AREN'T STUDENT LOANS NOT ABLE TO BE DISCHARGED IN BANKRUPTCY?
Student loans are generally difficult to discharge—legally write off—in bankruptcy. Most of the time you have to prove "undue hardship," a tough standard to meet. Broadly speaking this requires a lot more hardship than experienced by the average person filing bankruptcy. More specifically, the courts have created a set of challenging requirements in proving "undue hardship." (See my earlier blog post "Student Loans and Bankruptcy" for a short discussion about what it takes to discharge a student loan through a showing of "undue hardship.")
But even if you have a student loan that requires "undue hardship" to discharge, it may be worth trying to qualify.
This is especially true if you're older. That's because the some of the required conditions for "undue hardship" tend to be easier to meet as you get closer to the end of your income-generating years. (See "Special Debt Considerations for California Seniors Contemplating Bankruptcy.")
DO ALL STUDENT LOANS HAVE TO MEET THE "UNDUE HARDSHIP" STANDARD TO BE DISCHARGED?
Let's start by broadening this question to include all educational debts. So, no, some educational debts can be discharged like most other debts, without having to show "undue hardship." The rest of this blog post focuses on these.
WHAT DETERMINES WHETHER MY EDUCATIONAL DEBT AVOIDS THE "UNDUE HARDSHIP" STANDARD?
The federal Bankruptcy Code establishes this distinction in a section appropriately titled "Exceptions to discharge." Its subsection describing the educational debts (at Section 523(a)(8)) requiring "undue hardship" for discharge has two main parts.
The first is for loans and overpayments "made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or nonprofit institution." This covers virtually all federal or state guaranteed or insured student loans, which includes a large portion of them. This language also covers loans funded through non-profit educational institutions. To discharge these you have to show "undue hardship."
The second part refers to "qualified educational loan[s] as defined in section 221(d)(1) of the Internal Revenue Code . . . ." This is where there are opportunities for discharging educational debts without "undue hardship."
That's because a broad bankruptcy principal is that a debt can be discharged unless the law specifically says it can't be. This means that if you have an educational debt that doesn't fit within the first part of the statute cited above (government-guaranteed/non-profit funded), and is not a "qualified educational loan," it can be discharged without jumping over the "undue hardship" hurdle.
WHAT'S A "QUALIFIED EDUCATIONAL LOAN"?
That's the most important question when looking at the dischargeability of private educational debts.
The three main kinds of debts that may NOT qualify as a "qualified educational loan" focus on:
- the type of expenses for which the debt was incurred
- the timing of the loan
- the type of educational institution attended
WHAT KIND OF EXPENSES DISQUALIFIES A DEBT AND MAKES IT EASILY DISCHARGEABLE?
To NOT be a "qualified educational loan, and so avoid the "undue hardship" hurdle, the debt must not be "incurred solely to pay qualified higher education expenses." (See Section 221(d)(1) of the Internal Revenue Code.)
This means that a mixed-use debt—one that is used partly to fund education expenses and partly for an unrelated purpose—can be discharged without "undue hardship." The definition of qualified higher education expenses is quite broad. Plus, student loan contracts usually make you assert that all of the loan proceeds are being used for educational purposes. But private loans that fund expenses beyond what the educational institution determines to be the reasonable costs of attendance should be considered "mixed use" and be completely dischargeable.
WHAT ABOUT THE TIMING FACTOR?
If the debt is incurred to pay educational expenses during a period of time in which you were not an eligible student, that debt is dischargeable without "undue hardship." For example, you may have been encouraged to apply to a proprietary school before you were eligible for that education. If so, that debt should be eligible for easy discharge.
Also, to be an eligible student you must be enrolled at least half-time and be in a degree- or certificate-seeking program. Educational debts from a time when you were ineligible are dischargeable.
WHY MIGHT THE TYPE OF EDUCATIONAL INSTITUTION MATTER?
The educational debt is not a qualified one if you're not at an "eligible educational institution." Most, but not all, are "eligible." Many ineligible educational institutions have come into and gone out of business in the last several years, including some relatively large ones. Debts from any of them would be dischargeable without "undue hardship." It's worth asking your bankruptcy lawyer whether the school you attended was eligible or not.