Student Loans can be Discharged (at Least Partially) in Bankruptcy After All
By: Carmella Gubbiotti
St. John’s Law Student
American Bankruptcy Institute Law Review Staff
Recently, the United States Bankruptcy Court for the Southern District of Indiana in In re Fecek,[i] partially discharged a substantial portion a debtor’s student loan debt even though the debtor was working full time and earned an income that was above the state median.[ii] In particular, the Fecek court applied section 523(a)(8) of the Bankruptcy Code’s[iii] undue hardship exception to award a partial discharge of student debt in a chapter 7 bankruptcy in which the debtor was actually utilizing her degree in a full time position. [iv] The debtor in Fecek earned professional degrees in both psychology and nursing.[v] As result financing these degrees by taking out student loans, the debtor owed nearly $280,000 to private student loan lenders in addition to almost $65,000 in federal student loan debt. Unfortunately for the debtor, the value of her loans was less than her earing potential and further, the Sallie Mae was unwilling to engage in loss mitigation negotiations.[vi] Faced with an impossible situation, in November 2012, the debtor filed for chapter 7 relief in the Southern District of Indiana. She initiated an adversary proceeding to determine whether she would be eligible for a discharge of her student loans due to undue hardship. The court ultimately found her loans to be partially dischargable.
Section 523 of the Bankruptcy Code provides certain circumstances under which a debt is non-dischargeable in a bankruptcy.[vii] Under this section, student loans are non-dischargeable unless the debtor can show that paying them would cause undue hardship.[viii] Courts are split as to how to interpret this clause. The majority of courts apply the analysis from Brunner v. New York State Higher Education Services Corporation,[ix] in determining whether repayment of the debt was an undue hardship.[x] This three-step analysis, which has been adopted by a majority of courts, considers (1) whether “the debtor cannot maintain, based on current income and expenses, a ‘minimal’ standard of living for herself and her dependents if forced to repay the loans;"[xi] (2) whether “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,” (3) whether “the debtor has made good faith efforts to repay the loans.”[xii] This test can be contrasted with the totality of the circumstances test adopted by the Eighth Circuit in Long v. Educational Credit Management Corp. (In re Long),[xiii] in which the court considers (1) the debtors economic resources, (2) reasonable necessary living expenses of the debtor, and (3) any other relevant circumstances.[xiv]
The Fecek court, following Seventh Circuit precedent, applied the Brunner Test[xv] to determine that with an average net income of just over $3,000 a month and monthly payments exceeding $2,000 a month, the debtor could not sustain a “minimal standard of living” if forced to satisfy the full monthly loan payment.[xvi] Further, the Fecek court determined that the debtor – who expected to achieve a maximum salary of $60,000-$70,000 – would never have the ability to pay back her debts in full and had acted in good faith. The Fecek court, however, commented that the debtor could make certain sacrifices, including cutting unnecessary cable costs. Ultimately, the court considered the economic realities of the debtor’s situation in holding that while requiring the debtor to repay a portion of the loans would not cause an undue hardship, it would cause undue hardship if the court required her to repay the entire loan.[xvii] Therefore, the Fecek court required the debtor to pay $500 a month for 15 years to her private student loan creditor because the court believed that the debtor could make such payments if she made minor cutbacks in her expenses following the discharge of other debts.[xviii]
The Fecek decision is interesting because it departs from the common understanding that student loan debt cannot be discharged in bankruptcy, except in the most extreme circumstances.[xix] Indeed, it is hardly surprising that in 2007, 99.9 percent of debtors with student loan debt did not even try to discharge their student loan debt.[xx] However, in 2007, bankruptcy courts granted a full or partial discharge to nearly forty percent of the 0.1 percent of the debtors who sought a hardship discharge.[xxi] These figures are consistent with the Fecek opinion, since the Fecek court was willing to partially discharge a debt where there was little to no chance the debtor would ever have the ability to repay. However, even though decisions like Fecek demonstrate that courts may be willing to allow a debtor (even one with a good salary) to at least partially discharge his student loan debt, they does not provide a windfall for the debtors because, like the debtor Fecek, the debtor will still have to make sacrifices to make large monthly payments towards the remaining student loan debt. Ultimately, while the Fecek court granted the debtor a partial reprieve from crushing student loan debt, the court simultaneously left the debtor with enough debt that the debtor would still need to adjust her expenses and lifestyle in order to make the payments.
[i] 12-13062-JMC-7, 2014 WL 1329414 (Bankr. S.D. Ind. Mar. 31, 2014).
[ii] In re Fecek, 12-13062-JMC-7, 2014 WL 1329414 (Bankr. S.D. Ind. Mar. 31, 2014).
[iii] 11 U.S.C. § 523 (a).
[iv] In re Fecek, 12-13062-JMC-7, 2014 WL 1329414 (Bankr. S.D. Ind. Mar. 31, 2014).
[vi] Id. at 4.
[vii] See generally 11 U.S.C. § 523.
[viii] See 11 U.S.C. § 523 (a)(8).
[ix] Brunner v. New York State Higher Educ. Servs. Corp., 831 F.2d 395, 396 (2d Cir. 1987).
[x] In re Fecek, 12-13062-JMC-7, 2014 WL 1329414 (Bankr. S.D. Ind. Mar. 31, 2014).
[xi] Brunner v. New York State Higher Educ. Servs. Corp., 831 F.2d 395, 396 (2d Cir. 1987).
[xiii] Long v. Educational Credit Management Corp. In re Long, 322 F.3d 549 (8th Cir. 2003).
[xv] Brunner v. New York State Higher Educ. Servs. Corp., 831 F.2d 395, 396 (2d Cir.1987).
[xvi] In re Fecek, 12-13062-JMC-7, 2014 WL 1329414 *6 (Bankr. S.D. Ind. Mar. 31, 2014).
[xix] Jason Iuliano, An Empirical Assessment of Student Loan Discharges and the Undue Hardship Standard, 86 Am. Bankr. L.J. 495, 523 (2012).