Tag Archives: private student loans

Getting Rid of Private Student Loans in Bankruptcy: Will Congress Change the Law?

Processed by: Helicon Filter;A bill that would allow people to wipe out private student loans in bankruptcy might be gaining momentum in Congress.  Although the Private Student Loan Bankruptcy Fairness Act of 2013 (H.R. 532) has been kicking around since January 2013, recent activity indicates that some representatives in Congress are still interested in leveling the playing field between private student loan lenders and borrowers. But unless the bill becomes law, the private student loan industry will continue to have their cake, and eat it too.

The History of Private Student Loans in Bankruptcy

Before 2005, bankruptcy law treated private student loans just like other unsecured debt such as credit card debt and medical bills. This meant that if you filed for bankruptcy, in most cases you could discharge all of your private student loan debt. (There were a few exceptions, for example if you engaged in fraud.)

That all changed with the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. In one fell swoop, Congress lumped private student loans together with federal student loans. That means that if you file for bankruptcy today, you can only discharge private student loans if you prove that repaying the debt would cause you an undue hardship. This is a very difficult standard to meet. (Learn more about the undue hardship test for student loans.)

Why Private and Federal Student Loans Should Not Be Lumped Together

Federal student loans and private student loans are very different. If you apply for a federal student loan, the government does not take into account your credit history or ability to repay the loan (with one exception – you cannot get a federal PLUS loan if you have an adverse credit history). Nor do those factors affect your interest rate. Because interest rates are capped for federal loans, even if you are a very poor credit risk, the government cannot assess more than the capped rate. Interest rates for federal student loans are often much lower than the average interest rate attached to private student loans.

Private student loan lenders, in contrast, function like other unsecured creditors. Like credit card companies, private student loan lenders can choose to lend to you, or not. If you have bad credit, they’ll hedge their risk by charging you a very high interest rate.

Federal and private student loans are different when it comes to repayment as well. Borrowers of federal loans can avail themselves of a number of flexible repayment plans. These programs allow borrowers to stretch out payments, reduce monthly payments to an amount based on income, wipe out portions of debt by working in certain fields, and more. In some cases, borrowers can pay little to nothing for many years, and then have the remaining debt forgiven. (Learn more about the various repayment programs for federal student loans.)

If you have private student loans, none of these programs are available to you. If you are struggling to make monthly payments, you can try to work something out with your lender. But there’s nothing that will force the lender to negotiate with you. If you want to reduce your payment, stretch out payments, get a lower interest rate, or the like – good luck.

It doesn’t seem fair that private student loan lenders get special treatment in bankruptcy. We don’t provide the same privileges to other lenders, like car loan lenders or credit card companies. So private student loan lenders can charge extremely high interest rates, refuse to lend to people with poor credit histories, require cosigners, but still get protection from discharge in bankruptcy. Essentially, they can have their cake and eat it too

Is Congress Catching On?

In 2013 representative Cohen, along with 14 other congress members, introduced the Private Student Loan Bankruptcy Fairness Act (H.R. 532). HR 532 would remove the special treatment that private student loans currently get in bankruptcy, and put them on the same level as other unsecured creditors. If this bill became law, bankruptcy filers would be able to discharge private student loan debt in bankruptcy.

Sounds great. But unfortunately, according to Govtrack.us, the bill has a 2% chance of becoming law (ouch).  Which is not surprising, given the track record of Congress of late. Plus, it’s been sitting around since January of 2013.

A Glimmer of Hope?

It may be too early to give up though. In March (in large part due to some effective pushing by members of the National Association of Consumer Bankruptcy Attorneys) an additional five representatives joined as cosponsors (bringing the tally to 39 in all).  Does this mean the bill is gaining momentum? Let’s hope so.

Private Student Loan Servicers Undercut Borrowers’ Payment Efforts

StudentLoans_iStockLast week, the Consumer Financial Protection Bureau (CFPB) released its annual CFPB Student Loan Ombudsman Report on Private Student Loans.  The report documents numerous pitfalls with the way that private student loan servicers process payments. Because of these problems, borrowers sometimes cannot figure out who to pay, end up paying more late fees, encounter difficulty when trying to pay off loans early, and more.

The Private Student Loan Industry

In previous decades, most students got federal student loans (loans made or guaranteed by the federal government). But because of increased tuition rates and other changing factors, more and more students are forced to take out student loans from private banks and lenders. Those loans, sometimes called private label loans, have interest rates that are much higher than those of federal loans, less favorable loan terms, and are not eligible for the flexible federal repayment programs for borrowers in financial distress. (Learn about the disadvantages of private student loans.)

According to the CFPB, of those borrowers graduating at the time of the financial crisis with more than $40,000 in student loan debt, a whopping 81% had loans from private student loan lenders. According to the CFPB, the private student loan market was worth $6 billion in 2011. The industry often targets students attending for-profit schools. In 2008, 42% of students at for-profit institutions took out private loans, compared to just 14% at public universities.

Less Than Stellar Payment Processing Practices

The CFPB report was based on 3,800 complaints made through its online complaint system between October 1, 2012 and September 30, 2013. In analyzing those complaints, the CFPB noted many pitfalls with the way that private student loan servicers process payments, including:

  • Losing checks and then charging borrowers late fees on the account.
  • Processing excess funds in order to maximize interest rates for the servicer, to the detriment of the borrower.
  • Processing partial payments so as to maximize late fees for the borrower.
  • Failing to provide accurate payoff information for those borrowers seeking to repay their loans early.
  • Failing to notify borrowers when their accounts are transferred to a new servicer, resulting in frustration, late fees, and risk of delinquency.

You can get details on these incompetent and unfair processes in Nolo’s article Repaying Private Student Loans: Watch Out for These Pitfalls.

CFPB Provides Advice and Help

Along with the report, the CFPB issued a consumer advisory, Stop Getting Sidetracked by Your Student Loan Servicer, which provides a sample letter for borrowers to send to their servicers when processing certain types of payments. The advisory also reminds consumers that if they have trouble with a private student loan lender, they can file a complaint with the CFPB at www.consumerfinance.gov/complaint.