Smart SpendingSmart Spending

Bankruptcy can help with student debt

Despite what you may have heard, the truly desperate can have their student loan debt forgiven in bankruptcy court. But it's not easy.

By Karen Datko Sep 5, 2012 2:17PM

Image: Man holding out empty pockets. (© Dougal Waters/Photodisc/Getty Images)Whenever you read about the immense amount of outstanding student loan debt in this country, you invariably read that student loan debt cannot be discharged in bankruptcy court. 


Well, that's not quite the case. A discharge of student loan can be done if your circumstances are sufficiently and demonstrably dire. You also have to prove to the court that there's no reason to hope that they'll get any better for the life of the loan, according to an excellent Ron Lieber story in The New York Times.


In other words, bad luck and hard times are your lot in life, and you must convince the judge of that fact.


It didn't used to be that way. Student loan debt was dischargeable in bankruptcy before the mid-1970s. Then Congress began gradually tightening the rules for federally guaranteed student loans, and it finally eliminated bankruptcy discharge for private student loans -- including those issued by banks -- in 2005. ( has an interesting timeline of the changes here.)


"That essentially lumps student loan debt in with child support and criminal fines -- other types of debt that can't be discharged," Kayla Webley observed earlier this year on Time.


(While programs exist to forgive or reduce federal student loan payments, those options aren't available for students who took or take on private student loan debt. That's why people who are advocating a change in the bankruptcy laws are focusing on making private student loans dischargeable in bankruptcy.)


If you borrowed it, you have to repay it -- unless you can prove to the bankruptcy judge that your student loans are causing an "undue hardship" for you and your dependents. How do you make your case? (Post continues below.)

A federal website that explains ways to have federal student loan debt canceled, forgiven or discharged explains the bankruptcy courts' three-part test (and you have to meet each and every one of these):

If you are forced to repay the loan, you would not be able to maintain a minimal standard of living.
There is evidence that this hardship will continue for a significant portion of the loan repayment period.
You made good-faith efforts to repay the loan before filing bankruptcy (usually this means you have been in repayment for a minimum of five years).

Many judges have adopted a "certainty of hopelessness" test, Lieber writes, which requires them to believe that you truly have no hope of earning an adequate living now and for years to come.


These cases can drag on for years, and the government may fight you every step of the way. (A Palm Beach Post story this week, by the way, detailed how the feds have greatly increased the number of lawsuits they file against student loan defaulters.) The Times story focuses on a 31-year-old college grad, now legally blind, who first went to bankruptcy court six years ago. He's seeking the discharge of $89,000 in student loans.


The good news is, studies mentioned by the Times show that 39% or more of undue hardship applicants are successful in getting part or all of their student loan debt forgiven. Fewer than 1,000 people try it each year, the Times says.


The only case we could find: A bankruptcy judge discharged $340,000 in student loans owed by a woman who can't work because of Asperger's syndrome.  


What do you think? Should bankruptcy be restored as an option for those unable to repay their student loans -- either private loans or those guaranteed by the federal government? Should bankruptcy standards be relaxed to help the unfortunate?

Some don't think so, at least not for federal loans. Wrote one reader of the Times:

Many people are financially handicapped for life by no fault of their own. However, if you choose to take the risk inherent in taking out a loan, you do not fall within this group. You took a risk. You took someone else's money and agreed to pay it back with interest. Other taxpayers who did not take that money should not have to pay for you.

More on MSN Money:


Sep 5, 2012 4:10PM
Let's get real here.  Why don't we attack the real problem of the outrageous cost of a higher education and the scam of trying to get kids who are not prepared for college to to pay into the system and wash out in the first couple of semesters.  Lizzy Warren wants debt relief for college students but how about not paying her a six figure salary for teaching one class.  I think these colleges and universities are as bad as the banks.  I agree that these kids need help with this debt but  where is the sanity in paying more than the cost of a house for a college education.  It's about time that we analyze all the costs (and scams) in higher education and begin to police that rather than guarantee student loans or force kids into bankruptcy!
Sep 5, 2012 4:29PM

Student loans should not be dischargeable. I borrowed money so I could go to college but I didn't go to the most expensive college I was accepted to. I went where I could  receive a suitable education and where I could afford.  I knew when I signed for the loans that I had to start paying them back 6 months after I graduated or left school for any reason. When I graduated,  the monthly payment was higher than I could afford at the time so I extended the life of the loan by 5 years. Does it suck? Absolutely!! But guess what? I agreed to the terms when I signed the loan documents.

