According to a new analysis by the Student Borrower Protection Center, if you’re having trouble repaying your student loans, you may be eligible to have them discharged automatically in bankruptcy if you’re one of the approximately 2.6 million borrowers with certain types of privately-issued loans, according to the study.
The Student Borrowers Protection Corporation (SBPC), a Washington, D.C.-based advocacy group for student borrowers, believes that there are approximately $50 billion in such loans outstanding and that they may be as easy to discharge in bankruptcy as credit card debt or other consumer debt.
Students’ student loans were thought to be hard to get rid of for many years, even in bankruptcy, according to popular opinion. Over the last six years, bankruptcy courts have begun to reconsider this, thanks in large part to the work of Austin Smith, an attorney specializing in student loan debt whom Insider highlighted in May 2021.
The argument made by Smith was that bankruptcy courts had been misinterpreting the law in a way that benefited creditors. Several of his clients were able to get a portion of their student loan debts forgiven when bankruptcy judges started agreeing with his legal interpretation in case after case beginning in 2016.
While legal victories have been achieved, it is unclear exactly how many borrowers may be eligible for bankruptcy relief under this revised reading of the federal bankruptcy code.
The SBPC’s report, which was developed with assistance from Smith, represents the first attempt to quantify the scale of the problem. In the twelve-month period ending September 2021, over 420,000 Americans filed for bankruptcy protection, a number that was much lower than the previous year’s total of approximately 750,000 filings, which was approximately 750,000.
While the SBPC notes that its estimates are merely a preliminary estimate, its findings imply that an alarming number of borrowers may be unaware that they may be eligible for bankruptcy relief as part of their private student loans if they are unable to make payments on their loans in full.
In an interview, Smith stated that the statute was drafted in such a way that “no one could figure out what it meant, at the very least no one who didn’t have a law degree.” Consequently, “borrowers [were] left on their own to fend for themselves.”
The source of the misunderstanding is “private” student loans, which are educational debts that are not made or guaranteed by the federal government.
According to data published by the Education Data Initiative, private student loans account for 8 percent of overall student loan debt in the United States, or around $140 billion of the $1.75 trillion owed. The remainder is owed to the federal government as student debt.
It doesn’t matter if the loans are private or federally guaranteed; borrowers who file for bankruptcy can have them discharged as if they were regular debts provided they can demonstrate that paying them off would cause them “undue hardship.”
Typically, a borrower must demonstrate that they are unable to maintain a bare minimum level of life, that their circumstances are unlikely to change, and that they have made good-faith efforts to repay their loans in order to qualify.
Borrowers who owe money on privately-issued loans, on the other hand, have even more exclusions to rely on. This is due to the fact that “private” student debt is not defined anywhere in the United States bankruptcy code.
As opposed to this, the legislation refers to “qualified education loans” – those that are used to pay for direct education expenses such as tuition, books, and room and board at a recognized institution or university.
The federal government will not cancel private student loans that match that criterion – such as a $20,000 loan used to pay tuition at a four-year state university – in the event of a bankruptcy filing unless there is evidence of “undue hardship.”
During his investigation, Smith discovered that many of the troubled borrowers whose cases he took on owed loans that did not fulfill the tight “qualified education loans” requirements established by the federal government.
Loans for nonaccredited universities (such as for-profit and vocational training schools) and consumer loans to cover living expenses for law school students studying for the bar exam were among the types of loans targeted by the government.
Over the years, Smith has been successful in convincing bankruptcy judges that such debts do not qualify as “qualified student loans” and can therefore be discharged in a bankruptcy proceeding.
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In response to Smith’s string of successes, the SBPC conducted an investigation to determine how many other borrowers might be in a similar predicament.
The student loan support center was established in 2018 by a group of former Consumer Financial Protection Bureau officials who were worried that the agency had abandoned student loan consumers during the Trump administration.
With loan origination data and other industry metrics, SBPC calculated the amount of private debt that does not meet the “qualified education loan” criteria. This included debt incurred by ineligible students ($23 billion), debt incurred by ineligible schools ($17 billion), and debt incurred for ineligible expenses ($10 billion).
SBPC projected that about 2.6 million borrowers are responsible for a total of $50 billion in private student loan debt based on average private student loan balance data.
Despite these statistics, many student borrowers believe that any student debt they have is exempt from discharge in the event of bankruptcy.
The Student Borrower Protection Commission (SBPC) holds the student loan industry responsible for this misunderstanding. Specifically, the SBPC pointed to language that student loan behemoth Sallie Mae inserted in certain of its direct-to-consumer loans, which informed consumers that their debt was “not dischargeable” in a bankruptcy proceeding.
SBPC pointed out that in documents shared with investors who purchased securities backed by its loans, Sallie Mae and its successor Navient Corp. made a different disclosure, warning them that they would “bear any risk of loss resulting from the discharge of any borrower of a private credit student loan.”
Sallie Mae and Navient Corp. were fined by the SEC for failing to disclose this information.
As a result, the courts are now making that possibility a reality. It was in 2019, however, that the United States Bankruptcy Court for the Eastern District of New York found that Navient’s direct-to-consumer loans due to Smith were not protected from cancellation in bankruptcy.
After obtaining a discharge of his debts during a bankruptcy case in 2009, the borrower, Hilal Homaidan, continued to be harassed by Navient, causing him to re-open his bankruptcy proceedings in 2017 so that a judge could determine that the loan had really been dismissed in the first place.
The case is still pending after the United States Court of Appeals for the Second Circuit ruled in favor of Homaidan in July 2021.
A spokeswoman for Navient declined to provide further information.
According to the Student Borrower Protection Center, the Homaidan case is emblematic of a widespread problem: “Borrowers across the country are being ripped off by student loan companies that continue to collect on the debt that has already been legally discharged by borrowers who have completed bankruptcy proceedings,” the SBPC stated.
In the vast majority of cases, these borrowers either presumed that their loans could not be discharged and, as a result, had not been dismissed, or they were directly told by a student loan firm that they still owed money on these obligations, which was untrue.
The Biden administration has taken steps to mitigate the financial impact of the coronavirus outbreak on student loan holders and their families.
The Department of Education announced in December that it would extend the moratorium on federal student loan repayments by an additional 90 days – until May 1 – in order to assist borrowers who were experiencing financial difficulties as a result of the pandemic.
Since President Biden assumed office, the administration has granted a total of three such extensions. In addition, the agency announced in August a new regulation that will automatically forgive debts owed by federal loan borrowers who have been determined to be severely disabled by the Social Security Administration…
The government anticipated that the new policy, which reformed a failed federal loan relief program for disabled borrowers, would result in the forgiveness of approximately $5.8 billion in outstanding debt.
It is more difficult to assist private loan borrowers. Government politicians in Washington have limited authority to adopt significant changes in the collection and discharge of private student debt since their obligations are not guaranteed or guaranteed by the federal government.
Smith announced his intention to run for Congress in New York’s 1st Congressional District last year in order to assist in passing legislation to provide relief to borrowers. Sen. Elizabeth Warren (D-Mass.) has introduced a bankruptcy reform bill, the Consumer Bankruptcy Reform Act of 2020, which would streamline the laws by eliminating the different exclusions from the discharge of student loans in bankruptcy, among other things.
Despite the fact that the bill would make all student loan debt as easily dischargeable as most other types of consumer debt, the bill’s fate in the equally divided Senate remains questionable.