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Student Loans


1. General Rule. Student loans are not dischargeable in any bankruptcy case (Chapter 7, 11 or 13) unless the debtor can prove that he will suffer an "undue hardship" if the debts are not discharged. A non-dischargeable educational debt is defined as any:      Index

(a) educational benefit overpayment or loan insured, guaranteed or funded by any governmental unit or non-profit institution; or

(b) obligation to repay funds received as an educational benefit, scholarship or stipend.

2. Benefit Overpayment. An "educational benefit overpayment" is an overpayment from a government program such as the GI Bill where the student receives a payment after leaving school. This type of debt can not be discharged in bankruptcy and must be repaid.       Index

3. Loan Requirement. Not all educational debts are considered "loans." Most courts state that the transaction will not be considered a "loan" unless the school extends credit to the student. In other words, the school and student must agree in advance that the school will allow the student to attend classes and pay the fees at a later time. An unpaid debt for tuition or fees will constitute a non-dischargeable student loan only if the school and student agree in advance that the student can repay the debt at a later time.       Index

Example #1. Student enrolls at Pay Me Now University. Pay Me Now policy requires all students to prepay all fees before classes begin. Student does not have the money to pay his fees. Pay Me Now lets Student attend classes anyway. Student withdraws from Pay Me Now before the semester ends, never pays the fees, and files for bankruptcy. Most courts would rule that the tuition debt does not constitute a "loan" and is dischargeable in bankruptcy. The tuition debt is not a "loan" because Student and Pay Me Now never agreed in advance that Student could pay the tuition at a later time.

4. Benefit, Scholarship or Stipend. Debts for an educational benefit, scholarship or stipend are not dischargeable only if funds were advanced. If no funds were advanced, a debt to repay an educational benefit, scholarship or stipend can be discharged in bankruptcy.       Index

Example #2. The unpaid tuition debt in Example #1 also fails to qualify as "funds received as an educational benefit, scholarship or stipend." Although Pay Me Now provided an "educational benefit," no funds were advanced. Most courts would rule that the tuition debt is dischargeable in bankruptcy.

5. Seven Year Age Exception.       Index

5.1. Old Law. Before, October 1998, student loans were dischargeable in bankruptcy if the debtor filed for bankruptcy more than 7 years after he was obligated to start making loan repayments.       Index

5.2. Current Law – 7 Year Exception Removed. On October 7, 1998, the law was changed and the 7 year age rule was removed. Under current law, all student loans are not dischargeable in bankruptcy, regardless of the age of the debt.

6. Hardship Discharge Exception.       Index

6.1. General Rule. The "undue hardship" exception is the only exception to the general rule preventing discharge of student loans in bankruptcy. A student loan can be discharged only if a failure to discharge the debt would "impose an undue hardship on the debtor and the debtor’s dependents."       Index

6.2. Standards for Defining Undue Hardship. The words "undue hardship" are not defined by the Bankruptcy Code.       Index

(A) Brunner Test. The Fifth Circuit Court of Appeals (the appeals court which controls all cases filed in Texas, Louisiana and Mississippi) has adopted the standards set forth in Brunner v. New York State Higher Educ. Servs. Corp.  In Brunner, the court stated that a debtor can establish "undue hardship" only if:

► the debtor has made a good faith effort to repay the loan;

► the debtor and his dependents can not maintain a minimal standard of living; and

► the debtor’s state of affairs is likely to continue for a significant portion of the repayment period.

(B) Gerhardt. The Fifth Circuit Court of Appeals issued an opinion in In Re: Gerhardt. The Gerhardt case expressly adopts the Brunner test as the prevailing standard in the Fifth Circuit. However, by any measure, Gerhardt is an extremely conservative interpretation of the already difficult Brunner test. Gerhardt actually adopts additional requirements which are much stricter that the Brunner test. In the Fifth Circuit, the debtor must additionally prove that:       Index

► The circumstances that impacted the debtor's future earning potential were not present when the debtor applied for the loans or have gotten worse.

► The debtor must specifically prove a total incapacity in the future to pay the student loan debts for reasons not within his control.

Example #3. In Gerhardt, the debtor obtained $77,000 in student loans to finance his music degree. He became a professional cellist. At time of trial he was 43 years old, healthy, well educated, and had no dependents. The evidence tended to show that he could not obtain a position at a higher paying orchestra. However, he could obtain additional steady employment in a number of different arenas. For instance, he could attempt to teach full time, obtain night school teaching jobs, or work as a music store clerk. Under these circumstances, the court held that:

(a) there were no circumstances out of Gerhardt's control that contributed to his inability to repay his student loans; and

(b) a debtor may not choose to work only in the field in which he was trained, obtain a low paying job, and then claim that it would be an undue hardship to repay his student loans.

Example #4. In another case, Ward v. U.S. Dept of Education, a married couple in their their 30's (married for over 5 years) decided to start a family. At trial, the couple had two children and were expecting the birth of their third child. The expenses related to the children made it impractical for the wife to work for the foreseeable future. The Houston bankruptcy court, feeling "haunted" by the Gerhardt decision, observed that the couples' decision to start a family, although normal and understandable, was within their control. The wife would have been able to work and continue to pay her student loans if the couple had abstained from having any children. The court ruled that the couple failed to satisfy the second prong of the Brunner test because their decision to start a family contributed to their financial problems. The court essentially ruled that the married couple, saddled with over $250,000 in student loans, should have completely abstained from having any children for the rest of their natural lives so that the wife could work at a minimal job to earn the funds necessary to pay her student loans into her elderly years.

6.3. Compelling Circumstances Necessary. The bottom line: It is extremely difficult to obtain a hardship discharge of a student loan debt. To obtain a hardship discharge, the debtor must commence a lawsuit, in bankruptcy court. The lawsuit process can be very expensive, and will almost always involve a large legal fee. Most debtors will not have the financial resources to pursue such a lawsuit. Even if the debtor can afford the lawsuit, most courts will want to see a very compelling case before granting a hardship discharge. The only cases that have a strong likelihood of succeeding are cases where the debtor is disabled or crippled. At best, all other cases are extremely difficult.       Index