The discharge of federal student loans through bankruptcy is likely reaching its highest point since 1978. This is due to the introduction of federal guidance that outlines the necessary facts for obtaining a discharge federal student loans in bankruptcy.

A Brief History of Student Loans in Bankruptcy

Prior to the Bankruptcy Reform Act of 1978 (Act), borrowers could discharge their federal student loans through bankruptcy. The Act, in addition to fundamentally revamping the practice of bankruptcy in the United States, excepted federal student loans from discharge under 11 U.S.C. § 523(a)(8).

1978 – Section 523(a)(8) was introduced, under which a federal student loan could not be discharged unless the loan had been in repayment for at least five years, or a debtor could demonstrate that excepting the loan from discharge would impose and “undue hardship.”

1987 – Left undefined by Congress, federal courts stepped in to define “undue hardship.” In 1987, the Second Circuit defined “undue hardship” through the three-pronged Brunner test.¹

1990 – Section 523(a)(8) was amended to extend the five-year carveout period to seven years.

1993 – Shortly thereafter, the Seventh Circuit adopted the Brunner test in In re Roberson.² As in Brunner, the Roberson Court set out the elements a borrower needed to satisfy to discharge their student loans in bankruptcy under then section 523(a)(8)(B):

“Undue hardship” require[es] a three-part showing[:]

(1) that the debtor cannot maintain … a “minimal” standard of living … if forced to repay the 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) that the debtor has made good faith efforts to repay the loans.³

The Roberson Court further (incorrectly) admonished that “the dischargeability of student loans should be based upon the certainty of hopelessness, not simply a present inability to fulfill financial commitment,” and those words have since been recited as canon when addressing the dischargeability of student loans.⁴

1998 – Congress eliminated the seven-year carveout to discharge from section 523(a)(8), leaving the “undue hardship” standard as the sole threshold every borrower needed to overcome to discharge their student loans under section 523(a)(8).

2005 – The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCA)

later extended the application of the “undue hardship” standard to nearly all other types of student debt.⁵

Procedure for Discharging Student Loans

Procedurally, section 523(a)(8) is an exception to discharge that is self-executing. To seek a discharge of a debt excepted under section 528(a)(8), a debtor must commence an adversary proceeding to obtain a determination on dischargeability. An adversary proceeding is a lawsuit within a bankruptcy case.

For federal student loans, a debtor files an adversary complaint against the U.S. Department of Education (DOE). The adversary complaint outlines a debtor’s circumstances and how those circumstances satisfy the Brunner test (or the totality of circumstances test used in other circuits). The adversary proceeding process parallels typical litigation in both procedure, cost, and uncertainty.

The Federal Guidance

In 2022, the DOE and U.S. Department of Justice (DOJ) issued an 18-page memorandum (the Guidance) outlining objective criteria for assessing a debtor’s circumstances in accordance with the tests interpreting the “undue hardship” standard in adversary proceedings brought against the DOE and defended by the DOJ.

The Guidance’s purpose is to streamline the fact-finding process for both debtors and the DOJ attorneys. The Guidance does not replace or alter the “undue hardship” standard, nor does it relieve a debtor from having to prove the elements of under the applicable test for the standard. The Guidance provides an outline (called the “attestation”) for debtors and DOJ Attorneys to quickly gather key information essential to satisfying the “undue hardship” standard.

This outline circumvents the broader discovery process altogether, which can significantly reduce the costs for both debtors and the government. Moreover, the Guidance encourages DOJ attorneys to stipulate to the discharge of federal student loans where a debtor’s circumstances satisfy each element of the Brunner test, further reducing the costs litigating dischargeability.

Federal Guidance in Practice: Clarifying the Brunner Test

While the Brunner test continues to apply, the Guidance clarifies each of the test’s elements.

The Guidance considers four factors: a debtor’s present circumstances, a debtor’s future circumstances, a debtor’s good faith efforts to repay the loans at issue, and a debtor’s assets.

First element: For the first element of the Brunner test, using the Internal Revenue Service’s Collection Financial Standards (IRS Standards) as a baseline for a debtor’s expenses, if a debtor’s expenses under the IRS Standards exceed their income, then the debtor is unable to maintain a “minimal” standard of living – which therefore satisfies the first element of the Brunner test.

Second element: For the second element of the Brunner test, the Guidance provides a set of “presumptions,” some of which reflect grounds that have consistently supported administrative or bankruptcy discharges in past cases. In addition to these presumptions, a debtor may present additional facts which the debtor believes demonstrates their future inability to repay their student loans. If a debtor can satisfy one or more presumption(s), then they have satisfied the second element of the Brunner test.

Third element: For the third element, the Guidance looks at whether a debtor has made good faith efforts to repay their federal student loans. These efforts include making payments, seeking forbearance or deferment, enrolling in income-based repayment programs, consolidation efforts, and contacting loan servicers for assistance with repayment. Satisfying this factor satisfies the final element of the Brunner test.

Fourth element: The final factor included in the Guidance contemplates a debtor’s ability to liquidate assets. While the Guidance generally advises against forcing a debtor to liquidate exempt or necessary assets, a debtor may need to justify why a nonessential asset should not be liquidated for the purposes of partially repaying the obligation they are seeking to discharge.

A Path Forward

The introduction of the Guidance has vastly altered the viability of discharging federal student loans in bankruptcy.

From November 2022 through March 2024, a total of 1,220 cases were filed. Of the cases that were decided by the courts during this timeframe, 98% resulted in a partial or full discharge of borrowers’ federal student loan obligations. We have shared in this success and have garnered partial and full discharges for our clients.

Conclusion: An Ever-changing Area

Lawyers need to understand the ever-changing landscape of student loans and their dischargeability to better serve their clients. While it may have been common practice to advise clients that their student loans would not be discharged through bankruptcy, federal guidance has redefined what a debtor’s circumstances must look like in order to receive a discharge of federal student loans.

This article was originally published on the State Bar of Wisconsin’s Solo/Small Firm & General Practice Blog of the Solo/Small Firm & General Practice Section. Visit the State Bar sections or the Solo/Small Firm & General Practice Section web pages to learn more about the benefits of section membership.

Endnotes

¹ See Brunner v. New York State Higher Educ. Servs. Corp., 831 F.2d 395, 396 (2d Cir. 1987).

2 In re Roberson, 999 F.2d 1132, 1135 (7th Cir. 1993).

3 Roberson, at 1135.

4 Roberson, at 1136 (quoting In re Briscoe, 16 Bankr. 128, 131 (Bankr. S.D.N.Y. 1981)).

5 See 11 U.S.C. § 523(a)(8)(A)(ii); see also 11 U.S.C. § 523(a)(8)(B).