A New Approach to Tackling Student Loans in Bankruptcy

While bankruptcy is difficult for borrowers, student loan repayment options, particularly under court supervised student loan management programs, provide tremendous opportunities for relief under the increasingly complicated student loan system.

With student loans ranking as the second highest source of consumer debt in the United States, the pandemic repayment moratorium has provided relief. As these moratoriums expire, many will face the challenge of repaying and managing their debt.

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Further, with the recent announcement by President Biden of student loan forgiveness of up to $20,000 being both an uncertain future due to litigation and far more complex than many will be able to navigate on their own (especially with so many scams already preying on the unsuspecting), consulting with an experienced consumer attorney can be vital.

With bankruptcy presenting challenges for student loan borrowers, chapter 13 bankruptcy evolved to facilitate the resolution of student loan debt, especially when overseen by court-based student loan management programs.

THE PROCESS ABSENT A COURT PROGRAM

Typically, when a student loan borrower files bankruptcy, they are caught between the proverbial rock and hard place. It is nearly impossible to discharge student loans under the current bankruptcy standards, unless they can show that the payments impose an “undue hardship.” While this sounds reasonable, in practice it requires showing that they cannot maintain even a minimal standard of living, their circumstances are hopeless, and that they made good faith efforts in the past to repay the loans.

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DIGGING A DEEPER HOLE

Once a bankruptcy is filed, the U.S. Education Department places borrowers into an administrative forbearance to ensure that U.S.E.D. does not run afoul of the bankruptcy protections. As a result, while no separate payments are required during the bankruptcy, interest continues to accrue with the borrower often ending up owing more than they did to begin with. Hardly the fresh start bankruptcy is supposed to provide.

Adding insult to injury, the administrative forbearance prevents the borrowers from enrolling in any of the Income Driven Repayment plans that would normally be available to any federal student loan borrower. These IDRs enable a monthly payment based on discretionary income and can be as low as $0.

In addition, these repayments can earn the debtor credit toward forgiveness of their loans. There are multiple programs pursuant to which a borrower can have their entire student loan balanced forgiven, often in as little as 10 years. There are even options for borrowers to get out of default.

THE BENEFIT OF COURT PROGRAMS

All these options are limited when the debtor is in bankruptcy. Recognizing this dilemma and the labyrinth of issues facing student loan debtors in bankruptcy, several year ago, through both litigation here in North Carolina and policy advocacy in Washington, D.C., the Law Offices of John T. Orcutt convinced U.S.E.D. to change this illegal policy and, for the first time, allow borrowers in bankruptcy to participate in these IDR and forgiveness programs.

Since then, a number of bankruptcy courts have taken further steps to adopt student loan management programs. These SLM programs provide structure and transparency for all parties—borrowers, attorneys, courts, the U.S.E.D. and loan servicers—to engage in a consensual resolution of the student loan debt more easily and efficiently. No additional options or rights are created for borrowers. Borrowers are simply able to review and enroll in the same IDR plans as they would otherwise been able to do outside bankruptcy.

In an IDR, especially when through a student loan management program, borrowers repay their loans and work toward forgiveness of the entire balance. This reduces their monthly student loan expenses, often allowing a successful bankruptcy and the fresh start that is intended from the bankruptcy process.

While the road through bankruptcy can be complicated, working together IDRs and court-based student loan management programs allow borrowers to access and successfully navigate the existing federal student loan repayment options.

With the spread of these SLM programs, the student loan crisis and expiring moratoriums can be more efficiently mitigated, leading to improved outcomes and cost benefits for all involved.

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