Disclaimer: This post is intended to educate students about their options, not to encourage fraud or irresponsible fiscal behavior. Bankruptcy, no matter what kind, will severely limit credit for an entire decade if not longer, and makes future bankruptcy next to impossible, even in light of catastrophic circumstances, like outstanding medical debt.
Student loans, like child support payments and criminal fines, can be garnished from wages. Garnishing means you never see the money. Like taxes, the payment is sent to the debtor before you receive your check. That means if you’re a server, when you receive your paystub it will show a negative amount. Not a pretty scenario.
This circumstance came about when the government (taxpayers) became the sole backers of student loans. They put banks out of originating federal student loans, presumably to keep banks out of the lucrative fee business on a young, fiscally unknowledgeable group. At 18, it’s much easier to sign on the dotted line without reading the fine print. Why? Because no one has ever held scary amounts of debt over your head, making threatening phone calls and initiating wage garnishments, and Democratic representatives in the Senate fought to keep it that way. As a result, policy for loan forgiveness on the Federal side is directly tied to taxpayer dollars and private loan options are shrinking.
Fast forward 10 years and some uncomfortable truths require reckoning: students with no assets to speak of are bad creditors by definition, and the sheer size of loans (up to 4x the annual salary of the average graduate, after securing a full-time job with benefits). Declaring bankruptcy for student debt is very difficult, accruing interest and destroying credit in one fell swoop.
Of course, there are a lot of resources for students and graduates who are delinquent on Federal student loans, including reduced payment plans as part of “default diversion” programs and options to postpone payments in times of temporary hardship. If the hardship isn’t temporary, students need to know their options, and bankruptcy, though a last resort, is one of them.
A common test of undue hardship is the Brunner test which requires a showing that 1) the debtor cannot maintain, based on current income and expenses, a “minimal” standard of living for the debtor and the debtor’s dependents if forced to repay the student loans; 2) 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; and 3) the debtor has made good faith efforts to repay the loans. (Brunner v. New York State Higher Educ. Servs. Corp., 831 F. 2d 395 (2d Cir. 1987).
It’s very difficult to prove undue hardship, but if it does occur, know that bankruptcy isn’t impossible, and in some cases, even prudent. Keep an eye out for reforms, which may make it easier to discharge student loan debt in the future.
I’m reading America: A Narrative History, Brief Volume 1