Student Loans And Bankruptcy

If you’re considering bankruptcy, it’s important to understand that most student loan debt doesn’t go away in bankruptcy.
In fact, less than 1% of people who file for bankruptcy manage to get their student loans discharged. The criteria for including a student loan in a bankruptcy filing is strict and requires a demonstration of “undue hardship.” To qualify for undue hardship, essentially, you must demonstrate that you don’t have the ability to repay the student loan debt (now or in the future) and still maintain a minimum standard of living.

If you’ve encountered financial difficulties due to circumstances beyond your control (such as medical issues or disability), you may have a chance of including your student loan debt in your bankruptcy.  An example of this might be a person who becomes sick or injured to the point at which he or she is no longer able to perform any wage-earning job, now or in the future. Federal student loans are also discharged upon the death of the borrower.
Because both federal and private student loans aren’t usually discharged in a bankruptcy, if you owe money on a student loan (especially a federal student loan) and aren’t making payments, there can be serious consequences:
  • You won’t be eligible for any more federal student aid.
  • You could have your wages garnished (up to 15% of each paycheck).
  • Your credit score will drop significantly.
  • You will be charged late fees and collection fees.
  • Your federal and state income tax refunds will be withheld and could be garnished.
  • Renewal of any professional licenses could be blocked by the government.
Please note: As an alternative to including your student loan debt in a personal bankruptcy, you might consider taking steps to avoid student loan default, such as changing your payment plan or participating in a student loan forgiveness program.

If you are already in default, call your lender and ask about rehabilitating your loan to regain good standing and repair your credit. Usually, if you are working with your lender or collection agency and you make nine out of ten on-time payments, your loan can be considered rehabilitated and the default can be removed from your credit history. 
See these related articles on student loans:
Student Loans – What To Do If You’re Behind In Your Payments
Student Loan Forgiveness
Student Loans And Hardship

©2012, Money 101. Money 101 is a program sponsored by CollegeInvest, a division of the Colorado Department of Higher Education.

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