Borrowers are quite burdened with student loan debt. Most of the students find it really hard to make payments for their student loans. According to the Federal Reserve and Federal Reserve Bank of New York, around 44.7 million Americans owe over $1.56 trillion in student loan debt.
If you are buried in student loan debt and ran out of options to solve this problem, then filing for bankruptcy might be your only option. But it is quite challenging to qualify for loan discharge if you file for bankruptcy as it involves a very complicated legal process.
If you are willing to put in the effort and go for it then you need to know what all requirements you need to meet before starting.
Table of Contents
- Loan discharge process under bankruptcy
- Brunner test for undue hardship
- How to prove undue hardship under the Brunner Test?
- The Totality of the Circumstances Test
- Proof of undue hardship
- Examples of borrowers proving undue hardship
- Other circumstances that might qualify for a loan discharge under bankruptcy
- The end result of bankruptcy filing for loan discharge
- What to do if you cannot prove undue hardship?
- Bankruptcy Law for student loan discharge
- Is it a good idea to get a loan discharged by filing for bankruptcy?
- Options to consider if you are struggling to make student loan payments
Loan discharge process under bankruptcy
If you want to get your loans discharged under bankruptcy, you need to get a good bankruptcy attorney. As it is mentioned that this process involves complicated legal procedures, filling for the process on your own would end badly.
You need to go to court and go through an 'adversary proceeding'. This proceeding will focus mainly on your student loans part of the bankruptcy filing.
At present, the law says that the only way that loans will qualify for discharge is if you or your dependents are facing some 'undue hardship'.
Undue hardship is not defined clearly by the Bankruptcy Law. Usually, the court will decide if you’re actually facing it or not.
You must be able to prove an undue hardship on you and your family in regards to clearing the loan which should then lead to the loan being discharged.
So the courts will be evaluating you on many different criteria to check if undue hardship is the main reason for the discharge.
For this, the Bankruptcy Courts use two tests to find out if you are facing undue hardship. These tests include the Brunner Test and Totality of the Circumstances Test.
Brunner test for undue hardship
The Brunner Test requires the borrower to prove the following -
You are unable to maintain a minimal standard of living with the current income and expenses for you and your dependents if you are forced to pay your loans
Additional factors are indicating that this situation is not likely to resolve anytime soon and may persist for a significant period of time of the repayment period
The borrower has made efforts to stay in good faith to repay the loans in the time period following up to declaring bankruptcy
Most courts but not all of them use this test to assess and certify the eligibility of a claim for bankruptcy to discharge a loan.
Since this method was introduced during the year 1987, a lot has changed since. It has led some courts to question this standard and even consider whether they should start using a different standard.
For most Federal Courts, this Brunner Test seems to be the law but this appears to be changing nowadays. It is also the most widely used test in court as compared to other tests.
Keeping this in mind, you will need to be able to prove the above requirements of the test.
How to prove undue hardship under the Brunner Test?
Although it is quite difficult to get through the Brunner Test as there is no clearly defined standard to meet the three requirements, you have to remember that it is not impossible. You just have to put in a lot of effort.
The following are some of the information you need to know in order to pass the test.
1. Minimal Standard of Living
According to some courts, a minimal standard of living means that you have -
Clean, furnished shelter, free of pests and can be heated and cooled
Food and personal hygiene products
Well maintained vehicles with insurance and put for repair
Health insurance and other savings you’ve kept for burial and other final expenses
A small recreation fund
You have to show more than just financial struggles but not maximum poverty or complete hopelessness. But it totally depends upon the court and how they choose to see it.
For example - There are some borrowers who compare their situation with the poverty guidelines provided.
2. Persistence of the situation throughout the repayment period
You have to present any fact to the court that might lead to your situation continuing to exist throughout the repayment period. If the fact will lead to them, approving your request will depend upon the judgment of the court.
For example - Some borrowers have shown that either they or their dependents are suffering from a mental illness or are physically disabled, while some have used their old age for reasoning.
3. Good Faith
Definitions given by two bankruptcy judges for good faith under the Brunner Test is -
'A substantial effort to realize opportunities from one’s education and resources as well as minimize the costs of living'
'The debtor’s efforts to obtain employment, maximize income and minimize expenses'
Again, how you need to show that you are in good faith is not really known and it totally depends upon the judge’s evaluation.
For example - Some borrowers have tried the following to show their good faith.
Applied for deferments and forbearances
Enrolled in income-driven repayment plans
Working multiple jobs and trying to get a better paying job to increase income
Payments for the loan have been made significantly
The Totality of the Circumstances Test
This test is not as rigid as the Brunner Test and acts as an alternative. It was adopted by the Eighth Circuit and requires the court to look upon-
Your past, present, and future reasonably reliable financial resources
The calculation of yours and your dependent’s reasonable necessary living expenses
Any other relevant facts and circumstances surrounding the bankruptcy case
The court will base their judgment of you proving your undue hardship on the same facts as those that apply to the Brunner Test.
