Discharge of student loan debt in bankruptcy has been difficult at best since Congress amended the Bankruptcy Code in 1998. That amendment eliminated the provision of the Code allowing for discharge of student loan debt if the loan had been in repayment for a specified period of time. Prior to the amendment, student loans could be discharged in bankruptcy if they had been in repayment for more than seven years before the filing of the bankruptcy case or if the failure to discharge the debt would impose an “undue hardship” upon the debtor or the debtor’s dependents. After the amendment, student loan debt could only be discharged under the “undue hardship” standard.
The Bankruptcy Code never defined “undue hardship”, and so it was up to courts to determine what that phrase meant. The Second Circuit Court of Appeals in 1987 in In re Brunner required that the debtor prove the following in order to discharge student loan debt under the “undue hardship” standard:
• that the debtor cannot maintain, based on current income and expenses, a “minimal” standard of living for herself and her dependents if forced to repay the loans;
• that 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
• that the debtor has made good faith efforts to repay the loans.
The Ninth Circuit Court of Appeals adopted the Brunner decision in 1998 in In re Pena. Ever since that time, the so-called “Brunner Test” became the standard by which student loans were or were not discharged by most bankruptcy courts nationwide.
A recent case from the Ninth Circuit Bankruptcy Appellate Panel, however, illustrates the difficulty of implementing the “Brunner Test”, and suggests that its days may be numbered. In re Roth, decided April 23, 2013, involved debtor’s attempt to discharge approximately $95,000 in student loan under the Federal Family Educational Loan Program. Debtor in that case was 64 years old, had significant medical problems, and had a lifetime maximum level of income of just over $40,000 per year.
Following a trial on debtor’s efforts to discharge the student loans, the bankruptcy court agreed that she met the first two prongs of the “Brunner Test”. At the time of trial, debtor’s income was only $774 per month in social security benefits. The court had no difficulty in finding that debtor’s income was insufficient to make any payments, and given her medical condition, her ability to pay would not change in the foreseeable future. Nonetheless, the court denied discharge of the student loan debt, holding that debtor did not make a good faith effort to repay the loans. The court concluded that Debtor’s lack of voluntary payments, and her lack of efforts to renegotiate, obtain a forbearance, or obtain a disability discharge, tipped the good faith balance away from her.
In a rare victory for debtors, the Bankruptcy Appellate Panel reversed the ruling, holding that the debtor did meet the good faith” prong of the “Brunner test”:
“Thus, to sum up the factual findings underlying the good faith analysis, Debtor made good faith efforts to obtain employment, maximize income, and minimize expenses. Further, she did not come to bankruptcy court seeking discharge until many years after the loans were in repayment status.”
The Panel even noted that debtor’s refusal to participate in a 25-year income-based repayment plan would not be held against her because disastrous tax consequences could result upon the forgiveness of any remaining balance at the conclusion of the 25 years.
While the Panel’s ruling was not terribly surprising given the facts of the case, what is noteworthy is Judge Pappas’ concurring opinion. His opinion argues that the “Brunner Test” is outdated given the reality of modern student loan lending. He cited Federal Reserve Bank data fixing the average student loan debt is $25,000, with over 12% of borrowers owing in excess of $50,000. He further observed that in the competitive student loan marketplace, loans are made “with nary a thought given to the borrower’s ability to repay the debts”. Given the changes in student loans over the last thirty years, Judge Pappas is calling for the replacement of the “Brunner Test” with a more extensive “totality of the circumstances” test which would give judges greater flexibility in discharging student loan debt when circumstances warranted.
“Unlike in Brunner and Pena, today, bankruptcy courts must frequently attempt to predict a debtor’s potential to repay a six-digit educational obligation over his or her entire lifetime. In many of those cases, the benefit the debtor received from the education or training financed with these ‘loans’ may be marginal, and the balances due to creditors exceed the debtor’s debt-service abilities. It would seem that in this new, different environment, in determining whether repayment of a student loan constitutes an undue hardship, a bankruptcy court should be afforded flexibility to consider all relevant facts about the debtor and the subject loans. But Brunner does not allow it. In addition to requiring that a debtor demonstrate a current inability to pay a student loan while maintaining a minimal standard of living, Brunner mandates that the debtor show ‘additional circumstances’ to prove that his or her impecunious status will persist into the future. . . . Requiring that a debtor demonstrate that his or her financial prospects are forever hopeless is an unrealistic standard.
Brunner’s additional requirement that a debtor show that he or she has made ‘good faith’ efforts to repay a student loan is also of little utility in determining true undue hardship. Of course, as a matter of statutory construction, this ‘prong’ of the test lacks any textual basis in the Bankruptcy Code. As a practical matter, requiring a debtor to clear this hurdle can condemn the student borrower to a lifetime of burdensome debt under one or more of the creditors’ long-term repayment programs, some of which may span thirty-to-forty years. This aspect of the Brunner test also fails to account for the potentially devastating debt-forgiveness tax consequences to the debtor resulting from the ‘successful’ completion of such a program, which is one reason that the repayment programs are not that popular with borrowers. At bottom, requiring debtors to participate in these creditor programs as a condition to obtaining a bankruptcy discharge simply means that creditors, not bankruptcy judges, will decide which loans can be repaid, and which should properly be forgiven. This is surely not what Congress intended in enacting §523(a)(8).
The Ninth Circuit should reconsider its adherence to Brunner. It should instead, like a few other courts, craft an undue hardship standard that allows bankruptcy courts to consider all the relevant facts and circumstances on a case-by-case basis to decide, simply, can the debtor currently, or in the near-future, afford to repay the student loan debt while maintaining an appropriate standard of living. This approach could allow the bankruptcy court, after weighing the facts of each case, to decide that a student-debtor, whose debt financed training that did not allow him or her to achieve any significant earnings, to discharge a large loan balance even in the absence of a debilitating illness or handicap. It could allow an elderly debtor to escape the burden of decades-old student loans when her prospects for repayment have disappeared, even though the debtor has not participated in a repayment plan with the creditor. And this hardship test would focus on the contemporary world of student loan debt, not circumstances that existed thirty or more years ago.
As America’s experience in the recent ‘mortgage crisis’ should have taught us, employing an undue hardship discharge test that requires those who cannot repay educational loans, most of which are government-backed, to attempt to do so creates problems for all. Under §523(a)(8), Congress did not draw bright lines, but instead presumably intended that bankruptcy courts have the flexibility to make fact-based decisions in individual cases about the need for student loan debt relief. Pena/Brunner restricts the bankruptcy courts’ ability to do so, and its application in the Ninth Circuit should be reconsidered.”
Judge Pappas is not alone in his criticism of the “Brunner Test”. The recent case of In re Krieger involved in 53-year-old woman who was unsuccessful in locating employment despite her best efforts for ten years. Holding that debtor in that case was entitled to a discharge of $25,000 of student loan debt, Judge Easterbrook argued that the “judicial glosses” of the “Brunner Test” should not supersede the clear terms of the statute itself.
Whether or not Judge Pappas’ call for change will be adopted by the Ninth Circuit is anyone’s guess. The Ninth Circuit is known for being more liberal than other circuits, but it also gets reversed at a higher rate than other circuits. Stay tuned!
This post is intended to be purely informational in nature, and cannot be considered legal advice. If you have questions related to the dischargeability of student loans, please call our office at (503) 545-1061 (Oregon cases) or (360) 836-4238 (Washington cases) to schedule a free initial consultation.