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Student Loans in Chapter 13 Bankruptcy

Posted on: June 13th, 2014 by Charles Faquin No Comments
Student loans in Chapter 13 Bankruptcy

Balancing your life and student loans in Chapter 13 bankruptcy.

Repayment of student loans in Chapter 13 bankruptcy might be the best option for many debtors due to the increasing default rates on educational debt. The automatic stay created by the filing of a bankruptcy can shield a debtor from overzealous debt collectors. The automatic stay stops and prevents wage garnishment, seizure of money from bank accounts and IRS refunds, collection calls, liens on property, and other collection tactics employed by student loan creditors.

Student Loans in Chapter 13 Bankruptcy Plans

A Chapter 13 Bankruptcy plan can protect a student loan debtor for three to five years. During this time, the Chapter 13 can allow the debtor to make lower monthly payments to student loan creditors based upon their ability to repay the debt, rather than its contract terms. Additionally, the Chapter 13 will allow the debtor to pay off a car or get caught up on mortgage payments before paying off student loans. This is because, typically, a student loan debt is treated as a non-priority, unsecured debt in a bankruptcy. As a result, student loan debt is grouped in with your credit cards and medical bills and paid with any remaining funds after your house and/or car (“secured debts”) and living expenses are paid each month. If there is no money left over after your living expenses and secured debts are paid each month, then the student loan creditors will receive nothing during your bankruptcy. This is known as a zero percent (0%) plan.

In many instances this arrangement will help a student loan debtor by prioritizing payments to creditors that must be paid to keep your car or house, allowing you to focus on student loan debt later: (1) after your plan is complete when perhaps you are making more money or (2) in a successive Chapter 13 bankruptcy plan that focuses solely on the payment of student loans.

Payment plan for student loans in Chapter 13 Bankruptcy

Multiple options in a repayment plan for student loans in Chapter 13 bankruptcy.

Long Term Treatment & Discrimination

Another positive for student loans in Chapter 13 bankruptcy is that you can cure a default by treating it as a long term debt in the plan under 11 U.S.C. § 1322(b)(5), like a mortgage arrearage. Also, in some instances (ex. if there is a co-signor) you can prefer a student loan creditor, or pay more on student loans in chapter 13 bankruptcy than your other individual unsecured creditors.

Double-Edged Sword

Because student loans are not dischargeable in bankruptcy without a showing of “undue hardship,” the Chapter 13 bankruptcy can be a double-edged sword. The student loans will continue to accrue interest if not being paid at the contract rate and may be placed in default by the student loan creditor. For instance, if you are in a 0% percent plan (described above), you will have no obligation to pay student loans during the plan, but the principal balance(s) will increase from unpaid interest. This is the case even if you are making reduced payments on student loans, though you will still receive credit for all payments made. In some instances, a bankruptcy filing will automatically place your loans in default under the contract terms so be sure to review (or have your attorney review) the loan documents before filing.

Consult with a Bankruptcy Attorney

Nevertheless, for some student loan debtors unable to meet basic needs and struggling with other secured debt, a Chapter 13 bankruptcy may be your best option. You can use a Chapter 13 to get the loans out of default or stop collection activity. You can also file an adversary proceeding in a Chapter 13 bankruptcy to discharge some or all of your student loans if you can prove “undue hardship.” Before filing a bankruptcy, make sure that you have explored all options with your lender. Consult with a bankruptcy attorney to determine whether bankruptcy is the best course for dealing with your student loans.

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