Report Suggests a New Look at Student Loan Bankruptcy Relie

Finding smart solutions to the America's student debt problem occurs on two levels: exploring individual solutions to stop creditor harassment and get a handle on repayment options, and forging societal changes to bankruptcy provisions and other laws to restore American's cumulative debt load to a sustainable level. A recent report released jointly by the Consumer Financial Protection Bureau (CFPB) and the U.S. Department of Education suggests that Congress should revisit U.S. law to better allow Americans to restructure student loan debt via the bankruptcy process.

The CFPB estimates that outstanding student loan debt eclipsed the $1 trillion mark in 2011, with over 85 percent of that amount underwritten by federal student aid programs. The boom and bust of the recent worldwide financial crisis is the primary mechanism behind the report's three major findings:

  • Many borrowers are trapped by student loan debt, with more than 850,000 American borrowers currently in default, but the reductions in student loan debt relief in the 2005 bankruptcy code amendments did not lead to better loan terms or broader access to credit for borrowers
  • Lax underwriting practices by private lenders who market directly to student borrowers distracted many from the better protections offered with federal student loans
  • Private loans lack repayment flexibility, as well as options for repayment, modifications and forbearance, and they often are subject to variable rates that make estimates of future payment amounts difficult to anticipate

The director of the CFPB has made five recommendations to Congress to make the private student loan market work better for students, educational institutions and lenders. Chief among them is the request that lawmakers determine whether bankruptcy proceedings should be changed with respect to the treatment of private student loans.

The report notes that consumers, as well as businesses, have plenty of bankruptcy options to restructure other types of debt. Yet private student loan borrowers face a unique barrier to becoming productive contributors to the economy when they are cornered by educational debt.

Therefore, the report urges Congress to review the stated policy goals that led to restricting bankruptcy discharges of student loans in the first place. If, as it found, those goals have not been met, it should modify the bankruptcy code and provide meaningful reforms to help young borrowers with limited career prospects.

While Chapter 7 and Chapter 13 bankruptcy laws currently make discharges of student debts extremely difficult if not impossible, an individual might still be able to obtain significant relief through bankruptcy by freeing up resources that can be dedicated to student loan payments. A bankruptcy lawyer can review a client's financial circumstances and recommend strategies for immediate relief.