Can You Declare Bankruptcy on a Private Student Loan?

By: Jordan Gundersen | May 11, 2016 (Edited July 7, 2017)

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College isn't cheap these days. The average annual cost of attending a 4-year public college is currently $9,139. Twenty years ago, the cost was $4,426 when adjusted for inflation. But those are just the costs for in-state public schools. Those figures don't account for the costs of public out-of-state schools or private schools which are much higher. To pay for all the costs of attending school, many students turn to student loans. A predicament that many students find themselves in after graduation is that they don't have the means to pay back what they owe on their loans.

For those who feel like they are struggling to repay their loans, we recommend first checking out the companies that can help you refinance or consolidate your loans. For other people, bankruptcy may be the only next option. Most people believe that student loans cannot be discharged or forgiven when they declare bankruptcy. Contrary to popular belief, however, it is can be done. It's just a little tricky.

The process entails first filing for bankruptcy. Then you or your attorney must file what is called an "adversary proceeding." An adversary proceeding is essentially a lawsuit against the private student debt creditor to have the debt discharged. Most of the time, the company will respond to the court that the debt should not be discharged and will fight it. It is then up to you and your attorney to prove that repaying your loans places an "undue hardship" on you and your dependents.

Undue hardship is a rather vague term, so the courts use a test to determine whether your circumstances fit under the undue hardship standard. The most common test is the Brunner test which requires you to show that 1) paying loans will not allow you to maintain minimal standard of living based on income and expenses; 2) financial impairment will continue for entire repayment period of loan; 3) you have made a good faith effort to repay loan.

Many people believe that they have a case to have their loans discharged and meet the first two criteria of the Brunner test. However, many people overlook the third point of making a good faith effort to repay the loan. If a good faith effort to repay has not been made, the court will typically rule that the loans must be repaid.

A study conducted by Princeton University found that student loans are discharged in full or in part at a rate of about 40%. The study also found that 99.9% of student loan debtors filing for bankruptcy fail to ask for an adversary proceeding. The implication is that more people should be filing for one of these procedures than currently do. Many of these people could probably qualify and meet the undue hardship standard.

If you are filing for bankruptcy, it is worth your time to look into asking for an adversary procedure. The worst that can happen is that they say no and you still have to repay the student loans. However, you may be able to get a full or partial discharge of the loans, or even a negotiation of a more affordable repayment plan. But you'll never know if you don't ask.

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Written by Jordan Gundersen

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