Consumer Commission – Student Loan Proposals (Part II)
Photo: Nina Konstantinidou
Last week, we outlined the ABI Commission on Consumer Bankruptcy’s proposals to improve the fresh start in bankruptcy by expanding the discharge of more student loans. But the Commission recommended Congress make other changes to help people burdened with student loan debt.
In particular, the Commission recommended that student loans be given priority treatment. In bankruptcy, when the trustee is paying creditors, either in a chapter 7 or chapter 13 case, certain debts get paid ahead of others. These are called “priority claims.” Usually these are things society has a strong interest in having paid, like child support, consumer deposits, back wages for employees or recent taxes.
In this case, the Commission recommended the law add a priority category for debts owed on student loans that would not be discharged under the provisions we outlined last week. In other words, unlike current law, if you had a government-backed student loan for your education, taken out less than 7 years ago, that debt would be entitled to payment before credit card debt. (It would not come before child support or taxes or other existing priority categories.)
The goal here was to assure that consumers who need to seek help in bankruptcy may, in the right situations, “graduate” with a fresh start that is not burdened by student loans, or not as much in student loan debt. But also, as these loans are often owed directly or indirectly to the taxpayer, that the taxpayer not be “shorted” in favor of commercial lenders like credit cards or payday loans. Ultimately, these payments go back into the same Treasury that collects taxes and helps pay for future students to go to college.
Current law typically does not allow a debtor in chapter 13 cases to prioritize the non-dischargeable obligations like student loans ahead of other unsecured debt. So even if you pay enough into your chapter 13 plan to easily payoff your education debt, it will actually be shared with the credit cards and other bills. And because we are talking about non-dischargeable debt, you accrue interest on this debt as well.
By placing these recent student loans into the priority category, it will allow the consumer to potentially get this debt resolved as well. However, in chapter 13, you are typically required to pay all priority claims in full during your case. For some people, that would be impossible with their student loans counted in the calculations. In those cases, so long as the debtor proposed a full five-year payment plan and all their disposable income was devoted to repaying their debts for the five year period, then they would still be allowed to complete the chapter 13 program with a discharge – but still owing the unpaid student loan balances.
It should also be noted that as the priority student loans would not be dischargeable, the interest that would accrue on the debt would normally still be owed at the end of the case even if the balance owed at the beginning of the case was paid. Therefore, the Commission also recommended that a provision barring “interest” on unsecured debt repayment (absent specific circumstances) would not apply to priority claim repayment – including student loans. It would not be mandated but it might be an option.