I'm so tired of reading about folks who borrow money and then moan and groan when they have to start paying it back. Deal with it!

Sep 5, 2012 4:04PM
Back in the 70's I knew guys who went to dental and medical schools all paid for with loans and immediately declared bankruptcy upon graduation.   People should not, like those guys, be able pay for degrees with large income potential and then walk away.  That is what led to the laws we have today.  The problem is now banks can and do loan far more money to people then the earning power of the degrees they are studying for justify with the knowledge those people with be stuck paying the money back even if it takes decades.  Banks no longer have to worry about these loans because the law practically turns the borrowers into slaves and no one honestly advises naive young people what they are getting into.  The laws should be rewritten to reintroduce risk for the banks who make these loans.  Not to go back to the 70's but so at least they wouldn't loan hundreds of thousands of dollars to people with no real employment prospects to pay that kind of money back. 
Sep 5, 2012 4:16PM
Wow, the "entitled" class speaks again.  I am shocked at how many what appears to be young people feel they need not pay their debts.  Times were tough when I graduated college, but I managed to pay until I was well over age 45, and until the various student loans were paid in full.  Figure it out, if you don't pay your student loans off, which is probably the single largest receivable this government has, or you taxes or whatever, there will be no money for these entitlements.  With this attitude it is no wonder the U.S. is $16 trillion in debt.
Sep 5, 2012 5:45PM
Let's kill Sallie Mae - no federal guarantees on these loans!  This will greatly diminish the availability of loans and thus allow fewer students the opportunity to get an "education".  What will this do to the colleges/universities with their overpriced curriculum, faculty, and administrators???  It will drive down the overpriced cost of a college degree by forcing price reductions for tuition with concurrent cost cuts internally at the schools. More students will then become able to privately afford a higher education at a lower price.  Sounds simple and it is. But, once again - the liberals got this monster called Sallie Mae passed into legislation and look at the results!!  Remember the housing fiasco with Freddie Mac and Fannie Mae!!    PLEASE PLEASE PLEASE LET'S GET THE GOVERNMENT OUT OF OUR LIVES !!!
Sep 5, 2012 6:53PM

So I go to a college I could afford thanks to an academic scholarship and major in Biochemistry and Biomedical Science and go on to med school, work my **** off to pay off my minimal student loans, and you tell me Liberal Arts Billy over there gets a free $100k because he can't get a job with a women's studies degree? 


Something seems wrong with that picture... Maybe Liberal Arts Billy should have looked at the employment statistics before choosing a major - maybe he shouldn't have gone to college at all if he was just going to major in a field where there are no jobs.  You should not be able to go to college if you are too inept to research job statistics.

Sep 5, 2012 2:49PM
Agree with the article.  But the feds are not applying the same standard to this as they are foks who cant pay there mortgage.  Seems to me that once again big government (big brother) has 2 sets of standards.  No one made folks take out loans that they knew they could never pay back when they bought houses they could not afford. The feds guaranteed the loan and the Government made good on  them.  Folks could go under and that was the end of it.  Is there something wrong with a system that allows folks who owe hundred of thousands on a home can walk away but a kid who owes less then 50 thousand cant?
Sep 5, 2012 4:59PM
Taxpayers are granting you a loan, in hopes that you will graduate, get a good paying job, and add to the economic well being of the future economy.  If you don't pay it back, you are giving the finger to the very people who helped you.  If you take out loans for degrees which pay nothing or keep switching degrees because you can't make up your mind, then that is your problem and not the taxpayer. Yes, there are loopholes for taking bankruptcy.  But believe me, you will have a major court battle on your hands and it will take years to get settled.  In the meantime, they'll take every tax refund and any other federal payment to which you might have been entitled.  I am a liberal democrat, but I believe that if you take out student loans you should pay them back. Period.  I did and so does the greater majority of students.  For heaven's sakes, grow up and be an adult!
Sep 5, 2012 6:34PM
Pay it back.

My husband and I will have paid back over 100k once we finally pay it back ( in 7 years). Our debt load is manageable, we just have to say no to a lot of things.

Just because my husband took the long way through college about 80k, does not make it necessary for the tax payers in America to pay for his Immaturity at the time.

