About 20 million Americans currently attend a college or university, and almost two-thirds of them borrow money to pay tuition and other expenses. The total amount of student loan debt in the United States is now estimated to exceed $1 trillion. The average debt for all borrowers is somewhere around $30,000, and that number continues to grow as tuition and other costs keep going up. Student loan programs offer some forms of relief to borrowers that are not usually available for other types of loans, such as payment deferrals and various repayment plans. Unlike many other types of loans, however, student loans are not subject to discharge in bankruptcy, except in extraordinary circumstances. Consumers should consider their options very carefully when considering borrowing money for education.
Federal Student Loans
Student loans in the U.S. fit into two broad categories: federal loans and private loans. Federal loans are generally made directly by the U.S. Department of Education (DOE). Until 2010, the DOE also guaranteed loans by private investors.
Subsidized loans, in which the DOE pays some or all of the interest, are available based on financial need. Borrowers pay both principal and interest in unsubsidized loans.
Federal student loan programs include Federal Perkins Loans, Stafford Loans, the Federal Direct Student Loan Program (FDLP), and consolidation of existing federal loans under a new FDLP loan. These loan programs limit the amount students may borrow at any one time and in the aggregate. Repayment is typically deferred as long as the borrower remains enrolled in school at least half-time.
Private Student Loans
Private student loans are available from banks, finance companies, nonprofit organizations, and other entities. Lenders like Sallie Mae used to provide guaranteed federal student loans through the DOE and now offer private loans. These loans are not eligible for federal subsidies, and they are usually more expensive than federal student loans. Federal income-based repayment plans are not available for private loans. Borrowers often turn to private lenders when they hit their federal borrowing limits.
A student’s parents may borrow money on the student’s behalf for his or her education, or they may co-sign on the student’s loan documents. “Parent loans” are available from both federal and private sources. Federal PLUS loans, which formerly stood for “Parent Loan for Undergraduate Students,” offer parents a higher borrowing limit than loans made directly to students. No payments are due until the student leaves school, but interest begins to accrue right away.
Repayment of Student Loans
Private loans are subject to whatever repayment terms are contained in the loan documents. Once the student ceases to be enrolled in school, loan payments become due either immediately or after a grace period. The borrower is subject to the same consumer protections related to debt collection as any other borrower.
Multiple repayment plans are available for federal student loans, including:
Standard repayment: fixed monthly payments for up to 10 years;
Graduated repayment: monthly payments that increase over time, for a total period of up to 10 years;
Extended repayment: fixed or graduated payments for up to 25 years; and
Income-based repayment: maximum monthly payments equal to 15 percent of discretionary income.
Not all types of federal loans are eligible for each repayment plan, and borrowers must demonstrate a financial need for income-based plans.
Student Loans and Bankruptcy
Personal bankruptcy under Chapter 7 or Chapter 13 of the Bankruptcy Code offers a way for consumers to pay off some or all of their debts when they do not have enough income to continue making their required debt payments. Both types of bankruptcy may result in a discharge of certain debts at the end of the case, meaning that the debtor is no longer obligated to pay.
Section 523(a)(8) of the federal Bankruptcy Code specifically excludes student loans from discharge. The only way a bankruptcy court may discharge student loan debt is if debtors can prove “undue hardship” to themselves and their dependents. Courts have adopted a three-part test, known as the “Brunner test” after Brunner v. N.Y. State Higher Educ. Servs. Corp., 831 F.2d 395 (2d Cir. 1987), to establish undue hardship. This involves asking whether the debtor and the debtor’s dependents can maintain a “minimal standard of living” if the debtor is required to repay the student loan, whether the debtor’s circumstances are likely to persist for a substantial part of the loan’s repayment period, and whether the debtor has made a “good-faith effort” to repay the loan.
If the court finds that the answers are “no,” “yes,” and “yes,” it may discharge the student loan debt.