Just like the Brunner Test, this test is also subjected to the court’s judgment. But since it is broad, it is also flexible and imposes fewer restrictions on the borrower because it considers a variety of factors.
But it does have the same purpose - to find out your financial ability to repay and your behavior which again depends upon the court’s judgment.
In addition to these two tests, there are other tests too which are used by different courts. Talk to your attorney to find out more about it.
Proof of undue hardship
By going to the courts and telling them you are in undue hardship isn’t going to work. You need hard copy proof in the form of documents or other evidence. You must take the help of your attorney to find out what you have to do.
Having the following information in hand will prove to be beneficial for you, even though some will be of help to only those people who are facing certain type of situations-
A documented proof of all the payments you’ve made on a monthly basis including your utility bills, rent or mortgage
Statements of credit card expenses
Record of all your necessary expenses in detail, such as your food bills, clothing allowance, and household maintenance. Receipts from all the expenses should be kept
If you are physically disabled or injured, keep a record of your medical expenses and letters from your doctors
Documented proof to show that you lost your job
Show a proof about the number of dependents you have, probably through your tax returns
Documented proof which shows that you’ve tried repaying your debt along with your loan servicer, like changing your repayment plans or other measures you’ve taken. Take screenshots of emails, phone calls along with the date and time. Also, write down the names of all the lender representative you’ve dealt with
You might need a witness to all this as well. For example - If you are physically disabled, you might have to get your doctor to testify.
Examples of borrowers proving undue hardship
1. A student loan borrower of 50 years of age earning around $8.50 per hour was able to prove undue hardship and got loan discharge.
The court sympathized with the borrower and agreed as they saw that a maximum earning capacity has been reached and the borrower doesn’t have enough money to support the family and pay the debts, hence being trapped in a 'cycle of poverty'.
2. In Re Walker, a student loan debtor had her loans discharged by filing for bankruptcy by passing the Totality of Circumstances Test. She showed evidence that she couldn’t maintain a minimum standard of living for her children if she were to repay the loans.
The lenders argued that Walker had too many children so she shouldn’t be allowed for undue hardship. The lenders lost.
3. There are mixed results for situations when the borrower wanted to show that their financial problem will persist in the future. For example, a court said the borrower having alcohol issues is not an unconquerable problem, while some other courts were in favor of the borrower.
In another case, a borrower showed evidence of her having mental impairment along with her receiving Social Security Benefits. It was enough for her to prove undue hardship. The court agreed that with her mental state, it would definitely interfere with her work.
Other circumstances that might qualify for a loan discharge under bankruptcy
The following are some circumstances that occur which might qualify your Federal Loans to be discharged under Bankruptcy.
The bills you are paying related to your health and disability might be too high that you are not able to make debt payments even if your income exceeds 150% of the poverty line
You are not able to meet the Total and Permanent Disability Discharge requirements, like the poverty line, earned income restrictions when the monitoring was done after the loan discharge, but still not able to pay your debts
Your dependent(s) is disabled making you incur a heavy amount of medical and disability-related expenses
You’ve tried your best to reduce your expenses and increase income, but the amount of total debt you have is too high.
You are a borrower of Federal Parent PLUS Loan which is not eligible for all Income-Driven Repayment Plans. But if consolidated, it can qualify for an Income-Contingent Repayment Plan.
Mostly private loans do not offer disability discharge nor have the option of enrolling into an income-driven repayment plan. It might give you a higher chance of qualifying for a loan discharge under bankruptcy if you are totally and permanently disabled or have a low income with no expectations of it to increase.
The end result of bankruptcy filing for loan discharge
If you file for bankruptcy to get your loans discharged, it might lead to any of the following results -
1 - Full Discharge - If the court decides that your loans are qualified for full discharge, then, then you do not need to make any further payments.
2 - Partial Discharge - If the court decides that your loans are qualified for partial discharge, then only a part of your debt is discharged, the other parts you will have to make payments.
For example, if you have both Private and Federal student loans and the court decides that your private loans are discharged while you have to make payments for your federal loans by making them affordable by changing your repayment plan.
3 - No discharge - If the court decides that your loans are not qualified for discharge, then you have to make full payments for them. But the court might sympathize and reduce the interest rates if it means making it more convenient for you to repay.
What to do if you cannot prove undue hardship?
If you could not get your loans discharged under undue hardship, you could still file for the following-
Chapter 7 Bankruptcy - If you file for this kind of bankruptcy, then the lenders will not be able to collect your debts for a period of time.
The court will also have control of your property so they might liquidate them so that you can repay your loans. But you would still have to make payments when the bankruptcy case is over.
