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Comments on the Dischargeability of Student Loans in Bankruptcy

1. Overview
The Bankruptcy Code provides that student loans are not discharged in any bankruptcy proceeding unless “excepting such debt from discharge would impose an undue hardship on the debtor.” Section 523(a)(8).
The test – undue hardship – is very difficult to meet. It is the debtor’s burden to prove the undue hardship at trial. Undue hardship means an inability to maintain a “minimal standard of living,” essentially forever.
2. The Procedure
To obtain a discharge of student loans, a person must:
a. File a bankruptcy proceeding, chapter 7, 11 or 13, and,
b. During the pending bankruptcy proceeding, file a Complaint against the student loan lender (or lenders) asking the court to “declare” that repayment of the student loan will be an undue hardship on the debtor.
Filing the Complaint begins an adversary proceeding. This is the same thing as litigation outside of bankruptcy. The lender is the “defendant” in the proceeding. The lender will file an “Answer” or other response to the Complaint. The Court will set a status conference and eventually set a trial date. During the interim between the filing of the Complaint and trial will be a “discovery period.” The lender defendant will take the deposition of the debtor and possibly the debtor’s other witnesses. The lender will request documents from the debtor including income and expense records and employment records. The lender may file various motions such as Motion for Summary Judgment.
The time between the filing of the Complaint and trial varies but can be generally estimated to be six months to a year. Trial generally will take a few days. After hearing the debtor’s witnesses and other evidence and the lender’s response and its evidence, the Bankruptcy Court will rule and “declare” whether any or all of the student loans represent an undue hardship to the debtor.
3. Determining Whether There is Undue Hardship
The Bankruptcy Courts use a three prong test called the Brunner Test to determine whether or not there is undue hardship. The Brunner Test (831 F.2d at 396) requires that the debtor prove all of the following:
a. that the debtor cannot maintain, based on current income and expenses, a minimal standard of living for herself and her dependents if forced to repay the loans;
b. that additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans; and
c. that the debtor has made good faith efforts to repay the loans.
3.1 The First Brunner Prong – Inability to Pay Now
The first prong is the easiest to meet. The debtor must offer evidence at trial that repayment of the loan is not possible “based on current income and expenses.” This is established usually by the debtor’s own testimony and personal records. The debtor’s testimony is that he has a job (or does not), makes x amount of money, and that amount is not enough to allow him to maintain a minimal standard of living.
The lender will often argue that the debtor can get a better job, or work more hours, or cut back on expenses, get a less expensive place to live, and thereby pay some of the loans and still maintain a minimal standard of living. A minimal standard of living does not include private schools for children, putting money away for retirement, or supporting other family members or unrelated persons.
3.2 The Second Brunner Prong – Inability to Pay in the Future
To meet the second prong, the debtor must prove at trial that “this state of affairs,” i.e., his current financial condition, will continue forever essentially. The debtor will need evidence at trial that he will not make significantly more in the future than he is making now. The debtor can certainly get on the stand and say that his position is as high as he will ever get however that will generally carry little weight with the judge. This usually requires an expert in the particular industry. This prong obviously involves a lot of speculation but the burden belongs to the debtor. He must prove to the Bankruptcy Court with evidence at trial that things are never going to improve.
The lender will certainly retain an expert who will likely testify that in this particular industry the debtor can be expected to make considerably more in the future.
3.3 The Third Brunner Prong – Good Faith Efforts to Repay the Loan
The debtor must establish at trial that he has made a good faith attempt to repay the loans. The most basic part of this requirement is that the debtor show the court that he has attempted to reach some sort of arrangement with the lender which will permit reduced payments or a period of no payments.
The United States Department of Education, William D. Ford Federal Direct Loan Program offers various repayment options for student loan debtors. One of these is the Income Contingent Repayment Plan.
Systems of bankruptcy are designed to relieve the honest debtor from the weight of indebtedness which has become oppressive, and to permit him to have a fresh start in business or commercial life, freed from the obligation and responsibilities which may have resulted from business misfortunes. Essentially, once a student loan debtor is on an ICR plan, monthly payments are calculated on the basis of adjusted gross income, family size, and total amount of Direct Loan debt. This can give student loan debtors the flexibility and breathing room they need during difficult times. Direct Loan provides a handy calculator for approximating ICR plan payments. The calculator is located at www.ed.gov/offices/OSFAP/DirectLoan/calc.html. The maximum repayment period under an ICR plan is twenty-five years. If a debtor makes payments under an ICR plan for twenty-five years, and there are still amounts left owing, those unpaid amounts are forgiven. More information on ICR plans and other Direct Loan repayment options can be found at www.ed.gov/DirectLoan or by calling 1-800-848-0979.
It is pretty clear that failure to use the Ford Program Options will, by itself, prevent any portion of the student loan from being discharged.
The Ford Program does not apply to many loans. The debtor must attempt to settle or otherwise resolve the issue with the other lenders before seeking a discharge. The debtor will need evidence of these efforts at trial. A statement by the debtor on the witness stand that “I tried” will be given little weight. The debtor needs names and dates and rejection letters are even better.
Some courts have ruled that failure to make payments before filing the bankruptcy case is a factor against the debtor.
4. The “Partial Discharge”
A relatively new development in the discharge of student loans is the “partial discharge.” The Bankruptcy Court is permitted to determine that some portion of the total student loan debt is discharged. This occurs usually when the amount owed is huge, for example a few hundred thousand dollars or more. Applying interest to that amount means that the payments will be several thousand dollars per months for many years. The Bankruptcy Court may decide that x amount of the total is to be repaid and the rest discharged. Remember that the burden is on the debtor to show the court at trial what portion cannot be repaid.

This article was prepared by By: M. Jonathan Hayes and is
Reprinted from the CDCBAA February, 2010 Newsletter


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