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New Federal Guidance On Discharging Student Loans In Bankruptcy Is a Game Changer

Jan. 13, 2023

The Justice Department, in partnership with the Department of Education, recently announced new guidelines that loosen the strict application of the “undue hardship” exception when defending a dischargeability action. This new guidance is a game changer. In the past the Department of Justice narrowly applied the undue hardship exception to the extent that it was almost impossible to discharge federal student loans in bankruptcy. Now government attorneys have been given the green light to consent to discharge if a debtor fills out the attestation form and meets certain criteria.  

Historically, discharging student loans in a bankruptcy, while not impossible, has been notoriously difficult. Congress has set higher standards for discharging student debt in bankruptcy than for discharging credit card debt, medical debt, and other consumer debt. To discharge student debt through bankruptcy, you must prove that repaying the student loan would cause an “undue hardship” unless the debt is discharged.  

That may sound reasonable on paper, but in practice, the process has been described as arbitrary and unfair. According to the National Consumer Law Center, the government’s default position was to oppose discharge and litigate against it; that has discouraged people who might otherwise qualify for discharge from attempting to discharge student debt. The complicated rules and cost of litigation have made it almost impossible for many borrowers to meet the legal standard for undue hardship. 

What Does “Undue Hardship” Even Mean? 

The federal statutes don’t even define in any detail what “undue hardship” means, and the case law regarding undue hardship has developed to a point that it makes it almost impossible for a  judges to  discharge student loans.   

To make matters more complicated, you must file a separate lawsuit, which is an Adversary Proceeding, against the student loan lender in bankruptcy court to fight for a discharge. You’d better believe that the loan servicer will have plenty of resources to fight your request. That’s why it is so important to have experienced legal representation, even with the new guidelines.  

At BransonLaw, we have helped clients who faced extreme financial challenges in trying to pay off student debt. Some were so discouraged by the process for discharge in bankruptcy that they had all but given up. At least one study shows that less than 1% of student loan borrowers who file for bankruptcy attempt to get their student loans discharged. However, judges grant a hardship discharge to about 40% of borrowers who apply for one. That’s still a small number, given the low percentage of people who seek a discharge, but there is hope. We believe the new guidelines will open the door to more student loan borrowers finding relief through a hardship discharge.    

How Will The New Guidelines Help?  

While you will still need to prove “undue hardship,” under the new guidelines, the process will be clearer and less burdensome. According to a press release from the Department of Justice, the new guidelines “will allow Justice Department attorneys to more easily identify cases in which the department can recommend discharge of a borrower’s student loans.”  

To determine whether debtors qualify for discharge, debtors will need to complete an “attestation form” that will become part of the Justice Department’s decision on whether to recommend the bankruptcy judge discharge the borrower’s student debt. Additionally, the Department of Education will provide the Justice Department attorney with details of the borrower’s loan, account history, and in some cases the borrower’s educational history. The Justice Department attorney can recommend a full or partial discharge of the loans, depending on whether the borrower meets the requirements, including having more expenses than income.  

How Will Justice Department Attorneys Assess “Undue Hardship?” 

In the past, in order to qualify for a discharge based on “undue hardship, ” vs. ordinary hardship, most courts required that debtors meet the stringent requirements of a standard called the “Brunner Test.” The test is based on three factors: Inability to maintain a minimal standard of living for yourself or your family if forced to repay the loan, unlikelihood of your current financial situation changing, and whether you’ve made good faith efforts to repay the loan.  

Justice Department attorneys will still use the basics of the Brunner test, but the new guidelines give more specific direction and also use information provided by the Department of Education:   

Present ability to pay: Using IRS standards and information provided by the debtor, the Justice Department Attorney will determine whether the debtor lacks a present ability to pay. In other words, whether the debtor’s expenses exceed the debtor’s income.  

Future ability to pay: A variety of factors—such as retirement age, disability, chronic injury, lack of degree, or extended repayment status—are a part of the Justice Department attorney’s assessment of whether the debtor’s inability to pay is like to persist in the future. 

Good faith efforts: The Department will focus on objective criteria that reflect reasonable efforts to earn income, manage expenses, and repay the loan, and other evidence of good faith efforts to repay the loan. These can include contacting the loan servicer regarding payment options, such as attempting to negotiate an income-based repayment plan.  

The Practical Differences We Think This New Guidance Brings 

One of the biggest practical differences is the lower cost of litigation. The new guidance appears to encourage the Department of Justice to rely on the borrower’s attestation form regarding income and expenses and to eliminate typical practices of depositions and lengthy discovery requests.  

Additionally, the new guidance seeks to compare the borrower’s “standard repayment payment” over fifteen years instead of income driven repayment plans, that at times can result in a payment as low as zero. This is a big change. For example, a borrower making $40,000.00, that owes $150,000.00 in federal student loans may be able to enter into an income driven repayment plan at around $90.00 but the standard repayment plan at around 6% interest would be $1,670.00. Under this new guidance the Department of Justice could recommend discharging the student loans. In the past the Department of Justice would push for the income driven repayment plans. 

BransonLaw Can Help 

It’s important to remember that if you are seeking discharge of a student loan in bankruptcy, the Department of Justice and the Department of Education represent the interests of the United States, not you. Our team can assist you with the new guidelines and strive to give you the best chance at discharging your student loans. At BransonLaw, we can help you determine whether a discharge of student debt can be a part of your bankruptcy and guide you through the process.