Are Student Loans Included in a Bankruptcy Discharge?

At Modestas Law Offices, our clients often ask whether student loans are included in a bankruptcy discharge. While there is a process under the Bankruptcy Code to request discharge of a student loan in a Chapter 7 or Chapter 13 bankruptcy case, getting a student loan discharged is far from a sure thing.

Whether the bankruptcy judge will grant the discharge depends entirely on your individual circumstances.

Bankruptcy Code Provisions Relating to Student Loans

Under the United States Bankruptcy Code, student loans are a type of unsecured debt that is usually not covered by a bankruptcy discharge. However, the Code provides an exception relating for student loans. If you can prove that failure to discharge the debt will impose an “undue hardship,” the bankruptcy court can grant discharge of the student loan.

While the Code includes the undue hardship exception for student loans, the law does not explain what qualifies as undue hardship. Therefore, interpretation of the exception is left to the courts.

Since the United States Supreme Court has not decided what constitutes undue hardship in student loan cases, interpretation of the requirement is based on decisions of the United States Courts of Appeals.

Bankruptcy cases are reviewed by 12 different individual circuits of the Court of Appeals across the country. Each circuit sets its own standards for applying the undue hardship test. Illinois is covered by the United States Court of Appeals for the Seventh Circuit, which also includes Indiana and Wisconsin.

Undue Hardship Test for Student Loan Bankruptcy Discharge in Illinois

The Seventh Circuit Court of Appeals embraces a test known as the “Brunner Test,” named after the decision of the Second Circuit which originally set forth the test. The Brunner Test applies to all Seventh Circuit cases, so it applies to bankruptcy cases filed in Illinois, Indiana, and Wisconsin.

The Brunner Test requires you to meet three different criteria to qualify for discharge of a student loan:

  • You made good faith efforts to repay the loans;
  • If you are forced to repay the loan, you will not be able to maintain a minimal standard of living for yourself and your dependents, based on your current income and expenses; and
  • Your current financial situation is likely to continue for a significant part of the repayment period.

To meet the three-part test, the facts in your case must support each individual element of the Brunner Test.

When the bankruptcy court applies the test, the judge is likely to consider eligibility for repayment plans, if you have federal student loans. However, in a case several years ago, the Seventh Circuit upheld a bankruptcy court ruling that a debtor had made a good faith effort to repay her loans even though she had not applied for a federal repayment plan. The case is important because it means that applying for a federal loan repayment plan is not an absolute requirement for meeting the “good faith” element of the undue hardship test for cases tried in the Seventh Circuit.

Requesting a Student Loan Undue Hardship Discharge in a Bankruptcy Case

Getting discharge of student loans in a bankruptcy case is not an easy task. The undue hardship determination can only be made by the bankruptcy judge (not the trustee). The request must be filed as an adversary proceeding in the bankruptcy case.

Adversary proceedings are a separate civil matter within a bankruptcy case. These proceedings are sometimes referred to as bankruptcy litigation. Requesting discharge on the basis of undue hardship in an adversary proceeding involves a formal court hearing before the bankruptcy judge, at which you are represented by legal counsel. Ultimately, the bankruptcy judge issues a decision, which then becomes part of your bankruptcy case.

Since an adversary proceeding must be filed to request discharge of a student loan, the process complicates your bankruptcy case considerably. In addition, your request can be opposed by your student loan lender.

If an adversary proceeding is filed to request discharge of a student loan, you may receive some relief, even if it is not a full discharge. Depending on the circumstances, a bankruptcy judge may grant a partial discharge or suggest bankruptcy mediation between the debtor and lender. In addition, your attorney can negotiate with the lender for a lower interest rate, reduction of principal, or other forms of relief.

Should You Pursue Bankruptcy Discharge of a Student Loan?

In 2012, the American Bankruptcy Law Journal published a report on a study of student loan discharge requests and the undue hardship exception. The study of actual discharge requests found that about 40% of those requests were granted.

The report also concluded that debtors who were successful in meeting the test had common characteristics:

  • Unemployment: If a debtor has ongoing problems finding employment, despite efforts to do so, that fact can help establish a future inability to pay.
  • Disability: Involuntary medical hardship or disability seems to be the most predominant characteristic in getting discharge of a student loan. However, a disability that is the result of a lifestyle issue (like alcoholism) may not satisfy the test.
  • Low Income: If the debtor's past income has been persistently low, that fact can help demonstrate that the circumstances are likely to continue in the future.

The study was conducted six years ago, and results in the student loan discharge requests may have changed since then. In addition, the presence of any of these characteristics does not ensure success in any future case. The study may, however, be useful as a reference in evaluating whether pursuing the undue hardship exception is a good option in your case.

How you would fare in an adversary proceeding will depend entirely on the facts of your case. Your bankruptcy attorney can discuss your circumstances and advise you whether pursuing a discharge is advisable. Sometimes, pursuing other avenues for relief of student loan debt is preferable to filing bankruptcy or an adversary proceeding within your bankruptcy case.

Talk With a Burr Ridge, Illinois Bankruptcy Attorney

Modestas Law Offices assists clients with Chapter 7 or Chapter 13 bankruptcy. A request for discharge of a student loan can be filed in either type of bankruptcy case. If you’re considering bankruptcy for your student loans or other reasons, we welcome you to contact us.

We serve Illinois clients in Chicago, Cook County, DuPage County, and Will County. To accommodate clients who are busy during weekdays, we are available to meet in the evening and on weekends. Contact us to schedule your initial free consultation.

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