Managing student loan debt in bankruptcy is becoming more accessible with new federal programs and court-based initiatives. Learn how these changes...
DOJ CLARIFIES the Path to Student Loan Discharges in Bankruptcy
New DOJ guidance on student loan discharges in bankruptcy offers hope for millions of debtors. The objective criteria and emphasis on affordability provide a clearer path for successful loan discharges.
On November 17, 2022, the U.S. Department of Justice (DOJ) and Department of Education (DOE) announced new guidance (Guidance) regarding how and when the federal government will agree to discharge federal student loans
in bankruptcy. This Guidance represents one of the most seismic changes in consumer bankruptcy practice since the enactment of BAPCPA in 2005. With student loans representing the second largest source of consumer debt in the U.S.1, the impact of the Guidance will be far-reaching for millions of distressed debtors who will now have a clearer path and increased likelihood to successfully discharge their federal student loans in bankruptcy.
To be clear, neither the statute (11 U.S.C. § 523 (a)(8)) requiring an “undue hardship” to discharge federal student loans nor the case law interpreting it has changed. The majority standard of review remains Brunner v New York State Higher Education Services Corp., 831 F.2d 395 (2d Cir. 1987) with some courts adopting a totality-of-the-circumstances test. Under Brunner, the debtor must demonstrate an inability to maintain a minimum standard of living, the circumstances must be likely to persist in the future and the debtor must have made good faith efforts to repay the student loans. The totality-of-the-circumstances, on the other hand, requires that courts broadly examine debtor’s ability to repay their loans considering relevant factors such as debtor’s past, present and likely future financial resources, reasonable living expenses for debtor and dependents, and other relevant facts.
To date, attempts by debtors to meet the “undue hardship” test have largely been ineffective and expensive.2 As a result, many realistically but also mistakenly assume that student loans simply are not dischargeable in bankruptcy.
The Guidance seeks to change that by providing the objective standards through which the DOE and DOJ will review a debtor’s case–safe harbors of sorts. If the debtor can demonstrate the existence of these facts and circumstances, then the DOJ and DOE will stipulate that the student loans should be discharged. And, while an adversary proceeding will still be a necessary protocol to initiate the review, the clarity provided by the Guidance will allow debtors to more effectively evaluate their likelihood of success before even engaging in the process. Moreover, the DOE will provide its recommendation to the debtor’s counsel and then the DOJ’s decision to stipulate (when appropriate) will allow for abbreviated and less costly proceedings instead of full-blown litigation.
Another important benefit of the Guidance is that DOJ is providing transparency as to how its attorneys will evaluate critical financial information. For example, DOJ has advised that it will allow debtors to take the full amount of any expense covered by IRS National Standards, while it will look to actual borrower expenditures for expenses covered by IRS Local Standards.3 Perhaps most importantly, the DOJ has made clear that its attorneys, when determining student loan affordability, should look to the benchmark affordability of student loan payments under the Standard Repayment plan formula (normally the most expensive and least affordable plan). This is a major shift since previously, great emphasis was placed on affordability of Income-Driven Repayment plans which are normally the least expensive.
The Guidance is still new and untested so navigating student loan discharges may not be smooth sailing yet, but it appears to have provided a beacon of light on the horizon.
Hanson, Melanie. “Student Loan Debt Statistics” EducationData.org, July 29, 2022, https:// educationdata.org/student-loan-debt-statistics
Iuliano, Jason, An Empirical Assessment of Student Loan Discharges and the Undue Hardship Standard (July 24, 2011). 86 American Bankruptcy Law Journal 495 (2012), Available at SSRN: https://ssrn.com/abstract=1894445 or http://dx.doi.org/10.2139/ssrn.1894445
3. DOJhasalsomadeclearthatitwillallowdebtors to explain the need for any expenses that exceed any of the IRS Standards and its attorneys are to consider such explanations and determine if they are reasonable and warranted.