An Emerging Trend in Favor of Student Loan Discharges in Bankruptcy

We recently reported on a Fifth Circuit decision that ruled some private, for-profit student loans are dischargeable in bankruptcy without a showing of undue hardship—something unusual and inconsistent with the widely-held belief that student loans are rarely discharged. It turns out that the Fifth Circuit's decision may have initiated a trend, for both private and federal loans.

In Rosenberger v. N.Y. State Higher Education Services Corp., a Bankruptcy Court in New York recently declared more than $200,000 in federal student loan debt dischargeable because the payment posed an "undue hardship" on the debtor. In determining that the debtor had met the notoriously difficult standard of establishing undue hardship under 11 U.S.C. § 523(a)(8), the court only examined the debtor's immediate circumstances. It did not scrutinize whether the hardship would have remained once the debtor was approved for a repayment plan (for which he may have been eligible), or whether his financial circumstances would change in the future, alleviating the debt's financial burden. Moreover, the court openly criticized the current test for evaluating hardship under the Second Circuit's decision in In re Brunner, suggesting that it may become easier for debtors burdened by student loan debt to obtain discharges in bankruptcy.

Shortly after issuing Rosenberger, the same S.D.N.Y Bankruptcy Court unveiled a new "Student Loan Mediation Before Litigation Program," effective January 27, 2020. The SLM Program is optional but permits creditors and debtors to explore "consensual repayment options" for their student loans through either repayment possibilities, such as a loan modification, or a request to resolve disputes over a loan's dischargeability. The program applies to both federal and private loans.

Repayment Option

To request a repayment option, a debtor must certify that he or she had applied for a repayment option (which has a broad definition) during the pendency of the bankruptcy, but either had not received a response within 45 days, or had received a response "inconsistent" with the results provided by a third-party platform that assists borrowers in choosing repayment options such as studentloanify.com.

Discharge Option

If a debtor instead prefers to seek a discharge, then he or she must certify that a repayment option is not being sought.

Mediation

Debtors may request mediation before filing an adversary proceeding regarding a dischargeability dispute. Creditors may request mediation after a debtor files an adversary complaint regarding dischargeability but no later than when an answer or motion to dismiss is filed. A party not wishing to participate in the SLM Program must show why mediation would not be successful. The specific procedural requirements are described in an SLM Procedures document hosted on the Court's website.

Whether this program will be adopted by other federal districts, and whether it increases or decreases litigated disputes over the dischargeability of student loans, will be something for lenders and servicers to monitor closely.