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Student Loans, Bankruptcy And The Would-Be Lawyer

C. Dean Matsas & Associates

Can student loans be discharged in Bankruptcy? Technically, student loans can be discharged in bankruptcy (under certain circumstances) but, as a practical matter, it is almost impossible to have student loan debt discharged in bankruptcy, as a would-be lawyer recently learned.

On January 11, 2016, the U.S. Supreme Court refused to hear an appeal presented by a would-be lawyer trying to discharge in bankruptcy more than $260,000 in business and law school debt. The debtor in the case graduated from law school but repeatedly failed to pass the bar exam. In 2012 he filed a Chapter 7 bankruptcy stating he could not repay his student loan debt due to alcoholism, depression and a criminal record. He argued his circumstances made it impossible for him in getting a job. He lived with his mother, who supports their household with her Social Security benefits.

The issue of discharging student loan debt has not been uniformly addressed by bankruptcy courts. In general, the issue is whether requiring the debtor to repay student loan debt will cause “undue hardship.” But the term “undue hardship” was not defined by Congress in the U.S. Bankruptcy Code and the lack of definition of what “undue hardship” means, has lead to an uneven interpretation of the term. Over the years, the bankruptcy courts have basically followed one of two standards to define “undue hardship.” The majority of courts (including the bankruptcy courts in Illinois), use a more strict definition of the term, which makes it very difficult to discharge student loan debt, leaving the majority of borrowers unable to get student loan relief in bankruptcy.

The stricter test, which is followed in Illinois, looks to whether a debtor can maintain a minimal standard of living if forced to repay the debt and whether current financial hardships are likely to continue for a long period of time. This test requires the debtor to meet three requirements: 1. The debtor must show he or she cannot maintain a “minimal” standard of living for themselves and their dependents, if forced to repay the loans; 2. The debtor must show additional circumstances exist indicating his or her financial affairs is likely to persist for a significant portion of the repayment period of the student loans; and 3. The debtor must have made good-faith efforts to repay the loans․

The less strict definition of “undue hardship,” used by a minority of bankruptcy courts, looks to the debtor’s “totality of circumstances,” and makes it a little easier for a debtor to get rid of student loan debt. Under this less strict test, the court looks at: (1) the debtor’s past, present and reasonably reliable future financial resources; (2) a calculation of the reasonable living expenses of the debtor and any dependents; and (3) any other relevant facts and circumstances.

In many ways, both tests of what “undue hardship” means, are really the same, as both basically analyze many of the same factors. Both tests also analyze whether the debtor has made payments on the student loan debt. The would-be lawyer, whose case was not heard by the U.S. Supreme Court, argued the more lenient test should be used and under that test, his student loan debt should be discharged as part of his Chapter 7 bankruptcy. But, it appears the would-be lawyer did not make payments on the debt he was seeking to erase and, arguably, even under the less strict test, his student loan debt would not have been discharged due to the lack of payments over an extended period of time.

Possibly, by refusing to accept the case of the would-be lawyer, the U.S. Supreme Court was implicitly saying there is no conflict between these two tests, as they both essentially look at the same factors to determine whether student loan debt should be discharged in bankruptcy.

Certainly, the Supreme Court had the opportunity to hear the case and adopt a better defined rule or adopt its own rule to determine dischargeability of student loan debt, especially in light of today’s economic conditions and the fact that total student loan debt now exceeds $1.2 trillion, according to the Consumer Financial Protection Bureau. But it didn’t. The refusal of the Supreme Court to hear the case does leave in place an arguable split between federal appeals courts as to the proper standard to be applied to determine whether the requisite “undue hardship” exists when a debtor seeks to discharge student loans. And in Illinois, the law remains the stricter test is used to determine dischargeability, which makes it almost impossible to discharge student loan debt in bankruptcy.

So, do you think the U.S. Supreme Court should have heard the would-be lawyer’s case? What standards do you believe should be used to determine whether student loans should be discharged in bankruptcy? Should a strict test be followed? Should the debtor’s total circumstances be reviewed? Should a period of time pass before a debtor can even attempt to have student loan debt discharged in bankruptcy? Should the debtor’s future income possibilities be taken into consideration? Should the debtor’s past efforts to make payments on the student loan debt be considered? Let me know what you think.

If you have student loan debt, call me to discuss your situation in light of the current law. You may have other options available to you, separate from bankruptcy, to address student loan debt. Call to speak with an experienced bankruptcy attorney about your financial circumstances. We can help you rid yourself of excessive debt and even if you remain with student loan bills, by getting rid of other debt, it may become much easier to make payments on non-dischargeable student loans. There is a better way.

Together, we can make it better.

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