America has a nearly $1.5 trillion student loan problem.
As borrowers wrestle with an average of $35,000 of student loan debt after leaving school – there are more than 40 million borrowers – discharging student loans through bankruptcy has become a fiercely debated topic over the past five years or so.
At the forefront of the debate is a common sentiment among borrowers, attorneys and judges that it’s almost impossible to get rid of student loans through bankruptcy.
To answer that we’ll have to go back to a 1987 court case that resulted in what’s now known as the “Brunner Test.” We’ll also need to summarize a 2005 law known as the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005.
Sounds like a lot of legal jargon, right? Don’t worry; we’re going to make it as easy as possible to understand why these two points in history are important to your student loans today.
We’re also going to include the insights of bankruptcy lawyers and a bankruptcy case involving student loans.
The goal of this article is to help you understand exactly what needs to happen in order to discharge your student loans through bankruptcy. Here’s what we’ll cover:
- The two court cases that make federal and private student loans difficult to discharge in bankruptcy court
- A real court case in which a judge denied a borrower the ability to discharge student loans in bankruptcy
- A report on who has the best chances of getting their loans discharged in bankruptcy
- A few tips and some advice if you’re considering bankruptcy
But before we get to the good stuff, we want to warn you: It is extremely difficult to get rid of your student loans if you’re not participating in a public service loan forgiveness (PSLF) program.
All the rumors and articles that talk about the astronomically small chances of student loan bankruptcy discharges are accurate, and that’s why there’s a rising wave of borrowers, lawyers and advocates who are calling for change.
How 1987 Set the Stage for Student Loans and Bankruptcy
In 1987, a woman named Marie Brunner went to court against the New York State Higher Education Services Corp.
She wanted to discharge her loans in bankruptcy which was, at the time, not nearly as hard as it is to do today. According to Portland-area bankruptcy attorney Rich Parker, most debts could be discharged after seven years of repayment.
Also, courts were responsible for judging debts and their possible discharge by something called “undue hardship,” which basically means a hardship caused by factors out of the borrower’s control.
Brunner vs. NYSHESC was a crucial point in history because the court created their own criteria for “undue hardship,” criteria which are used today by nine of the nation’s eleven federal circuit courts when dealing with appeals of previous bankruptcy court decisions.
These criteria became known as the “Brunner Test.” The Brunner Test is made up of three prongs, which are listed here as they were written in the court’s decision in Brunner vs. NYSHESC:
- The debtor cannot maintain, based on current income and expenses, a “minimal” standard of living for herself and her dependents if forced to repay loans.
- Additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans.
- The debtor has made good faith efforts to repay the loans.
The Second Circuit United States Court of Appeals ruled that Marie Brunner didn’t meet these three requirements and, as a result, didn’t meet the “undue hardship” rule for discharging student loans through bankruptcy.
What the Court Said About the Brunner Test and Marie Brunner
Brunner’s argument was that she couldn’t find work and the loans were creating an undue hardship. However, the court concluded that, because she had a master’s degree, she was more than capable of finding work and pay off her loans.
As we mentioned earlier, it was somewhat common for people to use loans to get a degree and then ask for discharge shortly after graduation.
This was the case with Brunner, as California-based bankruptcy lawyer Cathy Moran pointed out:
“At the time of the hearing, only ten months had elapsed since Brunner’s graduation from her Master’s program. Finally, as noted by the district court, Brunner filed for the discharge within a month of the date the first payment of her loans came due. Moreover, she did so without first requesting a deferment of payment … Such conduct does not evidence a good faith attempt to repay her student loans.”
That decision was, basically, the nail in the coffin for finding an easy way out of your student loans. From that point on, nine of the eleven federal circuit courts in the nation adopted the Brunner Test as their primary interpretive filter of the government’s “undue hardship” standard for bankruptcy law.
What the Brunner Test Means for You
It’s easy to point the finger at the government and say they’re uncaring and unresponsive to the student debt avalanche that’s barreled through borrower’s checking accounts over the past few years.
Easier still is to say that the Brunner Test is unfair – it was, after all, put forth in a court decision that was made 30 years ago.
But think of it this way: The government was trying to stop people from taking advantage of the system by getting federal loans and then discharging them once they graduated.
So, in that sense, there’s nothing technically unfair. If you were lending money to someone who’d avoid paying you back by claiming bankruptcy, you might be apt to do the same thing.
See Also: Student Loan History Timeline
What’s different nowadays, at least, is that the average debt of graduates is more than four times higher than it was in 1980, according to statistics from Mother Jones and Student Loan Hero.
This led the Ninth Circuit Court’s Judge Jim D. Pappas to call for a reworking of the Brunner Test, an urging that came amid the court's decision in the Janet Rose Roth v. Educational Credit Management Corporation.
As Portland-based Columbia Law Group noted in a post about the Roth decision:
“While the Panel’s ruling was not terribly surprising given the facts of the case, what is noteworthy is Judge Pappas’ concurring opinion. His opinion argues that the ‘Brunner Test’ is outdated given the reality of modern student loan lending.”
How 2005 Made It Much Harder to Discharge Private Student Loans Through Bankruptcy
In 2005, Congress passed a bill that expanded the country’s bankruptcy law. The bill, which became law, is known as the Bankruptcy Abuse Protection and Consumer Protection Act of 2005.
Those new guidelines were included in a section titled, “Exceptions to discharge”:
“A discharge under section 727, 1141, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor from any debt,” the law says, “unless excepting such debt from discharge under this paragraph would impose an undue hardship on the debtor and the debtor’s dependents.”
The loans included under this particular section of the legislation include:
- An educational benefit overpayment or loan made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or nonprofit institution.
- An obligation to repay funds received as an educational benefit, scholarship, or stipend.
- Any other educational loan that is a qualified education loan, as defined in … the Internal Revenue Code of 1986, incurred by a debtor who is an individual.
What makes this little chunk of law different than the previous version is that private loans were added to the list of educational loans that can’t be discharged.
And this decision, says Rich Parker, who’s been a part of 12 student loan bankruptcy cases, is the one that just doesn’t make any sense. It’s harder to discharge private student loans than it is to get rid of income tax debts, he noted.
“It really doesn’t make any sense, because even tax debt, when it ages adequately, is dischargeable. Why private loans have more protection than income tax is a mystery,” Parker said. “There really is no other debt that survives with this sort of rigor and tenacity than private student loan debt.”
With these court cases and law changes in mind, let’s move on to the big question…
Why the Brunner Test Is Difficult to Pass?
The main reason, aside from bankruptcy law, that student loans are really hard to get rid of through bankruptcy is the Brunner Test we mentioned earlier.
You see, since Congress didn’t define exactly what undue hardship meant, judges and circuit courts were left to figure it out on their own.
The Brunner case became what’s known as a precedent – a court case that provides clarity concerning a particular law or regulation that judges use to determine other court cases.
What the Student Loan Bankruptcy Process Looks Like
So, here’s the basic process:
- A borrower goes to a local bankruptcy judge.
- Judge says, “I’m not discharging your loans.”
- Borrower files an appeal with the federal court.
- Borrower gets a special student loan hearing (“adversary proceeding”) with federal bankruptcy judges.
Federal court “circuits” are divided up into 11 different regions in the United States. Residents in California, for example, go to the Ninth Circuit court to get a hearing.
In some cases, Rich Parker said, they’ll stand before a panel of three federal bankruptcy judges, but in other cases they’ll have a hearing in front of a single judge.
Either way, you’ll most likely be standing in front of several or one judge who will make their decision based on the Brunner Test, because that’s the precedent that was set by a federal appeals court.
Types of Student Loan Discharges
The court’s decision usually work out one of a few ways, Parker said:
- They say no
- They say yes and discharge all of your loans (total discharge)
- They say yes and discharge some of your loans (partial discharge)
There are other results, Rich said, including going on a payment plan for a certain amount of time (most likely an income-driven repayment plan) and then having your loan forgiven, tax-free, after that period of time.
“The judges have the discretion to do that. They can say, ‘Continue the IBR for 10 years,’ or they cut debt down over a certain amount of time, and, afterwards, you’re done with tax implications,” Parker said. “They have a lot of discretion on how to structure this.”
Of the 12 plaintiffs that Parker has represented, three or four of them have received partial discharges and a couple of them have received full discharges.
One Student Loan Borrower Who Failed to Pass the Brunner Test
To get a really good idea of what it’s like to discharge your student loans in bankruptcy, we read through some case summaries in which judges ruled against borrowers.
We’re going to present one of these cases not as a predictor of what could happen to you if you go to bankruptcy court, but as an example of what judges have said in the past concerning cases that may or may not be similar to yours.
“It’s a case-to-case situation that’s hard to predict. It’s not a cookie-cutter thing,” Parker said. “Every case is judge-specific and fact-specific, and the person can fail on any one of these three factors. You have to meet all three to get your hardship discharged.”
