Federal Agency Recommends Discharging Private Student Loans in Bankruptcy

On Behalf of | Jul 27, 2012 | Firm News |

This week, the Consumer Financial Protection Bureau, a government agency in charge of regulating consumer protection, issued a report to various committees in Congress that discussed the status of private student loans. Perhaps most importantly, the report suggested that Congress allow former students with private student loans to discharge their loans in bankruptcy.

“We recommend,” the report stated, “that Congress work with the CFPB and the Department of Education to determine how to afford greater flexibility and/or relief to private student loan borrowers who are experiencing financial distress, including potential changes to the treatment of private student loans in bankruptcy proceedings.”

Students have not been able to discharge student loans in bankruptcy since 2005, when the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) was signed into law. Prior to the BAPCPA, students were able to discharge their loans in bankruptcy after a five-year repayment period had passed. The CFPB recommends that Congress consider returning to the previous model.

Why Should Private Student Loans Be Discharged?

The multi-page report gave many reasons for allowing the discharge of student loans in bankruptcy, including outlining how private student loans differ from federal student loans.

Unlike federal student loans, private student loans do not have “a variety of flexible repayment plans, forbearance options and contractual rights to period of loan deferment, rehabilitation and forgiveness opportunities.” In other words, private student loans do not offer the same type of relief from financial hardship that federal student loans offer. Private student loan borrowers can thus face “extreme financial distress with no last resort for economic relief.”

The report also discussed how similar private student loans are to other credit-based loans that are currently dischargeable through Chapter 7 bankruptcy proceedings. In fact, in the last decade, private student loan lenders, like other lenders, have lessened their underwriting standards, allowed students with low credit scores to receive the loans, and changed the way schools work with borrowers (many private student loans are no longer handled by the schools at all).

Finally, the report referred to the large number of borrowers who face extensive and overwhelming student loan debt. Many clients who file for bankruptcy also have student loan debt that they simply cannot discharge and must carry until they can pay the debt back, if that is ever possible.

Hopefully, Congress will listen to the CFPB and other organizations (such as the Department of Education) and will move to make private student loans dischargeable in bankruptcy once again.

Source: Consumer Financial Protection Bureau, “Private Student Loans,” July 20, 2012.