All or nothing in the Eighth Circuit
Last year, in the case of In re Martin[1], Judge Thad Collins (Bankruptcy Court for the Northern District of Iowa) discharged $230,000 of student loan debt of the Debtor, Ms. Martin noting that under the law of the Eighth Circuit partial discharge of student loan debt is not allowed and that it is an all or nothing approach.
Ms. Martin (50 years old) and her husband (66 years old) were supporting their two college-aged children on Mr. Martin’s income of around $39,000. Although, Ms. Martin has a bachelor’s degree, a J.D., and a Master’s degree in public administration she had been unemployed for 10 years at the time of the filing of the bankruptcy petition. Prior to this extended period of unemployment, for three years after her admission to the bar, Ms. Martin held a job as a lawyer with a nonprofit organization until budget cuts ended her employment; she was unemployed for the next five years, followed by eight years of employment in a non-legal job.
The original principal balance of Ms. Martin’s student loans was $48,000 but this had grown to $230,000 with interest at 9%. Over the years, she had paid more than $30,000 toward the loans, with $26,000 of that going toward interest and only $4,000 to principal.
The lender objected to the total discharge of Ms. Martin’s student loan debt noting that she would qualify for an income-based repayment program (“IBRP”) and in 20 or 25 years, whatever was left on the loans would be forgiven. However, the lender conceded that the forgiveness could be taxable income.
Judge Collins found, however, that it was an all-or-nothing proposition in the Eighth Circuit noting that the Eighth Circuit BAP prohibits the practice of partial discharge of student loans under Section 528(a)(8). Judge Collins concluded that Ms. Martin was entitled to discharge all her student loans (interest and principal), in large part because her inability to land a job was “not for a lack of trying.”
Judge Collins was also unmoved by the IBRP argument, noting that it “does not ameliorate the undue hardship.” Judge Collins, applying the “totality of the circumstances” test, considered Mr. Martin’s age, noting that at 66 he may be unable to work much longer, at which time Ms. Martin would become the family’s only wage-earner and could not afford to divert income to paying student loans. In sum, Judge Collins said that the Debtor was entitled to discharge the student loans under Section 523(a)(8) because she had shown undue hardship, made good faith efforts to repay, made payments when she was able, applied for deferments when she was not, and incurred reasonable living expenses.
Partial Discharge Upheld in the Tenth Circuit
This month, Judge John Broomes (US District Court Kansas) upheld a decision handed down by Bankruptcy Judge Robert Nugent (Wichita, Kansas) holding a bankruptcy court has authority issue a partial discharge as to the interest on a student loan while leaving the principal intact. Specifically, Judge Broomes also held that a discharge under Section 523(a)(8) is not an “all or nothing” proposition, and, if a court decides that payment of part of a student loan results in undue hardship, a judge is not required to discharge the entire loan.
In the case at issue, the Debtor was a 59-year-old single woman with no dependents and a gross annual income of between $40,000 and $43,000, with little chance of substantial increase.[2] Judge Nugent further found the Debtor’s standard of living was “spartan.” Between 1989 and 1991, the Debtor had borrowed roughly $16,000 to attend two years of college and had managed to pay back around $14,000 (almost all via three chapter 13 cases). However, because the Debtor’s payments did not cover interest, the outstanding loan balance had grown to more than $67,000. Having completed payments in her most recent chapter 13 plan, the Debtor sought to discharge the student loans under Section 523(a)(8). The government offered up three alternative plans of repayment. The Debtor could afford only the smallest repayment plan of $203 a month.
Judge Nugent calculated if the Debtor made all the payments over 25 years would have ended owing more than $152,000 (at age 84), because $203 a month would be $301 a month short of paying current interest. If the remainder were forgiven at the end of the repayment program, she faced the possibility of incurring a nondischargeable tax liability for forgiveness of indebtedness income. On the other hand, Judge Nugent calculated that she could pay off the $16,000 principal balance in about 10 years if she were to pay $203 a month.
Accordingly, Judge Nugent ruled that everything in excess of the $16,000 principal balance would be discharged.
Both sides appealed. The lender argued that the Debtor failed the Brunner[3] test and was not entitled to discharge anything. The Debtor contended that the bankruptcy court should have discharged the entire debt, arguing that the statute does not permit a partial discharge if the court finds an undue hardship. On appeal, Judge Broomes affirmed.
As to the first prong of the Brunner test — whether the debtor can maintain a minimal standard of living while repaying the debt — Judge Broomes cited Judge Nugent’s finding that the Debtor could only afford about $200 a month. Because the Debtor could pay something, the lender contended that the Debtor failed the first test, making the entire loan nondischargeable. Judge Broomes disagreed, citing the Tenth Circuit, and holding that a debtor is not required to participate in one of the repayment programs to qualify for discharge. That, he said, is part of the good-faith test. Judge Broomes went on to say the lender had failed to make a “colorable argument that [the debtor] could ever truly repay her loan.” He ruled, therefore, that the Debtor has satisfied the first test because participating in one of the repayment programs “would thwart the fresh start policy.”
As to the second prong—whether the debtor’s circumstances are likely to persist—Judge Broomes upheld Judge Nugent’s finding that her financial condition was “likely to persist.”
As to the second prong—the debtor’s good-faith—Judge Broomes upheld Judge Nugent’s finding that the Debtor had made a good-faith effort to repay her loans.
Finally, Judge Broomes turned to the Debtor’s cross appeal, where she contended the Court must discharge the entire loan once the Debtor proves that paying the entire debt is impossible. According to Judge Broomes, the Tenth Circuit has rejected the all-or-nothing approach, albeit in dicta, finding that requiring courts to discharge student loans entirely would run counter to the bankruptcy court’s equitable authority to enforce bankruptcy laws. Accordingly, Judge Broomes ruled that the bankruptcy court has “equitable powers . . . to grant a partial discharge of student loan debt upon a finding of undue hardship.”
[1] In re Martin, 16-9052 (Bankr. N.D. Iowa Feb. 16, 2018).
[2] Educational Credit Management Corp. v. Metz, 18-1281 (D. Kan. May 2, 2019)
[3] Brunner v. New York State Higher Education Services Corp., 831 F.2d 395, 396 (2d Cir. 1987).