Also, here’s a quick refresher on what you have to prove in order to pass the Brunner Test and meet the “undue hardship” standard:
- Your loan payments would make it impossible to have a minimal standard of living,
- Your current financial situation would persist over the entire life of the loan,
- You’ve made a good-faith effort to back your loans even if it makes life tough.
One of the things that judges usually look at is how well you tried to maximize your income over the years.
The reason why this is important is that it shows your current financial situation is beyond your control, which would, in theory, pass the first part of the Brunner test.
Student Loan Bankruptcy Case: Craig Devon Murphy v. U.S. Department of Education
This court case took place in July 2014. Plaintiff Craig Murphy had two graduate degrees and was bouncing around between jobs as well as applying for multiple jobs.
Murphy’s total student loan balance was, according to court documents, just under $150,000.
Unfortunately, the only jobs Murphy could dig up were gigs through temp agencies and other positions that he left.
His income was pretty low – some jobs paid as little as $8 – and he was living with his parents.
He brought his case to the court, and, according to the case’s Memorandum Opinion, he focused his argument on the third prong: good faith repayment.
Turns out Murphy had consolidated his loans and assumed that was a good-faith effort to take care of his loan payments.
He told the court he didn’t sign up for an income-driven repayment plan because he was concerned about the tax liability he’d have when his loan was forgiven.
Pro tip: Income-driven repayment plans offer lower payments and loan discharge at the end of your repayment period. However, any forgiven loan balance will be considered income and you’ll have to pay income tax on it.
The Verdict in the Murphy Bankruptcy/Student Loan Discharge Case
Judge Carlota Böhm had some very specific reasons why she ruled against Murphy.
He Didn’t Maximize His Earning Potential
First, she said, Murphy wasn’t maximizing his income.
“Plaintiff failed to maximize his income earning potential to demonstrate that the cause of his financial hardship is beyond his reasonable control,” Bohn wrote. “The fact that Plaintiff has applied to jobs for which he has not been hired does not establish that Plaintiff maximized his earning potential.”
Simply Applying for Jobs Won’t Get Your Student Loans Discharged
While he did make efforts to find jobs, applying to multiple positions over the years, Böhm said many of those efforts were fruitless because he wasn’t qualified for the jobs to begin with.
“In a number of instances, the status is marked cancelled, application incomplete, or minimum qualification requirements not met,” Bohn wrote. “Plaintiff is currently unemployed, he is highly educated with a lengthy employment history indicating that he is certainly employable. Plaintiff has not demonstrated that his current unemployment resulted from factors beyond his reasonable control.”
Murphy Hadn’t Tried to Enroll in a Student Loan ICR or IBR
Another strike against the plaintiff? He didn’t try to sign up for an income-based or income-contingent repayment plan. In fact, court documents say, Murphy said he wouldn’t sign up for those plans even though his monthly payments would be $0.
He tried to argue that consolidating his loans and putting them in forbearance/deferment was proof that he was making an honest effort to manage his loans, but that wasn’t enough.
“Consolidation fails to carry the burden under this prong where no payments have been made and the record does not demonstrate an intention to repay,” Böhm said. “Accordingly, without more, Plaintiff cannot demonstrate good faith efforts to repay the loans by seeking deferments, forbearances and consolidation.”
Murphy’s Student Loan Debt Made Up the Majority of His Debt
The final factor in the judge’s decision had to do with the fact that 85% of Murphy’s unsecured debt (not a mortgage or car) was student loan debt. So, basically, his bankruptcy was a discharge of his student loan debts and about $25,000 in other debts.
“(The) Plaintiff failed to respond with sufficient evidence to create a genuine dispute as to any material fact on the issue of undue hardship,” Böhm wrote.
Böhm wrote that the ratio between student loan debt and other debt isn’t a make-or-break factor but it did contribute to her decision.”
The judge went on to say that murphy was a healthy, well-educated 32-year-old who has the opportunity to earn enough money through is experience and education to pay back his loans.
The Final Word on Murphy’s Student Loan Discharge in Bankruptcy
Judge Böhm was pretty straightforward with her conclusion.
“Upon consideration of the foregoing relevant factors applied to the undisputed facts, Plaintiff failed to demonstrate good faith efforts to repay the loans at issue,” she wrote. “The plaintiff’s educational debt is not dischargeable.”
Okay, so why are we showing the judge’s response? First, people say a lot of thing about student loans and bankruptcy – these direct quotes from experience bankruptcy attorneys and from case summaries show you exactly how things happen.
Second, even though every judge is different, these opinions help you understand how judges decide if you pass the first part of the Brunner test.
