Report: Student Loan Debt Thwarts Do-Over for Many Bankruptcy Filers

Millions of Americans have filed Chapter 7 bankruptcy to eliminate crippling debt and get a fresh financial start, but nowadays it isn’t unusual for people to come out of the process still owing much of their debt in the form of student loans, according to a report issued Tuesday by LendEDU.

Based on anonymized data from 1,083 bankruptcy cases across the nation supplied by Upsolve, a nonprofit that helps low-income people file for Chapter 7 bankruptcy free of charge, 32 percent of filers had student loan debt.

Among those one in three consumers, student loans on average comprised 49 percent of their total debt, which left them with about half of their debt because student loan debt is almost impossible to discharge in bankruptcy.

Michael Brown

“The point of filing for Chapter 7 bankruptcy is to have all of one’s outstanding debt discharged so that the person can restart their financial life, debt free,” LendEDU research analyst Michael Brown wrote in the report.

“However, one-third of these bankruptcy filers can have almost all of their debt discharged but have nearly 50 percent of the total debt remaining to be repaid. That does not sound like a financial restart, rather a continuance of the debt-ridden life that creates and exacerbates so many problems.”

The study also found in the nationwide sample that 21 percent of total debt came from student loans, a category of debt that has ballooned to more than $1.5 trillion nationally and become the second-largest form of consumer debt.

Chapter 7 bankruptcy, which liquidates a person’s assets and uses the proceeds to pay off as much of their outstanding debt as possible, requires specialized attention and is not done by Upsolve and many other entities that provide assistance to people filing for bankruptcy.

What makes student loan discharge so difficult in Chapter 7 bankruptcy is that the borrower must prove “undue hardship” by passing what is called the Brunner test, which require the borrowers to prove that they can’t meet a minimal standard of living if they keep repaying their student loans.

Additionally, the borrower has to prove that the dire circumstances will continue – called “certainty of hopelessness” – and that they have made a good-faith effort to pay back their loans.

Both federal and private student loans were dischargeable up until 1976, when lawmakers began imposing restrictions.

The LendEDU analysis indicates that many people who feel that bankruptcy represents their best chance to get back on their feet financially end up with a result that “seems contradictory to the entire point of a person resorting to bankruptcy to remedy their financial issues,” said Brown. “A better process would go a long way in helping so many Americans that are struggling to stay above water in large part due to their student loan debt.”

Some federal lawmakers believe they have come up with a better process.

In May, Illinois Sen. Dick Durbin partnered with a number of Congressional colleagues to introduce the Student Borrower Bankruptcy Relief Act of 2019. The bicameral and bipartisan legislation – co-sponsored by Democratic presidential candidates and U.S senators Elizabeth Warren, Kamala Harris and Bernie Sanders and others – would eliminate the provision of the federal bankruptcy code that makes private and federal student loans non-dischargeable.

Essentially, that change would allow student loan debt to be treated like mortgage, credit card and nearly all other forms of consumer debt – able to be erased in bankruptcy.

“Filing for bankruptcy should be a last resort, but for those student borrowers who have no realistic path to pay back their crushing student loan debt, it should be available as an option to help them get back on their feet,” Durbin said when introducing the legislation. “Our nation faces a student debt crisis, and it’s time to restore the meaningful availability of bankruptcy relief to student loan borrowers.”

Numerous organizations have endorsed the legislation, including the National Association for College Admissions Counseling, National Student Legal Defense Network, Americans for Financial Reform, Center for Responsible Lending, Consumer Federation of America, National Association of Consumer Advocates, National Association of Consumer Bankruptcy Attorneys, Young Invincibles and the Consumer Law Center on behalf of its low-income clients.

Conducting the analysis led Brown to the conclusion that the bill is “a good idea.”

“I think it makes a lot of sense if you just look at this data,” he told Diverse. “People are struggling financially to begin with, that’s why they’re filing for Chapter 7. But when they still have student loan debt to repay, they will still be in a hole trying to dig out. Those monthly loan payments may hold them back from doing other things in life.”

A year ago, Brown said, he would have considered the chances of the legislation passing slim to none. But given the emergence of student loan debt as a widely discussed topic – and proposals by Harris, Warren, Sanders and other presidential candidates to implement student loan forgiveness at some level – the odds are good, Brown predicted.

“Now we see, especially with the election coming up in 2020, student debt is starting to become a presidential issue on a national scale,” he said. “Candidates could win over voters on this issue. It will be interesting to see what happens, but it has a reasonable chance of passing.”

Michael Williams, however, isn’t convinced that permitting the discharge of student loans in bankruptcy solves the core problem. He just graduated Georgia Southern University with a bachelor’s degree in cybercrime – for which he took out about $55,000 in loans – and is headed to the University of Tulsa to earn a master’s degree in computer science.

Williams said his research and job offers indicate that his career field will pay him enough to comfortably repay his loans, but he has seen too many students choose a field that they enjoy but that is unlikely to compensate them enough to pay back their student debt.

“It comes down to the guidance students are getting,” he said. “It starts at home. A lot of students can’t say why they’re at college. ‘My parents told me to go.’ It starts with talking to students about what decisions they want to make and why. Because at the end of the day, it is an investment.”

LaMont Jones can be reached at [email protected]. You can follow him on Twitter @DrLaMontJones