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Busting myths about bankruptcy and private student loans

April 12, 2022 / Source: CFPB

By Robert G. Cameron – APR 12(comma) 2022

Student Loan Borrowers Share Concerning Stories About Industry Collecting on Discharged Debt

The United States Bankruptcy Code provides important relief for debt-burdened consumers who need a fresh start to get their finances in order. This protection is particularly important for consumers who have been burdened by decades-old student debt(comma) many of whom may have been subject to predatory practices .

For too long(comma) a myth has persisted that student loans are not dischargeable in bankruptcy. The myth is not true because(comma) in fact(comma) student loans can be discharged bankruptcy. We have seen the Department of Education take important steps  to ensure that bankruptcy relief is available to federal student loan borrowers. It is vital that private student loan borrowers also receive the relief the Bankruptcy Code provides —and that loan owners(comma) lenders(comma) servicers(comma) and debt collectors honor that relief when a bankruptcy judge discharges a consumer’s debts.

Education Loans Can Be Discharged in Bankruptcy

What is behind the perception that student loans cannot be discharged in bankruptcy? It is true that it can be more difficult to discharge many student loans than other types of unsecured debt; the Bankruptcy Code provides a more difficult test for relief (a showing of “undue hardship”) and an extra step in the process (an “adversary proceeding(comma)” essentially a lawsuit within the bankruptcy). However(comma) some borrowers may not realize that discharge is still possible even under that standard and extra step.

Importantly(comma) some loans that borrowers may think of as “private student loans” are not subject to that standard and extra step. Instead(comma) some private loans for educational purposes can be discharged in a normal bankruptcy proceeding(comma) just like most other consumer debts.

For example(comma) several types of loans associated with education expenses are dischargeable in bankruptcy(comma) like most other types of unsecured consumer debt. These types of loans for education expenses are not subject to the more difficult standard and extra step. These loans could include(comma) for example:

  • Loans where the loan amount was higher than the cost of attendance (such as tuition(comma) books(comma) room(comma) and board)(comma) which can occur when a loan is paid directly to a consumer.
  • Loans to pay for education at places that are not eligible for Title IV funding such as unaccredited colleges(comma) a school in a foreign country(comma) or unaccredited training and trade certificate programs.
  • Loans made to cover fees and living expenses incurred while studying for the bar exam or other professional exams.
  • Loans made to cover fees(comma) living expenses(comma) and moving costs associated with medical or dental residency.
  • Loans to a student attending school less than half-time.

Troubling Consumer Accounts of Industry Practices Regarding Bankruptcy Discharges

While these details might be understandably difficult for the typical consumer to follow(comma) they should be understood and reflected in the policies and procedures of loan owners(comma) lenders(comma) servicers(comma) and collectors. As the CFPB has documented for years(comma) student loan borrowers rely on their servicers  to provide timely and accurate information about their loans(comma) including the protections the law provides when borrowers have trouble paying their loans. Unfortunately(comma) the CFPB’s work has also  shown  how  student loan companies fail to consistently give borrowers the information and support they need.

Regrettably(comma) complaints submitted to the CFPB suggest that some of these companies might be making false statements to borrowers about the protections bankruptcy offers—or worse(comma) even collecting on debts that have already been discharged by a bankruptcy judge.

Complaints That Discharge Orders Are Being Violated

Consumer complaints raise serious questions about whether student loan companies are violating discharge orders—meaning they’re unlawfully collecting on loans even after a borrower has been through bankruptcy.

One consumer shared:

I have argued numerous times that [Direct to Consumer XYZ] loan was discharged as part of my … chapter 7 bankruptcy (see attached). They have collected monthly payments since then as part of the “charge off(comma)” they have been reporting my account as late each month since then to the various credit agencies even though I’ve been paying their “agreed upon” monthly payments. As per a number of recent cases(comma) it has been determined that in fact the [Direct to Consumer XYZ] loans were dischargeable.

Another consumer wrote:

There are two student loans that I took out with [Bank] while I was in college from 2006 to 2010. . . . The [Bank] student loans were discharged in Bankruptcy …. I have attached the discharge papers and highlighted the two [other Company] loans as well as the courts sentence stating that the unpaid amounts have been discharged. These are non-qualified private student loans(comma) so they are not exempt from discharge under the bankruptcy code. They were taken out as direct consumer student loans(comma) not certified by the school(comma) and they were in excess of my scholarship and the federal student loans that covered by tuition. No further petition needs to be filed with the court for the discharge(comma) according to the bankruptcy code any non-qualified private student loans are automatically discharged. I've told [other Company] this multiple times(comma) but they just say that student loans can't be discharged in bankruptcy(comma) which is only accurate for federal and private qualified student loans.

Another consumer wrote:

I filed for a chapter 7 which was [discharged] satisfactory .... My chapter 13 was [discharged] satisfactory this year .... I had a [Direct to Consumer XYZ] loan in 2007 which has been in derogatory status for a few months prior to my chapter 13 filing. . . . [S]omething told me to research the loan that I had. I took out what was called “[Direct to Consumer ABC] loan” which is considered a non traditional student loan. This was a loan they offered for students only which was sent directly to the student to do basically whatever they wanted. Which I took advantage of to help with bills and whatnot as being a young single parent full time student part time job.

After doing my research(comma) I found out on several different platforms from back google searches that [Direct to Consumer XYZ] loans are NOT student loans and are FULLY discharged debts in bankruptcy. My immediate thought is that this should have been resolved when my chapter 7 was completed. They were included in my chapter 13 and received a payment. Now that my chapter 13 is complete(comma) they have went back to reporting my account as derogatory(comma) charged off and my account is still headed for collections. I have provided them the info(comma) and they refuse to budge.

Student loan companies cannot collect debts that a consumer no longer owes. As noted above(comma) certain types of education loans are dischargeable in bankruptcy without the higher standard and without the filing of an adversary proceeding. Collecting on debts that have been discharged through bankruptcy might not only violate the Consumer Financial Protection Act’s prohibition on unfair(comma) deceptive(comma) and abusive practices—it could also violate the order of a United States bankruptcy judge.

These complaints raise serious concerns about the practices of private student loan owners(comma) lenders(comma) servicers(comma) and collectors and their handling of bankruptcy discharges.

Has Your Loan Been Discharged?

If you have been through bankruptcy and have private student loan debt that is still being collected(comma) consider the following questions:

  • Did you take out the loan for educational expenses solely for the cost of attendance (tuition(comma) books(comma) room(comma) and board) or did you take out a loan that was higher than the costs of attendance? If your loan was greater than cost of attendance(comma) your loan might have been discharged.
  • Did you take out the loan to pay for education at an unaccredited school(comma) a school in a foreign country(comma) or unaccredited training and trade certificate programs? If so(comma) your loan might have been discharged.
  • Did you take out the loan for fees or expenses related to studying for a professional exam? Or the cost of the board examination or fees(comma) moving(comma) and living expenses for a medical or dental residency? If so(comma) your loan might have been discharged.
  • When you took out the loan(comma) were you in school less than half-time? If so(comma) your loan might have been discharged.

If you think you have been billed for a loan that has been discharged in bankruptcy(comma) consider the following steps:

  • Document the bills you have received and how much you have paid since the bankruptcy discharge.
  • Locate and save any documents you have pertaining to the loan(comma) like your promissory note and any other communications from the loan originator or servicer(comma) as well as relevant bankruptcy documents listing the debt and the discharge order.
  • You can also submit a complaint to the CFPB and can attach information about your loan that supports your complaint.