Defrauded Student Loan Borrowers to Receive Relief With New Regulations

This week, the Department of Education published the final version of the borrower defense to repayment regulations. These regulations are intended to both help borrowers who have been defrauded by their schools receive relief on their federal student loan debt and try to ensure that the federal taxpayer isn't on the hook for it.

We published a summary of the draft rules when they came out this past summer. Since the new rules did not change very much, we'll use this post to add some clarity and explain how borrowers can apply for this discharge if they feel they are eligible.

Existing Federal Student Loans

Borrowers with Federal Family Education Loan Program loans have probably the most difficult burden to meet to qualify for the borrower defense to repayment discharge. As stated in our June post, these borrowers must not only show that the school violated state law, but they must also show that the school had an improper relationship with the lender who made the FFELP loan. The good news -- as we discussed this summer -- is that FFELP borrowers may also find some relief in the new rules.

As previously discussed, existing direct loan borrowers will have to meet a higher standard than future borrowers because they also have to show that the school violated state consumer protection laws. While this standard is more rigid than the new standard will be, it is certainly not impossible to meet.

Last week, the Department of Education issued a report showing that, to date, it had approved full or partial discharge for 15,000 claims that had been filed by former Corinthian Colleges students for a total of more than $270 million.

These borrowers were generally approved for the discharge if they attended during a time when the school advertised false job placement rates of its graduates. Some have also been approved due to the school claiming that credits were transferable to other institutions when in fact they were not. Several hundred borrowers had their claims denied becauseas they were not attending the school during the time these violations of state or federal law took place.

Remember that there is also a statute of limitations for payments already made on the loan, which is the same as whatever the statute of limitations is for the state law the school has been found to violate.

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Loans Made on or After July 1, 2017

Future borrowers will have more protections and opportunities for relief in fraudulent school situations than ever before. Instead of being bound by the narrow definition of violation of state law, these borrowers may also qualify for relief of their student loans if the school is in breach of contract, has been found at fault in a contested judgment or engaged in substantial misrepresentation.

Substantial misrepresentation can be in writing, such as in the school's advertising, or made verbally by school staff or vendors. That doesn't mean that every inaccuracy uttered will lead to federal loan discharge, however.

That's where the "substantial" part comes in. What was written or said -- or not said, since omission can also be considered misrepresentation -- must be egregious enough that a reasonable person would have relied on it and did so to his or her disadvantage.

Some examples of situations that might result in a borrower defense discharge include if the school advertised that its faculty were all certified in their field of teaching when, in fact, most were not. Or the school claimed an average starting salary for graduates of $100,000 when in fact the average starting salary was $25,000 at best.

A situation that would likely not qualify for discharge would be if the school advertised an average starting salary of $100,000 and those numbers were proven to be accurate but the discharge applicant did not have a salary that high.

It's important to remember that discharge can mean the full loan amount or only a partial amount. An example used in the final rule describes a student who was quoted one cost for the school but was charged another, increased price. In that situation, the borrower may be eligible for discharge up to the difference between the quoted and charged cost.

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How and When to Apply

Borrowers with direct loans, FFELP or Perkins loans made prior to July 1, 2017, who think they meet the eligibility criteria for borrower defense under this new standard may apply and, if approved, consolidate into the direct loan program to take advantage of this new standard. Note that you will not be able to do this until the new rules take effect on July 1, 2017.

To ensure that you don't lose any current benefits you have, such as progress toward an income-driven repayment or public service forgiveness program, it's important to apply for the discharge before consolidating your loans. You cannot reverse consolidation, and consolidating wipes away any progress you've made in other repayment programs.

The Department of Education has appointed a "special master" to manage a unit dedicated to the review of these claims. The special master will let borrowers know whether they are eligible for this discharge, at which point they can consolidate, if necessary, to gain access to the broader eligibility definition.

Loans made on or after July 1, 2017, don't have to jump through this particular hoop. Borrowers with existing loans that are using the current, stricter eligibility rules can apply any time.

And be sure to read the i nstructions for applying for this discharge under any of the scenarios described.

Betsy Mayotte, director of consumer outreach and compliance for American Student Assistance, regularly advises consumers on planning and paying for college. Mayotte, who received a B.S. in business communications from Bentley College, responds to public inquiries via the advice resource "Just Ask" and is frequently quoted in traditional and social media on the topics of student loans and financial aid.