Thursday, February 22, 2018

Bankruptcy and Student Debt

Bankruptcy and Student Debt

The Trump Administration has asked for comments on a proposal to make it easier for students to seek discharge of student loans in bankruptcy.   This review by the Department of Education is not likely to result in changes that benefit student borrowers. 

Bankruptcy law requires that student loan borrowers demonstrate they would suffer undue hardship from having to repay loans.  Congress has not defined undue hardship.   Each court is free to define and apply its own definition of undue hardship.

Congress is not likely to change the bankruptcy code to allow for a large number student loan discharges.   Such a policy might in fact substantially increase student loan costs.

However, recent research strongly indicates that changes in the bankruptcy code enacted in 2005 coincided with a worsening of the student debt problem.   First, most people who recently completed college with large student loans (over $50k) are failing to reduce their outstanding loan balances.  Second, the number of older Americans with student debt rose four-fold and the average student debt for older Americans nearly doubled between 2005 and 2015.


The analysis presented below indicates the modification of Chapter 13 bankruptcy payment rules to provide for priority of student debt over consumer loans in a Chapter 13 bankruptcy plan would be fairer to both debtors and taxpayers than the current system. Moreover, even with this revision to Chapter 13 Bankruptcy creditors would be better off than under the bankruptcy law that existed prior to 2005 when it was easy to file under Chapter 7 and obtain immediate discharge of consumer loans.    

Background:  Under existing bankruptcy law, debtors must pass a means test to enter Chapter 7 bankruptcy and have consumer loans immediately discharged.   Student debt is seldom discharged in either Chapter 7 or Chapter 13. 

In Chapter 13, debtors are required to make a payment plan typically for five years under which they agree to repay all disposable income to their creditors.   Disposable income is basically monthly income minus monthly expenses.  Typically, all creditors are treated equally under the payment plan.   A person with $30,000 in credit card debt and $30,000 in student loans would pay half of his disposable income to the credit card company and half of his income to the government for repayment of his student loan.  

In this instance, it is likely that the bankruptcy filing results in a large immediate increase of payments to credit card companies and a large immediate decrease in payments to the Department of Education.

In many cases, the debtor will be unable to maintain promised payments under the payment plan.   When the court ends a Chapter 13 bankruptcy plan due to missed payments creditors can resume collection efforts.

If the debtor successfully completes his chapter 13 bankruptcy plan, the remaining balance on consumer loans is discharged.   The student debt is not discharged.   The Department of Education resumes efforts to collect the student loan.

Comments on existing bankruptcy rules and student debt:

Borrowers with student debt seldom get a completely fresh start under a Chapter 13 bankruptcy.   Some borrowers with student debt will leave bankruptcy with more student debt than when they entered the bankruptcy plan.

The delay in payments of student loans increases the likelihood of future defaults and losses to the government. Student debt is discharged upon death of the borrower.  The delay in repayment of student loans under chapter 13 results in losses to taxpayers.

Some older student debtors will have their Social Security checks garnished.    This group will experience substantial financial hardships.

Consumer credit companies are the big winners under current chapter 13 bankruptcy rules.  Debtors and taxpayers are the big losers.

An Alternative Bankruptcy Rule:  The Chapter 13 Bankruptcy code should be altered to give clear priority to student debt over other consumer debt.  One way to establish priority would be to require the bankruptcy trustee to send minimum payments to the Department of Education and private student lenders prior to making any payments to other consumer loan creditors.  

The minimum required student loan payment should be set at a level that will guarantee the removal of 70 percent of debt by the scheduled end of the payment plan.

The minimum required student loan payment would be considered a necessary monthly expense and will be subtracted from disposable income for purposes of creating a budget for the repayment of other debts under the chapter 13 bankruptcy plan.

Payments to other debtors can be increased by increase the length of the payment plan from 5 years to 6 years. It might be possible to allow for partial discharge of other consumer loans in exchange for a shorter payment plan.

Concluding Thoughts:   Prior to the 2005 bankruptcy reform act, debtors who received immediate discharge of consumer loans under a Chapter 7 bankruptcy could immediately focus on the repayment of their student loans.   After 2005 more debtors were forced into Chapter 13 bankruptcy.   The Chapter 13 bankruptcy plans reduced student loan payments, which hurts the debtor and the taxpayer.

The change in the 2005 bankruptcy law coincided with decreased repayment rates on large student loans and an increase in the number of older Americans with student debt.  Changes in the bankruptcy code that prioritize student debt repayments over repayment of other consumer loans is the most equitable way to mitigate student debt repayment problems.





Tuesday, February 20, 2018

Some Alarming Student Debt Statistics

Some Alarming Student Debt Statistics


Growth in Outstanding Debt of Student Loans Versus Auto Loans:   Outstanding federal student debt grew an average annual rate of 9.7% between fourth quarter of 2007 and fourth quarter of 2017.   The comparable average annual growth rate for auto loans was 3.4%.


Student Loans and Auto Loans Outstanding
Student Loans
($ billion)
Auto Loans
($ Billion)
2007 Q4
589.4
801.2
2017 Q4
1490.8
1114.0
% Change Annual
9.7%
3.4%


Growth in Number of Students with Federal Student Loans and Average Cumulative Loans:  The percent of students at four-year universities taking out a federal loan went from 51 percent in 1989/1990 to 68 percent in 2011/2012.  Average cumulative federal loans adjusted for inflation has increased from $15,200 in 1989/1990 to $26,300 in 2011/2012. (Source: https://nces.ed.gov/pubs2017/2017436.pdf)

Growth in Borrowers with More than $50,000 in Student Debt:  The percent of borrowers leaving school with more than $50,000 in student debt rose from 2 percent in 1992 to 17 percent in 2014.   Past research has shown that borrowers with large student loans tend to have default rates.   Newer research indicates that most students who left school in 2010 with more than $50,000 in student debt have so far failed to repay any of their student debt.  https://www.brookings.edu/wp-content/uploads/2018/02/es_20180216_looneylargebalances.pdf

Growth in PLUS Loan Program:  PLUS loans are loans for graduate students and professional students or parents of undergraduate students that are generally used after the student has taken out all possible federal direct loans.   Total PLUS loan for parent borrowing went from $10 billion in 2005/2006 to $12 billion in 12 billion in 2015/2016 in constant dollars. Total PLUS loans for Grad students rose by 17 percent between 2010/2011 and 2015/2016. (Source: https://trends.collegeboard.org/sites/default/files/2016-trends-student-aid.pdf)

Growth in Student Debt Owed by Older Americans:   The number of Americans over age 60 with a student debt rose from 700,000 in 2005 to 2,800,0000 in 2015. The average amount of student debt held by borrowers over age 60 rose from $12,100 to $23,500 in the same period.   Most older-borrowers’ student loans were taken out for the education of the borrower’s child.  Over half or consumers cosigning a student loan are 55 and over.    The default rate on student loans for borrowers 65 and over is 37 percent compared to 17 percent of the entire population.  https://www.documentcloud.org/documents/3319386-201701-Cfpb-OA-Student-Loan-Snapshot.html
These statistics provide the background for several Trump proposals to modify student loan programs.   Some details of the Trump Administration’s Proposals can be found here.
President Trump’s Approach to Student Debt: