You may have heard that student loans can’t be discharged in bankruptcy. That statement oversimplifies the truth. You actually can get student loans discharged in bankruptcy, but the bar is higher and the process is more burdensome than for other types of debt.
If you’re considering student loan bankruptcy, you might be at a point where falling behind on your payments has had a major impact on your life. Maybe your wages have been garnished because a lender got a judgment against you. Maybe the federal government kept your tax refund and applied it to your federal student loans because your loans were delinquent or in default at tax time. Your student loan debt is probably just one part of a challenging financial picture that might include long-term unemployment or serious health challenges you developed after borrowing.
While filing for student loan bankruptcy is not an easy process and doesn’t guarantee you will walk away debt free, it’s also not impossible. And if your credit is shot, this could be a faster path to rebuilding your credit than continuing to struggle to pay your debts. We’ll explain how to file and the circumstances that might allow the courts to grant you a fresh start.
- Under U.S. bankruptcy law, student loans are significantly harder to get discharged than other types of unsecured debt, but it is possible to do this.
- Getting student loans discharged in bankruptcy requires an extra step called filing an adversary proceeding.
- Declaring bankruptcy might still improve your situation, even if the bankruptcy court doesn’t fully discharge your student loans.
- There are serious consequences to declaring bankruptcy, and it shouldn’t be pursued lightly.
What Is Student Loan Bankruptcy?
There isn’t a special type of bankruptcy called student loan bankruptcy. It’s just shorthand for the trigger that causes a person to file bankruptcy. What you’re really doing is filing Chapter 7 or Chapter 13, then taking an additional step called filing an "adversary proceeding," which is required to have your student loans considered for discharge.
So before you can petition a judge to get your student loans discharged, you must file Chapter 7 or Chapter 13 bankruptcy. You will complete extensive paperwork that requires you to disclose your assets, income, debts, and expenses. The bankruptcy court will assign an impartial trustee to meet with your creditors to confirm your debts. You must also undergo credit counseling before court proceedings can begin.
Declaring bankruptcy can help people catch up when they’ve fallen behind by halting collection activities and stopping the downward spiral of debt. Once you file bankruptcy, debt collectors have to leave you alone until the court grants them permission to resume collections or until your case is complete. In addition, wage garnishment must stop.
Chapter 7 bankruptcy
In a Chapter 7 bankruptcy, or liquidation bankruptcy, the trustee will sell off your nonexempt assets. Exempt assets vary by state but often include your primary home, a sensible vehicle, and your personal possessions. The trustee uses the proceeds to pay your creditors as much of what you owe as possible, then the court discharges the rest.
To file Chapter 7, you must not have had another Chapter 7 bankruptcy discharged in the past eight years. Also, your current monthly income must fall below the state median or must pass a means test. Certain debts can’t be discharged, such as taxes, alimony, and child support. The whole process can be over in a few months, depending on how complex your case is. Once the case is complete, you can file for student loan discharge.
Chapter 13 bankruptcy
People turn to Chapter 13 bankruptcy when they can’t pass the Chapter 7 means test or don’t want to lose their home to foreclosure. Chapter 13, which U.S. bankruptcy code calls “adjustment of debts of an individual with regular income,” is better known as a reorganization.
It consists of creating a repayment plan that uses up to 100% of a debtor’s income to repay creditors within three to five years. Repayment is supervised by the trustee, who collects a monthly payment from the debtor and redistributes it to the creditors as outlined in the repayment plan.
The bankruptcy court will determine your new monthly debt payments, including your new student loan payment, based on your circumstances.
Chapter 13 might help you if you’re struggling to pay student loan debts and you can’t lower your monthly payment in any other way. This might be the case if you have private student loans, which offer fewer options than federal loans when it comes to repayment.
The U.S. Department of Education requires loan holders “to protect the integrity of taxpayer dollars provided through student loans” in undue hardship discharge cases.