The lesson from the Murphy case is that simply applying to jobs isn’t enough to prove you’re facing an economic hardship that goes beyond your control.
In fact, the more education you have, the less likely you’ll be able to say that it’s impossible to find a job and pay off your loans.
Part of what makes a judge’s job so tough in student loan bankruptcy cases is that they have to take a look at your skills, education and background and determine what type of income you can expect later in life.
Our Takeaway from the Murphy Case
Here’s the deal: If you’re young and you’ve got degrees, you’re at the start of a very long marathon in which you need to make consistent payments on your student loans.
While there aren’t that many students who take their student loans to bankruptcy court – Palmer estimates about 200 a few years ago – those who do need to be prepared for the fight of your life.
Judges want to know that you’ve put forth the effort to find jobs that can pay enough to cover your expenses.
Merely filling out applications isn’t enough; you need to push for jobs that maximize your earning potential.
Second, you absolutely must get yourself into a repayment plan that gives you manageable monthly payments.
Usually, this means the IBR, which is a repayment method mentioned often in bankruptcy cases where there is a request for student loan discharges.
Essentially, judges need to see that you’ve done everything you possibly can to better your financial situation. Everything.
Based on what we’ve read, judges want to see that you’ve embraced the fact you have loans, that you’re in it for the long haul and that, despite your very best effort to improve your situation, you haven’t been able to do it and you have a legitimate reason for why you won’t be able to do it in the future.
Young grads with degrees are expected to dig in their heels and work hard to cover their expenses and their loans, no matter how tough the job market is.
Borrowers with private loans are in a more difficult spot because they don’t have nuanced federal repayment programs that can lower their payments to $0, depending on their financial situation.
Despite how daunting it all seems, there are situations in which students have been successful before a federal bankruptcy judge and there are two regions in the Unite States where the Brunner Test is not used in student loan discharge bankruptcy cases.
How Do You Beat the Brunner Test to Get Your Student Loans Forgiven in Bankruptcy?
There is no formula for beating the Brunner Test, no hack that can trick a judge or no back-door deals that can circumvent the law.
However, a statistical study published in 2011 by Yale University grad Jason Iuliano indicates that there are certain types of borrowers who have more success with getting some or all of their student loans discharged through bankruptcy.
Your Chances Are Better if You Have a Medical Hardship
The first group of people, Iuliano says, are those who have a medical hardship.
In other words, people who have a physical disability, mental illness or a chronic disease have a better chance of getting partial or full discharges than those who don’t.
- 17% received a partial discharge
- 35% received a full discharge
No medical hardship:
- 11% received a partial discharge
- 15% received a full discharge
As you can see, more than half of those who had a medical hardship were able to get at least some of their loans discharged, as opposed to only 26% of those who didn’t have medical hardships.
“Medical hardship is positively correlated with receipt of a discharge,” Iuliano wrote.
Your Chances Are Better If You Are Unemployed and Poor
Iuliano’s numbers went on to show that unemployed plaintiffs had a success rate of 40% in full discharges and 12% in partial discharges, whereas employed plaintiffs had an equal chance of full and partial discharge: 16%.
The average income stated on the previous year’s tax return of both groups of borrowers is also interesting. The less money you make, the better the chances of discharge:
- No discharge: $28,272 per year
- Partial discharge: $20,072 per year
- Full discharge: $16,394 per year
Lawyers May or May Not Help
Perhaps one of the most interesting pieces of datum he found was that 38% of plaintiffs who hired an attorney were able to get some sort of discharge, while 43% of those without an attorney received a partial or full discharge.
“Whether one hires an attorney appears to have little correlation with discharge outcome,” Iuliano wrote. “A comparison between the groups reveals that the relative frequencies with which each outcome is reached are quite similar.”
Rich Parker noted that the catch-22 is that you have to have money to hire a lawyer, and if you have enough money to do that, then, in theory, you have enough money to pay back your loans.
This may explain why those without a lawyer had a better success rate with partial discharges (19% to 13%) and an almost identical full-discharge success rate (24% to 25%).
However, before running off to your appeals court, remember that each one of these cases was unique: facts, circumstances and judges were not the same.
Thus, it’s hard to know if those without a lawyer could’ve had a better chance at getting more discharges, or if those with lawyers would’ve had the same success had they not hired an attorney.
Iuliano’s Conclusion About Student Loan Discharge and Bankruptcy
At the end of his study, Iuliano expressed some surprise at the fact that very few borrowers went through the process of trying to get their student loans discharged through bankruptcy hearings.
He noted that nearly 40% of the cases he studied were successful.
