Lenders Beware: Private Student Loans May Soon Be Dischargeable in Bankruptcy

By:  Joshua B. Alper, Esq.

The Consumer Financial Protection Bureau has its eye on the default rate of private student loans.  In an effort to address this issue, a bill was recently introduced in the United States Senate entitled “The Fairness for Struggling Students Act of 2015” (the “Act”).  Significantly, the Act aims to help students and graduates struggling with repaying private student loans the ability to discharge such debt in bankruptcy.  The Act will essentially treat private student loan debt similar to that of other forms of private unsecured debt like credit cards and medical bills.

When the reforms to the Bankruptcy Code were enacted in 2005, private and government-backed student loans were afforded similar protection when a borrower filed for bankruptcy.  Both were generally deemed nondischargeable (although private student loans could be discharged in rare and extreme circumstances)With the introduction of the Act, the Senate seeks to alleviate the financial pressure experienced by students and graduates when they are obligated to begin repaying private student loans.  Significantly, the Act leaves intact the nondischargeability of student debt arising from federal student loans.  Federal loans are typically backed by revenue received from taxpayers.  As a result, it is no surprise that the Senate chose not to change the law in this area.  Federal loans usually have low interest rates and have flexibility with respect to available repayment options.  By contrast, private loans generally have higher interest rates and limited flexibility regarding repayment.  Therefore, the Act would ease the burden of repaying private student loans, especially when the total outstanding debt on private loans that are in default is reported to be extreme.

While critics of the Act may suggest the Act does not protect against bad faith bankruptcy filings, the Bankruptcy Code already contains provisions that were enacted in 2005 to guard against debtors abusing the bankruptcy system for their own personal gain.  For a variety of reasons, the enactment of legislation is oftentimes a difficult task because there are a multitude of interests to consider.  Consequently, it will be interesting to see how lawmakers and the financial industry react to the Act, especially during the current economic climate.

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