consensus states that some private student loans can be canceled in bankruptcy | Nelson Mullins Riley & Scarborough LLP


Last month, the United States Court of Appeals for the Second Circuit, in Homaidan v. Sallie Mae, Inc., 3 F.4th 595 (2d Cir. 2021), upheld a New York federal court ruling that private student loans are not explicitly exempt from discharge in a Chapter 7 bankruptcy, opening the door to more borrowers seeking educational debt relief.

In the decision, the Second Circuit sided with a former Emerson College student who sought to bankrupt $ 12,567 in private student loans he had taken out to fund his education. Government backed student loans are almost impossible to write off in bankruptcy. To qualify, borrowers must demonstrate that continuing to repay would impose “undue hardship,” a standard so high that few even attempt to meet it. This student’s lender, Navient Solutions LLC, argued that his private loans should be treated the same. But the Second Circuit disagreed, saying certain types of private educational loans can be canceled through the bankruptcy process without proof of undue hardship.

In the opinion prepared by United States Circuit Court Judge Dennis Jacobs, the three-judge panel ruled that Section 523 (a) (8) of the United States Bankruptcy Code does not provide for general exception to the applicability of a discharge from bankruptcy to private loans to student borrowers.

Subsection A (ii) of section 523 (a) (8) excludes from release an “obligation to repay funds received as an educational benefit, scholarship or allowance”, and Navient argued in the lower court proceedings that this covered private student loans given to the debtor here.

According to the court, interpreting paragraph A (ii) as applying to loans granted by Navient would have the effect of exempting almost all types of student loans from a discharge from bankruptcy: would encompass virtually all private student loans ” , “But this reading cannot be reconciled with the text and structure of Section 523 (a) (8), both of which confirm that Section 523 (a) (8) (A) (ii) excludes the discharge of a much narrower category of debt.

In its analysis, the Appeal Panel examined only the text of the code to determine whether Navient’s loans to the debtor were covered by the relevant sections of the code. It determined that only three types of loans are exempt from the discharge: loans and benefit overpayments guaranteed by the government or a non-profit organization; obligations to repay funds received as an educational benefit, scholarship or allowance; and qualified private educational loans.

Navient argued that its loans are covered by the second exemption criterion, particularly as an educational benefit. But the court determined that if Congress had intended this passage to cover private student loans, it would have said so more explicitly by adopting the language of the code section:

[I]If Congress had intended to exclude all educational loans from discharge under section 523 (a) (8) (A) (ii), it would not have done so in such stilted terms … There are educational benefits that students may be required to repay – such as conditional grants – that more naturally correspond to the statutory text.

The second circuit decision joins the ranks of at least two other circuit court opinions – from the fifth and tenth circuits – reaching this conclusion. See In re Crocker, 941 F.3d 206 (5th Cir. 2019), as revised (October 22, 2019) (considering that the term “educational benefit”, as used in the exemption exception, took meaning from the terms surrounding it and could not be interpreted broadly enough to include private educational loan); About McDaniel, 973 F.3d 1083, 1086 (10th Cir. 2020) (idem).

As a result, by using these decisions to support their position, more and more borrowers may attempt to free themselves from private student loans through bankruptcy cases.