“For years, commentators have derided the undue hardship requirement as too burdensome and attacked courts for applying the standard in an inconsistent manner,” Iuliano wrote. “The real problem, it turns out, is that debtors simply are not pursuing student loan discharges.”
Whether or not that is the real problem remains to be seen. His numbers show that your probability of discharge increases greatly if you have income under $20,000 per year.
If more borrowers applied for student loan discharges, there certainly would be more people who won their cases.
However, those wins would be limited since having a medical hardship and/or a sub-$20K/year income would only represent a small fraction of the 42 million people who have student loans.
Where Do We Go From Here? Some Ideas on Reforming Student Loan Bankruptcy Law
We mentioned at the beginning of this article that nine out of 11 federal circuit courts use the Brunner Test to judge “undue hardship”.
The two courts who don’t use it, according to a 2011 meeting of the Allegheny County (PA) Bar Association (ACBA), are the First and Eighth Circuit Courts of Appeal. The states included in those circuits are:
- Maine (1st)
- New Hampshire (1st)
- Massachusetts (1st)
- Rhode Island (1st)
- North Dakota (8th)
- South Dakota (8th)
- Minnesota (8th)
- Nebraska (8th)
- Iowa (8th)
- Missouri (8th)
- Arkansas (8th)
The Eighth Circuit has decided to use something called “totality of the circumstances” to judge whether or not your financial situation presents and undue hardship.
This is an interesting option, Rich Parker said, because it takes into account more than just the three prongs of the Brunner Test.
“It’s just a little bit softer and less rigid than the Brunner standard,” Parker said. “They’re going to look at your whole life – what debts you have, what your job situation is like, what your education is and other things. It’s a broad spectrum of factors rather than a three-part test.”
The First Circuit Court has “not adopted a standard,” the ACBA’s meeting notes said.
The author of those notes went on to point out that there was a case in progress in which a 62-year-old man was trying to discharge $200,000 in debt (the actual number was $246,000).
That case, known as Robert E. Murphy Vs. U.S. Department of Education Educational Credit Management Corporation, involved a man who’d taken out Federal PLUS loans, which are loans parents take out to pay for their kids’ college.
The First Circuit ruled that the original bankruptcy judge in the case should consider offering Murphy a settlement in which his loan balance of more than $240,000 should be forgiven.
“I’m not saying that you swing the door open and let every Tom, Dick and Harry write off their loans, but if they can’t pay them back through no fault of their own and the situation is out of their control, then they shouldn’t be penalized,” Murphy told The Boston Globe in the wake of the court’s decision.
At the time of publishing, there weren’t any updates about the bankruptcy judge’s decision.
What Needs to Happen to Make Student Loan Discharges Easier to Get?
We posed this question to Rich Parker and he had some very specific responses.
“I think the first thing is to make private loans dischargeable through bankruptcy,” Parker said. “There should be no protection for private loans, and, if you file for bankruptcy, they should be a debt treated like credit cards.”
Second, Parker said, Congress or the courts need to nail down a definition for “undue hardship.”
“There should be clarity on what undue hardship really is,” he said. “The judges are forced to look back at how the student behaved and look forward to the future and that’s difficult to do.”
At the time of publishing, Parker and his colleagues at the National Association of Consumer Bankruptcy Attorneys were on the hunt for cases that could make good candidates for overturning a student loan discharge decision and thus pave the way for new standards to be created.
The Final Word: Borrowers Beware
If there’s any on takeaway you should get form this article, it’s that student loans are serious business.
The way our nation’s bankruptcy laws are set-up make it extremely difficult to discharge federal and private student loans through bankruptcy.
If you have plans to file for bankruptcy and get your loans discharged, then you should plan on being disappointed unless:
- You have a legitimate medical hardship
- You made less than $20K last year
- You don’t have graduate degrees
- You didn’t earn any degree
You see, the way that judges are deciding cases seems to indicate that the old saying, “To whom much is given, much is expected,” holds true.
If you’ve got an undergrad degree and a graduate degree, judges may have less leniency on you because you have, on paper, the educational tools to get a good job.
Also, if you make a lot of money, there may be less leniency because you have the resources to pay your bills and make payments on your loans through income-driven repayment plans.
And this, unfortunately, brings the painful reality of student loan discharges into clear sight: There is very little mercy for the well-educated and the high earners.
More on Student Loan Debt:
- Top Student Loan Scams
- Fannie Mae Student Loan Mortgage Swap
- Student Loan Refinancing: Pros, Cons, & the Top 3 Things You Must Consider<