If you can't pay it back- or wont pay it back. Don't go to school. People need to have some personal responsibility. There are too many cry babies. I can tell what 50% of my friends had helicopter moms as they grew up... They can't tie their shoes without asking a question. Parents need to educate and give tools to their youth and let them make some mistakes when they are younger than college age. It is not helping our lives or the future of America to have complacent idiots as the next generation. If you want to blame someone... take a look in the mirror. It isn't Obama or Romney. Wake up!

Sep 5, 2012 6:07PM
Independent Voter. Pay your loans back. Let's fix the system. Just a suggestion, if you declare a major in teaching and you know the median teacher income is $39,000 cap the borrowing there, Engineering major median income $62,000 cap the borrowing there, basket weaver income $15,500 cap the loan borrowing there, going on to be a doctor or lawyer and have to get a biology degree or liberal arts undergrad degre, cap the undergrad loan for those majors at the median $26,500. You get the picture, loan the amount of a perspective graduates entry salary for a perspective major. Go on to Grad school and look at extended the amounts loaned to individuals. I paid my loans back years ago, so I am free of that debt and it was well worth it. It is not democratic or republican, it is American.
Sep 5, 2012 4:03PM
1. Moan about not being able to afford college
2. Pass irresponsible student loan legislation 
3. Use student loans to go to any freaking college you want
4. Graduate, or don't graduate.. whatever
5. Try to get a job in a saturated/weak/non-existent job market
6. Moan about not being able to file for bankruptcy 
7. Pass irresponsible bankruptcy bailout legislation
8. Rinse and repeat
Sep 5, 2012 9:30PM
I agree that the loans need to be repaid but my issue with the whole thing is the inability to lower the interest rate as the overall numbers go down. I first got my loan in the mid 80's when the rate was 8.5%. Later I consolidated my loans so that I could lower the rate and only make payments to 1 location. Now my rate is 7.2% but as I watch it fall to under 3% I'm told by the feds that I can't reconsolidate. At the moment I pay monthly what amounts to 16% of my monthly income after taxes yet I wind up owing more at the end of the year than I started the year with. I live without many things that I would like to have so I can make this payment yet I still don't see a way that I will ever be able to repay this loan. Just let me lower the interest rate! That's all I ask!!
Sep 5, 2012 5:12PM

NO student loans shouldn't be discharged.  There should be limits on how much a person is allowed to borrow.  The limit should  be a limit on how much can be borrowed.  Majoring in art history....limit is $1000.  Mechanical Engineering.......$40,000 or less, because in my opinion a lot of things that students believe are necessities really aren't. 

Sep 6, 2012 11:30AM
funny how most people are up in arms about this but most people weren't when we bailed out the banks or the big 3 ... big government has become a tool to line the pockets of big business ... schools and the individuals are to blame, but so are parents and high school guidance counselors ... "if you don't go to college you will be a failure" ... really?  but owing over 100,000-500,000 in student debt with no prospect of repayment doesn't make you a failure?  

we have sold our children down the river, and we can thank the federal reserve, the universities, parents, etc for pipe dreams
a study by an economist reported that one out of two college graduates cannot find work in his or her field ... what a sham most of higher education has become
Sep 6, 2012 11:38AM

This is a true story...A parent with just 30,000 saved in 1980 could of got a cd rate of 10-13%! College cost (room and board) 4,000 per year! Do The Math      Today college cost 25,000(room and board) per year....1%cd? 2%cd?    $1,000,000,000 saved?   I really doubt it!    Do the math!   I realize college isn't for everyone,but it's not affordable for most parents!  I would like to think that most parents would like to see their children suceed in life,college is all about opportunity,more doors open!Sky scrapers,bridges,cars,computers...weren't built with just strong backs,strong minds were first! If college cost had been kept under control this would never of been a topic of discussion. The American dream is a carrot just beyond most...(99%)!

