Private Student Loans Could Be Discharged in Bankruptcy under Proposed Law

Borrowers and co-signers of private student loans may soon be eligible for some relief. Sen. ator Dick Durban (D-IL) along with Senators Jack Reed (D-IL) Sheldon Whitehouse (D-RI), recently introduced the Fairness for Struggling Students Act of 2013 (S.114).

The bill would allow individuals to discharge private student loans through the normal bankruptcy process, rather than having to prove “undue hardship” to a judge. The bill is under review by the Senate Judiciary Committee.

Many students who do not qualify for federal student loans or who must borrow in excess of federal student loan limits turn to the private student loan industry. The terms for these loans are not as favorable as those for federal student loans: Borrowers may not be entitled to forebearances, deferments, or payment programs based on their current income. Even if a borrower dies, private student loan co-signers must often assume responsibility for the balance, while federal student loans are canceled when the original borrower dies.

Despite these significant differences in terms, both types of student loans are treated equally by the 2005 bankruptcy law. Courts can’t discharge student loans in standard bankruptcy proceedings. Instead, debtors must petition the court to have these loans included in their discharge by proving that repayment will cause significant financial hardship and that the borrower’s financial circumstances are unlikely to change anytime soon. If a debtor can’t prove ongoing, undue hardship, he or she remains responsible for the loan’s repayment.

If the Fairness for Struggling Students Act succeeds, private student loans will once again be automatically dischargeable through bankruptcy and borrowers will no longer have to file a separate petition. The bill’s sponsors hope that this will assist debtors in obtaining a true “fresh start” after bankruptcy, so that they can move forward with meeting their obligations and regaining their financial health.

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