What to Know Before Filing for Student Loan Bankruptcy
In addition to knowing which type of bankruptcy is open to you, there are other things to consider before you choose the bankruptcy option.
- You could end up owing more on your loans. There can be major drawbacks to using Chapter 13 bankruptcy to get student loans under control. The bankruptcy court will decide how much you will pay each of your creditors each month. If you have other debts that are legally categorized as higher priority than student loans, you could end up accruing additional interest on your student loans if the court lowers the size of your payments.
- You shouldn't file if your only debt is your student loan. The Department of Education takes a dim view of this, noting, for example, that it could indicate an intentional strategy to avoid repayment on your student loans. If you have no other debt, you aren't likely to win your case. Student loan discharge is reserved for people who are in circumstances beyond their control that no one wants to be in.
- Success could depend on which type of loan you have. You may have a better chance of discharging or settling a private student loan in bankruptcy than a federal student loan. The reason: Federal student loans offer income-driven repayment (IDR) plans, while private student loans do not. "Many courts look at the ability to participate in an IDR plan as proof that you can repay the debt," explained Stanley Tate, Esq., a student loan attorney in St. Louis, Mo., who helps clients nationwide with student loan problems. "Plenty of courts say if you can make a payment under an IDR plan, even $0, then you shouldn't be able to discharge your federal student loans." If you're not familiar with income-driven repayment plans, review your options first before looking into bankruptcy as a solution.
- Filing costs money. You must pay court filing fees unless you’re so broke that the court waives your fees. And it’s a good idea to have a bankruptcy lawyer with a track record of getting student loan debt discharged—except that you may not be able to afford an attorney, and if you can, the court might find that your circumstances aren’t dire enough to warrant a student loan discharge. Look for one willing to take on your case pro bono (“for the good”) or for a fee the court would find acceptable (visit the American Bar Association's or your state bar association's website to find one).
Bankruptcy can stay on your credit history for up to 10 years. If your credit score was good before you filed, it can take a serious hit after you file.
The Additional Step: Filing an Adversary Proceeding
Here's where things get more complicated: Just filing for bankruptcy under either Section 7 or Section 13 isn't enough to have your student loans discharged. As noted above, you will also have to take the additional step of filing an adversary proceeding.
Under U.S. bankruptcy code, an adversary proceeding is “a proceeding to determine the dischargeability of a debt.” In other words, it's a lawsuit within a bankruptcy case. You'll submit adversary proceeding paperwork for your student loan debt, and included in this paperwork will be what's known as a complaint. The complaint will include administrative details such as your bankruptcy case number along with the facts about why you are seeking to discharge your student loans in bankruptcy--the circumstances of your undue hardship.
You’ll need to take this additional step because student loans and a few other types of debt have stricter requirements for discharge than, say, credit card debt. These requirements are described in section 523(a)(8) of the U.S. bankruptcy code. The key wording that relates to the discharge of student loans is: “A discharge under . . . this title does not discharge an individual debtor from any debt . . . unless excepting such debt from discharge under this paragraph would impose an undue hardship on the debtor and the debtor’s dependents." Note the words "undue hardship," which we'll address in "Proving Student Loan Repayment Is an 'Undue Hardship,' below.
When to file an adversary proceeding: Chapter 7
If you go the Chapter 7 route, you can file the adversary proceeding right after you file your bankruptcy case.
If you've already gone through Chapter 7 bankruptcy and your case has been closed, you may still be able to file an adversary proceeding to try to get your student loans discharged. How much time you have to do so depends on where you live. "Some bankruptcy courts let you file several years after your Chapter 7 ends," Tate says. "Other courts say that you have to file the AP relatively soon after your case ends."
If your Chapter 7 case is already closed, you first have to move to reopen your bankruptcy case, but it's just procedural, according to Tate. It doesn't restart the bankruptcy or eliminate the discharge you've already gotten for your debt.
