The difficult issue of student loans and bankruptcy

While discharge of student loans is difficult, a bankruptcy may be able to help a debtor's overall financial position

Student loans have become an essential part of obtaining a college education. With the expectation of the rare individual who has had their entire university education financed by savings of their parents, it is likely that either the student has personally taken out numerous loans, or their parents may have co-signed or obtained their own loans to finance school.

This means after graduation, those student loans will demand repayment. For some time, Americans have been having difficulty paying those loans. In a recent report from the Federal Reserve Bank of New York indicates that the largest percentage of loans that are severely delinquent, meaning more than 90 days past due, are student loans.

According to the report issued in February 2016, 11.5 percent of student loans are severely delinquent, which is greater than the delinquency rates of credit card debt, car loans or mortgages.

Highest rate of delinquency

Much of this is related to the difficulty of many new graduates in obtaining a job that provides sufficient income to allow them to pay down their loans. In fact, the report suggests that the 11.5 percent number is understated because many of the loans that would be delinquent if they were in repayment are masked by their being in deferment, in grace periods or in forbearance.

The other problem is that unlike other economic mistakes that people suffer, a student loan is different. If you overdo it with credit card spending, or you buy a home, suffer a job loss or illness and no longer can afford to live there, even if you are stuck with a deficiency balance after the sale, you can discharge that debt in a bankruptcy.

Student loans must be an undue hardship

Student loans, in theory, can be discharged in a bankruptcy. However, most courts including the bankruptcy courts of the First Circuit, where Maine is located, use a very difficult "test" to judge the discharge standard of "undue hardship."

This why delinquency rates have remained consistently high for student loan debt. If you cannot afford to make payments on them and you cannot discharge them in bankruptcy, you can feel as though you are between a rock and a hard place.

Why student loans?

What is demoralizing to many borrowers is that there appears to be little rationale behind the draconian standard used to approve a discharge by the courts nor to the reasons behind the statutory requirement of undue hardship.

While there was some anecdotal discussion in the 1970s of some student loans being discharged by students shortly after graduation, there is very little actual evidence of this being a significant problem. Yet Congress continued to increase the difficulty for borrowers to obtain a discharge until in 2005 the imposed the current requirements that may it very difficult for ordinary borrowers to receive a genuine "fresh start" if they have student loans.

How can a bankruptcy help a borrower with student loans?

If you cannot meet the requirements of undue hardship, a bankruptcy may still be able to assist with reducing some of your debt burden. If you have a significant percentage of unsecured debt, a Chapter 7 may allow you to discharge enough of that debt to allow you to make meaningful payments on your student loans.

If you have a great deal of secured debt plus other unsecured debt, a Chapter 13 may allow you to restructure the payments for some and eliminate others to also make paying your student loan realistic.

This can be a complex analysis. Bankruptcy attorney Jeffrey P. White can assist with this process and help you determine how a bankruptcy may be able to help you deal with your debt issues.