2.6 million student-loan borrowers could get rid of their debt by declaring bankruptcy — but major companies are blocking that

·4 min read
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  • Private student debt isn't defined in the bankruptcy code, making terms for cancellation confusing.

  • The Student Borrower Protection Center found 2.6M borrowers could be eligible for $50B in forgiveness.

  • But student-loan companies engaged in "predatory tactics" preventing that from happening, the report said.

Millions of private student-loan borrowers could be eligible to wipe out their debt — they just don't know it yet.

On Thursday, the Student Borrower Protection Center (SBPC) released a report that found 2.6 million borrowers with private student debt could be eligible for as much as $50 billion in loan cancellation through bankruptcy.

But, the report said, private firms have "systematically lied to borrowers for years" by continuing to collect debt from those who had already gone through the bankruptcy process. They also told those borrowers they were not eligible for that process when that was not the case.

"Firms engaged in this double-speak so that they might avoid liability under securities fraud statutes while still padding their profits," the report said. "Through their misrepresentations, student loan companies have collected potentially hundreds of millions of dollars of payment on debt that borrowers did not—or did not have to—owe."

Private student debt makes up $140 billion of the $1.7 trillion student debt load in the US. Since private student debt is not defined in the US bankruptcy code, it can be confusing for borrowers to determine whether they are qualified. SBPC argued that many are, but that some student-loan companies engaged in tactics that kept those borrowers paying their debt when they didn't have to. It's exacerbating a hot-button issue in Washington, where lawmakers are cracking down on for-profit colleges and working to prevent predatory behavior that pushes borrower to take on more debt than they can pay off.

Private student debt isn't defined in the bankruptcy code

Whether it's federal or private student debt, getting rid of it through bankruptcy can be an arduous process. The borrower has to prove the loans have caused them "undue hardship," meaning they cannot maintain a minimal standard of living, their circumstances will likely not improve, and they have made a good-faith effort in repaying their debt.

Proving those standards is difficult in court, though, and even more so with private student debt. Since private student debt is not defined anywhere in the US bankruptcy code, those borrowers seeking bankruptcy are often referred to as having "qualified education loans," which are loans made for direct education expenses like tuition and books, and the loan can only be used for those qualified expenses.

But typically, those types of loans have not been eligible for discharge if they did not also meet the undue hardship requirement. The Student Borrower Protection Center argued many of those loans have been wrongly classified and actually can be canceled via bankruptcy, saying many of them do not meet the narrow criteria.

Student-loan firms don't want borrowers to know that.

Private firms use 'predatory tactics' to prevent bankruptcy

Commercial lenders began disbursing "direct to consumer" (DTC) loans in the early 2000s, and because they often exceeded cost of attendance and were made to students at ineligible schools, they were not qualified education loans and therefore eligible to be discharged for bankruptcy.

But some major loan companies , like Sallie Mae and its successor Navient, wanted to prevent that. The company had borrowers receiving DTC loans certify the loan was a qualified education loan and therefore not eligible for bankruptcy discharge — one of the "predatory tactics" companies have taken against these borrowers.

Navient declined Insider's request to comment.

In addition, even if borrowers successfully go through the bankruptcy process, the bankruptcy code does not require disclosure of which specific loans were discharged, meaning private lenders can continue collecting on debt the borrowers think they still owe.

30% of the private student debt load is eligible for cancellation

Between 2005 and 2011, private lenders disbursed $98 billion in student loans. The SBPC calculated their estimates by determining how much of that debt was used by ineligible students, how much of it was used at ineligible schools, and how much of it was used for ineligible expenses, concluding that 30% of those loans were not qualified loans, and therefore eligible for discharge.

Given the confusion surrounding the bankruptcy process for both federal and private loans, some lawmakers have attempted to improve the process. Insider reported in August that Senate Majority Whip Dick Durbin and Sen. John Cornyn of Texas introduced the FRESH START Through Bankruptcy Act of 2021, which would allow borrowers to seek a bankruptcy discharge of their federal student loans after 10 years.

And in July, Reps. Steve Cohen, Danny Davis, and Eric Swalwell introduced the Private Student Loan Bankruptcy Fairness Act, which would treat private student loans the same as other forms of private debt, easing the process for their bankruptcy discharge.

"Private education debt is no different than other consumer debt," Davis said in a statement. "It involves private profit and deserves no privileged treatment."

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