When to file an adversary proceeding: Chapter 13
In a Chapter 13 bankruptcy, when you can file an adversary proceeding depends on the rules of the bankruptcy court where you live, says Tate.
"Some courts let you file the AP soon after you file your Chapter 13. Other courts demand you wait until the case is near the end. Courts do that to have a better idea of the debtor's financial status," he explains. "After three or five years [the timeframe for the basic bankruptcy proceeding], the court should have a good idea of your past, current, and future financial resources."
No matter when you file, if you win the adversary proceeding, your student loan nightmare still won't be truly over. That's because you have to wait until you've completed the necessary Chapter 13 plan payments and earned your discharge order for your other debts before your student loans will be discharged, Tate explains.
If you are allowed to file the AP early in your case, a benefit of doing so could be getting the proceeding over with sooner and getting an answer to what will happen with your student loans.
Chapter 7 bankruptcy may be faster (see "Comparing Bankruptcy Options"), but it is definitely not the only path to getting your student loans discharged.
"Your monthly payment in a 13 may go mostly towards your secured debt—your house, car, etc.—with little to no money paid to your unsecured creditors," Tate says. "What this shows is that just because you can keep a roof over your head and maintain transportation, doesn't mean you can afford to repay your student loans. This is the same as a debtor in Chapter 7. Many of them keep their mortgages or pay rent and keep their cars. But just because they can do that, doesn't mean they can also pay their student loans."
|Comparing Bankruptcy Options|
|Chapter 7||Chapter 13|
|Who can file||Current monthly income must fall below the state median or must pass a means test||Must have enough disposable income to make debt payments over three to five years; total secured debt must not exceed $1,257,850; total unsecured debt must not exceed $419,275|
|Relief available||Collection activity stops; all debts wiped out except those the court deems nondischargeable and those that are never dischargeable, such as taxes and child support||Collection activity stops; can stop foreclosure and give you more time to catch up on mortgage payments; remaining balance on unsecured debts discharged after completing repayment plan on priority and secured debts|
|Timeframe for basic bankruptcy proceeding||As little as a few months||3 to 5 years|
|Timeframe for possible student loan discharge||As little as a few months||3 to 5 years|
|Cost||Court filing fees + attorney fees + assets you're required to give up||Court filing fees + attorney fees + assets you're required to give up|
|Effect on credit||Can stay on credit report up to 10 years||7 years after discharge; some creditors may view Chapter 13 more favorably than Chapter 7|
|Assets you get to keep||Varies by state||Varies by state|
The 'Undue Hardship' Hurdle
Remember those words “undue hardship” in that excerpt from the bankruptcy code? This is what you have to demonstrate to get your student loans discharged.
Many student loan debtors feel like their loans are an undue hardship. But for a bankruptcy court to take your side, you’ll have to meet specific conditions. The problem: There's no uniform set of them, so making your case can be tricky.
The good news is that your student loan creditors—which may include lenders, servicers, and collection agencies, depending on the types of loans you have and how far behind on payments you are—must also meet specific conditions. They must meet the “preponderance of the evidence” standard, a high standard to prove that their claims against you are valid. They must also prove that your loans meet the conditions of section 523(a)(8).
The Brunner test
Most states use the Brunner test to determine undue hardship. It's based on the 1987 case Marie Brunner v. New York State Higher Education Services Corp. This case was heard in the United States Court of Appeals, Second Circuit. Marie Brunner represented herself and lost.
The reasons for Brunner's loss are evident in the appeals court findings. She wasn't disabled or elderly, she had no dependents, and there was no evidence of a "foreclosure of job prospects" in her field—all things that might have prevented her from finding work. In addition, only 10 months had elapsed since her graduation, she had applied for discharge within a month of the due date of her first student loan payment, and she had not requested a deferment, “a less drastic remedy available to those unable to pay because of prolonged unemployment.”
The 'totality of circumstances' test
A few states (specifically, those in the Eighth Circuit) use the "totality of the circumstances" test, which you might read as an easier standard to meet because it doesn't consider whether you’ve made a good faith effort to repay your loans, such as consistent efforts to obtain employment and to maximize income and minimize expenses. However, the totality of the circumstances test also includes an “any other relevant facts and circumstances” component that could be broadly interpreted.
Under either standard, you’ll have a high bar to clear, especially for federal student loans, where the government specifically states that the burden of proof is on the debtor to prove undue hardship.
So...what really constitutes undue hardship?
Cases where borrowers had their student loans discharged provide some clues. Specifically, a court might agree that repaying your loans would be an undue hardship if you can’t maintain a minimal standard of living for yourself and any dependents, if the hardship will continue throughout the loan’s repayment period, and if you’ve sincerely tried to repay your loans before filing bankruptcy.
What does a court consider a “minimal standard of living”? Again, case law and some common sense can guide us. It might mean:
- Your income has been below the federal poverty level for several years and doesn’t show signs of improving.
- You’re on public assistance or dependent on a family member.
- You have a debilitating mental or physical illness or permanent injury.
- You have a child with a serious illness that requires round-the-clock care.
- Divorce reduced your family income, with no hope of it returning to its previous level.
- Disability checks are your sole source of income.
- You depend on public assistance to support your children.
- You support a spouse who was seriously and permanently injured in a car accident or who has developed a total disability.
The common thread in these examples is that your situation is unlikely to improve in a way that would allow you to repay your debt.
In addition, your expenses, which the bankruptcy court will scrutinize, should include only reasonably priced necessities, not luxuries or nonessential purchases such as restaurant meals, brand name clothing, and vacations—not even giving money to your independent adult child.
Your student loan holder may choose not to oppose your petition to have your loans discharged in bankruptcy court if it believes your circumstances constitute an undue hardship. Even if it doesn't, it may still choose not to oppose your petition after evaluating the cost of undue hardship litigation. The reason: For federal loans, the Department of Education allows a loan holder to accept an undue hardship claim if the costs to pursue the litigation exceed one-third of the total amount owed on the loan (including principal, interest, and collections costs).
Private student lenders are likely to apply similar logic.
If you plan to claim undue hardship for federal student loan repayment based on your physical or mental impairment, you may not need to go to bankruptcy court. You may qualify for automatic discharge under Total and Permanent Disability Discharge.
Other circumstances where you may be able to avoid bankruptcy court and apply for administrative discharge are death, a closed school, a false certification, an unpaid refund, and borrower defense. Forbearance, deferment, and rehabilitation are the other options for managing difficult federal student loan payments.
The Bottom Line
Going through the bankruptcy process doesn’t guarantee a specific result, especially since human judges will use their unique experiences and perspectives to inform their decision about your case, even as they also rely on the outcomes of previous cases that may be similar to yours.That means the court may rule not to discharge your student loans.
The outcome of your case will also depend on how your student loan creditors handle it—whether they agree that you’re facing undue hardship and whether it’s worth their money to go to court. These are big companies with attorneys to represent them, which is a great reason to have an attorney representing you.
If the bankruptcy court sides with you and agrees that repaying your student loans would cause undue hardship, the best-case scenario is that all your loans are fully discharged. The worst-case scenario is that you lose your case and still have to repay everything you owe, which may now include collection costs, additional interest that has accrued, court fees, and attorney fees. In between those two outcomes, you might have your loans partially discharged—or you might get your loans restructured with terms that make them easier to pay back.
Remember, bankruptcy is for people who are in dire need of relief from serious financial burdens. Student loans might only be part of that picture, albeit a big part, and they require an extra step to be considered for discharge in bankruptcy. Bankruptcy can be an effective way to get out from under crushing debt if you have a good case. If you don’t, it can be a waste of time and resources that are better spent pursuing more realistic means to manage your debt.