Bankruptcy and student
If you have student loans you can't pay, you may feel
like you're holding a degree from the school of hard knocks.
If you're starting to think bankruptcy is your escape,
think again. Many government-backed student loans and school loans
backed by nonprofit agencies are not discharged in a bankruptcy,
which means whatever you owe has to be paid back after the bankruptcy.
You can rid yourself of student loans through a bankruptcy
if they represent a substantial hardship -- but that is very difficult
To have a student loan discharged, you have to prove
three things, says David Light, managing editor of Consumer Bankruptcy
News, a Florida-based newsletter:
- You can't keep up with your payment schedule
- Your future inability to pay and that your
financial situation is permanent
- You've made a good-faith effort to pay
Good faith efforts include being as fully employed
as you can be, being upfront with the lender, and presenting evidence
that when you had money you made payments. What courts don't like
to see is that you were fully employed and didn't pay, or you used
an inheritance to buy a car, Light says.
It is the most difficult to prove hardship when you
first come out of school, primarily because you don't have any history
of not repaying the loans.
How's the judge feeling?
There is a debate in the courts over whether student
loans should be partially discharged during a bankruptcy. Some courts
allow it, while others take a more absolute approach. It all hangs
on the attitude of the bankruptcy judge, says Joni Anderson, associate
general counsel for the USA Group Inc., a student loan guarantor
and administrator in Indianapolis, Ind.
Prior to October 1998, if the borrower had made the
first loan payment seven years ago, or if the loan repayment caused
undue hardship, it could be discharged. Now, people can no longer
dissolve their school loans through bankruptcy simply because the
loans are old.
"We don't get nearly as many bankruptcy student loan
cases as we did five years ago," says Connie Smith, a manager at
Sallie Mae, a corporation that maintains student loans in Reston,
Even if you can't discharge your student loans through
the lender can't bill you for the payments on them until the bankruptcy
is over -- but interest still accrues. Light warns that if you don't
make payments your situation could be even worse after the bankruptcy.
|You may be able to discharge school loans
from banks or individuals through bankruptcy if the government
or a nonprofit institution is not backing them. But very few
student loans are not government-guaranteed.
Alternatives to bankruptcy
So if you can't deal with a student loan problem through
bankruptcy, what can you do? There are many more repayment options
for student loans than for any other type of loan. It is important
to let the lender know you're having trouble making payments.
"Student loan borrowers are fearful of doing that,"
Anderson says. "They don't make an effort to contact the student-loan
holder, and they should do that."
Most borrowers aren't trying to get out of paying
their loans, it's just that they don't know what to do, Smith says.
She adds that defaulting doesn't happen out of the blue, and if
they talk to the lender early on, there's bound to be a plan that
If the borrower has defaulted, Anderson suggests a
rehabilitation program in which you make 12 consecutive payments
for a lower amount to show good faith and be brought out of default,
and then going back to paying the previous amount. Other options
to bring student loans under control can include: consolidation,
negotiating with the lender, and seeking help from a counseling
service to get other debts in order so you can afford to pay the
The Direct Loan Servicing Center, working under the
auspices of the Department of Education, offers four types of repayment
plans for federally funded or federally guaranteed student loans:
- The standard plan has a fixed payment amount
of at least $50 until the balance is paid. It lasts as long as
- The extended repayment plan lasts 12 to 30
years, depending on the amount owed. The longer you're in repayment
the more you'll pay in interest.
- The graduated repayment plan offers a payment
that equals the interest accrued since the last payment or one-half
of the standard plan payment, whichever is greater. The payments
increase every two years.
- The income contingent repayment plan calculates
your payment based on your annual adjusted gross income, family
size and amount of the direct loans. This plan can last for as
long as 25 years. If you haven't paid the loans by then, the unpaid
balance gets discharged, and you pay taxes on the discharged amount.
Even if you can't dissolve your debt, you might be
able to make your life a bit easier if you can find a way to restructure
your student loan.
-- Posted: Jan. 26, 2000