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Discharging Student Loans

A recent opinion, namely In re Hedlund, 718 F.3d 848 (9th Cir. 2013), may make it easier to discharge student loans.  In Hedlund, the debtor borrowed approximately $85,000 for college and law school.  He failed the bar examination three times and took a job as a youth counselor.  The debtor was 33 years old and married with one child.  The debtor filed bankruptcy and sued for a declaration that his student loan debts were dischargeable.

The court applied the tough "undue hardship" standard for discharging student loans in an unusually lenient way.  The undue hardship standard requires that (1) the borrower and his or her defendants cannot maintain a minimal standard of living, (2) this is likely to be the case for a significant portion of the repayment period, and (3) he or she made a good faith effort to repay the loan.

The bankruptcy court determined that the debtor's family expenses were reasonable - including two cell phones, an automobile lease and cable television - notwithstanding the fact that his wife worked only one day per week and could work three and the debtor turned down a repayment plan he contended was itself unaffordable.  Accordingly, the court entered a partial discharge, discharging all but $32,080 of the student loans.

On appeal, the district court reversed.  However, the United States Court of Appeals for the Ninth Circuit reversed the district court and affirmed the bankruptcy court's original ruling.

The Ninth Circuit held that the district court erred by reviewing the bankruptcy court's finding of good faith de novo rather than under the "clear error" standard.  This gives bankruptcy courts significant leeway in determining whether the facts at hand support a finding of good faith, but it may be a double edged sword for debtors with unsympathetic facts.

The Ninth Circuit also held that bankruptcy court's application of the undue hardship standard was supported by substantial evidence that the debtor had maximized income, minimized expenses and attempted to negotiate repayments.  This holding is likely to provide significant help to former students attempting to discharge student loans.

Also seen on Legal By the Bay, the blog of the Bar Association of San Francisco.