Sep 5, 2012 6:51PM
As a financial aid administrator I am always leary when someone who is currently on SSI wants to go to school and borrow loans in the federal loan program. The reason I'm leary is that, as a school, we have to comply with regulations the general public are not privy to such as gainful employment. Gainful employment applies to all programs that are not degree granting. The rule is that basically the school must be preparing the student for gainful employment and not saddeling the student with a loan debt that is unreasonable to the income they will be making with the course offered at your school. So, if a person who is on SSI and enrolls in a gainful employment course, the assumption is that this person is going to complete the course and become gainfully employed, and pay back the student loans and become a tax payer. This is what makes me leary. If they are already on SSI, is it reasonable to assume they will complete and go to work? Yes, there are many trying to better their life, and many who become disabled AFTER borrowing student loans, but there is also those who enroll to get cost of living expenses with no intention of ever going to work or any intention of repaying the loans, knowing that because of the fixed income, chances are slim to none that the government or tax payers will get their money back. The regulation that keeps a person from filing bankruptcy on student loans is an absolute must, otherwise everyone would do it.
Sep 6, 2012 12:39PM
Or the government could work at getting tuition rates lower so they don't have to lend so much to students in the first place.
Sep 6, 2012 11:36AM
I find it funny that people have to pay back loans taken out but people can get food stamps, reduced housing, and welfare and never have to pay any of that back when they make enough money??  I think people should pay back loans if not where is the consequence.  The problem is that people do not understand the ramifications of taking out large sums of money for a college education.  The instate public education sticker price isnt that high.  I went to FAU and I graduated debt free and had a job the whole time I attended.  Its funny to see people going to out of state schools or private schools when a public university probably isnt to far from where they graduated high school.  
Sep 6, 2012 10:43AM

In my opinion education loans are going to be the next bubble.  We have been sold on the scheme that everyone must have a college education to be successful.  While it is true that college educated people have made more money in the past there is no certainty that will be the case in the future.  With the glut of college grads hitting the market a degree is simply not worth what it used to be.  However they cost much more than they used to and have far outstripped inflation.  Since we can't grow the economy by inflating the housing market we are growing it by inflating the value of a degree.  You have to submit to a financial colonoscopy to get a housing loan now but all you need to get a student loan is a pulse and a school that will take you.  Does that sound scary?  It should.  At least with housing, there were some hard assets that held some value.  Little Billy probably forgot what he learned Friday morning by the second beer Friday night. 


The housing bubble was created to mask the exodus of jobs overseas and the subsequent loss of wealth producing activities here in the US.  The monetary system requires that money must be constantly loaned into existence in ever greater quantities or we go into deflation and crash.  We all saw what happened to housing  and you will soon see the same thing for those with inflated college degrees.  The only difference is that you could walk away from a bad mortgage but  these student loans stick to you forever. 


Right now the jobs our college grads used to get are in India and China.  Until we fix that they arent' going to be paying off those 6 figure loans any time soon.  It's also a double whammy that the bad economy is sending even more kids and adults to college than before because they don't have jobs.  Let's see, I don't have a  job so I think I will take on $100,000 debt and get that Psych degree I always wanted.  Our conventional wisdom since WWII has been that more education is always better.   I predict alot of kids are going to ride that mantra straight to the poorhouse.   

Sep 6, 2012 5:50AM
Look no one forced these people to take out college loans. They could have chosen to serve in the military and earn money for college they way I did in the 70's. It's called the G.I. Bill. Or they could have worked and saved money first before going to college in order to pay for their education. Just because you make a poor choice does not mean the rest of society owes you a free bailout. For a number of years I had to work two jobs to pay off debt I caused myself because I made some rather poor choices. Yes, it was tough and life was no fun but it was no one else's problem but my own.   However, that being said if someone is so disabled that they can not work or earn enough to just make ends meet then I would agree they should be granted some form of debt reduction without having to file for bankruptcy.
Please help us to maintain a healthy and vibrant community by reporting any illegal or inappropriate behavior. If you believe a message violates theCode of Conductplease use this form to notify the moderators. They will investigate your report and take appropriate action. If necessary, they report all illegal activity to the proper authorities.
100 character limit
Are you sure you want to delete this comment?


Copyright © 2014 Microsoft. All rights reserved.

Fundamental company data and historical chart data provided by Morningstar Inc. Real-time index quotes and delayed quotes supplied by Morningstar Inc. Quotes delayed by up to 15 minutes, except where indicated otherwise. Fund summary, fund performance and dividend data provided by Morningstar Inc. Analyst recommendations provided by Zacks Investment Research. StockScouter data provided by Verus Analytics. IPO data provided by Hoover's Inc. Index membership data provided by Morningstar Inc.


Smart Spending brings you the best money-saving tips from MSN Money and the rest of the Web. Join the conversation on Facebook and follow us on Twitter.