained from Forget Student Loan Debt is for educational purposes only. You should consult a licensed financial professional before making any financial decisions. This site receives some compensation through affiliate relationships. This site is not endorsed or affiliated with the U.S. Department of Education.