Chapter 13 Bankruptcy - Also called as 'reorganization', a plan has to be submitted to your lender showing that you are going to repay them over time, from a future income. These plans will allow you to focus on other debts first like car loans, housing, personal loans, and more.
You would have to make a court-determined payment of your students while you are on this bankruptcy case for 3-5 years. You would still have to make full payments of your loans after the case ends, but during this period you could try to qualify for undue hardship to get your loans discharged.
Bankruptcy Law for student loan discharge
Student Loans were eligible for discharge by filing for bankruptcy before 1976.
Congress then made changes to the law allowing loans to be discharged only if they’ve been repaid for 5 years which was later on extended to 7 years.
In 1998, loan discharge under bankruptcy was removed, exceptions in the case where borrowers can prove that repaying the loans would put them in 'undue hardship'. In 2005, this exception was made available to private loans also.
At present, a measure has been taken by the lawmakers to provide relief to the borrowers who wish to seek loan discharge by filing for bankruptcy. It’s been supported by 14 Democrats, one Republican and one Independent and it is called as the Student Borrower Bankruptcy Relief Act of 2019. This act allows student loan debt to be treated the same as any other debt which can be discharged through bankruptcy.
Is it a good idea to get a loan discharged by filing for bankruptcy?
If you are successful in proving hardship, your student loan can and will be completely discharged.
Filling for your bankruptcy also automatically protects you from the collection actions on all your debts for the time period of resolution of your bankruptcy or until the creditor gets the permission from the court to follow through with their duties.
If there may be a chance for you to discharge your loans through the declaration of hardship then it may be wise to follow through on the bankruptcy path.
But it is always a good idea to first consult with your lawyer or a lawyer who is more specialized in this field or a professional to be able to have a grasp at the pros and cons of this process or procedure.
For instance, it is possible for a bankruptcy to remain on your credit history for an extended period of up to 10 years.
There are a lot of costs associated with the filing of bankruptcy and also the procedural hurdles of the same.
There are also limits on how many times you may file for bankruptcy in a specified time so beware of the issues and take precautionary measures.
To get rid of or eliminate via a declaration of bankruptcy, several types of student loans and debts will remain some of the few exceptions in this regard. But of late it has been difficult to get student loans discharged via the traditional procedures involving student loan bankruptcy declaration.
Regardless of how far behind you might be on your loan payments or regarding your income status discharging student loans via bankruptcy at this time is not a good idea. But with the new measure being taken at present, which is the Student Borrower Bankruptcy Relief Act of 2019, bankruptcy might become a good option to get rid of your student loans.
Options to consider if you are struggling to make student loan payments
If you are struggling to make payments on your student loans, filing for bankruptcy should be the last thing you should do and you should consider other options available to you first. The following are some of the options-
1. Income-driven repayment plans - Try considering an income-driven repayment such as IBR, ICR, PAYE or REPAYE. Here your payment is based on your income and family size and other such factors which will lower your payments as compared to the standard repayment plan. You might even qualify for payments as low as $0 which could actually be a relief for you.
Usually given a significant period of time (usually around 20-25 years) your federal student loans can qualify for forgiveness. However, you would probably be required to pay income tax based on the amount of student loan that is forgiven. So keep a lookout on this option.
But keep in mind that this option is not available to private student loan borrowers.
2. Deferment or Forbearance - If the hardship you are facing is temporary like losing a job, then you might be able to qualify for both deferment or forbearance. These options will allow you to postpone making payments up to a certain period of time. While deferment gives you the option of not paying interest on some federal loans, forbearance doesn’t, meaning that you have to make interest payments on your own which accrues during this period.
Although a lot of private loan lenders do not offer this, some allow you to temporarily stop making payments or make interest-payments only.
For example - Sallie Mae provides some borrowers who are facing financial difficulty the option to stop making payments for three months at a time which can be renewed for up to 12 months.
3. Disability Loan Discharge - You might qualify for loan discharge if you are disabled. Federal Loans have the Total and Permanent Disability Discharge program, if eligible, allows the remaining balance of your loans to be discharged.
Although a lot of private lenders do not provide this facility, there are some who do.
For example - College Ave forgives the remaining balance of your loans if you become permanently disabled.
4. Pay off other consumer debt - High-interest rate debt like credit card debt should be considered to be paid off first, especially if it is higher than your student loan interest rate. It can free up cash that can be applied to student loan debt reduction.
You may also be able to consider a personal loan to pay off your credit card debt.
Credit card consolidation is the procedure where you pay off your existing credit card debt with a single personal loan which should cost a lot less in interest as compared to the credit card debt.
If this is possible, make a personal loan at a lower interest rate than your credit card and you can save in the interest and possibly improve your credit score.