A Bitter Boxing Day Op-Ed for Private Student Loan Debtors

John Hupalo, “Discharging Private Student Loans Is Counterproductive,” U.S. News & World Report.

Tagline: “For an overwhelming majority, it will impair their future ability to borrow.”

Hupalo is the CEO of Invite Education, LLC, which appears to be a college planning resource for prospective applicants and parents, but his cred comes from decades of experience in education finance.

Unfortunately, the arguments he makes in his op-ed do not benefit from his experience. He even contradicts himself within the same sentence early on:

Turning bankruptcy courts into turnstiles for the discharge of the least common form of student loan debt may temporarily assist some distressed borrowers, but the overwhelming majority will not be helped.

How does benefiting “some distressed borrowers” with the least common form of student loan debt who are not in the overwhelming majority of student debtors turn bankruptcy courts into “turnstiles”? Also, bankruptcy is not “temporary,” a discharge order is permanent.

Hupalo’s piece is concise, but I’m going to summarize the arguments and provide brief responses:

(1)  Bankruptcy appears on your credit report for 10 years and ruins your creditworthiness.

Defaulting on a loan is much worse for your creditworthiness (and sometimes job eligibility) than bankruptcy, and plenty of banks love lending money to people who can’t obtain another discharge for eight more years. They also know how to collateralize cars and houses for auto loans and mortgages. The credit hit from bankruptcy is a factor to weigh, but (a) it does recover, and (b) if the loan is large and unpayable, bankruptcy does more good than harm.

Also, I’ll add right now that debtors aren’t stupid, and moral hazard arguments are always overblown. People use the bankruptcy system as a last resort. Most of the time they file because they’ve lost their jobs, gotten divorced, or aren’t insured so they have to pay for their own radiation therapy. Included in the 2005 law that extended the “undue hardship” exception to dischargeability of private student loans was a provision that required Chapter 7 petitioners to show that their incomes were below their state’s median household income. If it’s above the median, they have to file in Chapter 13, which will require them to repay some of the debt in a 3-5-year repayment plan. With bankruptcy protections on their side, debtors can negotiate with their lenders and avoid using the courts, and bankruptcy fraud is very, very rare.

Now that we’ve got that out of the way, we continue:

(2)  Bankruptcy protections increase interest rates for private student loans.

Good.

Seriously, this is how lending works: Those who make large unsecured loans to people who can’t repay them should charge higher interest rates, demand co-signers, and not offer in-school deferments. If the loan is too risky, don’t make it. The alternative is a human capital contract, which may or may not work, but it’s a compromise option.

(3)  It’s not fair for the government to shield its loans from bankruptcy while not doing so for private loans. It’s also confusing to borrowers.

(a) Borrowers will always be confused. The federal lending system alone is very complicated, much less the bankruptcy code. (b) Aside from people who take out Parent PLUS loans, to my knowledge all other federal loans are IBR-eligible. Debtors who are on Social Security Disability can also petition the Department of Education for a hardship discharge, which the “Pay-As-You-Earn” rule-change made easier. Private loans don’t offer these options. (c) Honestly, I have slight sympathy for the fairness argument: Yes, the government is unfairly undercutting the private sector (and not even doing a good job of it). However, I think bankruptcy protections should be returned for federal loans too, and I won’t lose any sleep if the Direct Loan Program is repealed. I just don’t find Hupalo’s argument that incrementalism is unfair to be persuasive.

(4)  The seven percent private loans of all student loans are underwritten; the other 93 percent of federal loans aren’t. This is unfair.

It sure is. That’s a problem with the Direct Loan Program, but how is it relevant to private loans in bankruptcy?

(5)  Private student loan debtors can discharge their debts via the “undue hardship” exception, which is reasonably high to protect from moral hazard.

(a) The “undue hardship” standard is not defined in the bankruptcy code, leaving the statutory interpretation up to the federal appellate courts and the factual application to the caprice of bankruptcy judges. If you were worried about “confusion” before, how many people do you think know off the top of their heads if their federal circuit uses the Brunner test, the “totality of the circumstances” test, or some other one? How many people even know anything about the federal circuit they’re in? (b) Admittedly, many people who might have a shot at discharging their student loans don’t even bother trying to file an adversary proceeding against their student loan creditors, which leads the public into believing the loans are as nondischargeable as child support payments, but again, it comes down to the bankruptcy judge’s opinion. (c) When the “undue hardship” exception was first inserted into the bankruptcy code, it coincided with a five-year time limit on dischargeability, so the urgency for legislative clarity didn’t exist. With the time limit removed for federal loans in 1998, the law pretty much put debtors’ fates in bankruptcy judges’ hands. Hupalo doesn’t appear interested in discussing whether that’s a good idea.

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2 Responses

  1. As one who recently had to file for bankruptcy and has 2 daughters in college and a third hoping to attend next college next year I can attest to the nightmares ,headaches and everything else that is related to the bankruptcy procedure. Years ago I got burnt out from the practice of law, decided to return to Puerto Rico, after many years I lost my job (not law related). I’m back in MA practicing at $20.00 an hour and lucky to have a job. It will get better. I went through Chpt. 13, 11 and finally 7. The loans which we co-signed would only be discharged under an adversarial proceeding. At this hearing you must prove the hardship. But I took the time to read the loan docs. As Hunter S. Thompson said “when they have you by the balls your heart and soul will follow.” The terms are frightening. The conditions for default extensive. I truly hope a thoughtful dialogue will take place as to how to reform the whole system.

    Anyways, I enjoy your blog (and music) keep up the good work (doesn’t mean I always agree with you which is a good thing)

    Emilio J. Torres-Requena, Esq. 807 Main St. Worcester, MA 01610 508-770-0600 508-654-3475 etorresrequena@yahoo.com

    ________________________________

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