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New Bankruptcy Legislation Could Provide Relief For Those Buried in Student Debt

Why the bankruptcy bill matters to students

Valisha Cooks graduated from the University of Phoenix with loan payments that amounted to $1,150 a month, much of it in private loans. Her debt burden amounted to more than half of her take-home pay. “When I took out private student loans, I had no idea that I was condemning myself to a lifetime of ruined credit, harassment by collection agencies, and the hopelessness of endless debt,” she said at a recent hearing before Congress [PDF].

Cooks is one of an approximate 17 million people who have private student loan, many of whom are trapped in mounds of student debt with little hope of repayment. The default rate for private student loans is officially 7.3 percent, although the reality is actually grimmer, since these numbers do not account for people who are in deferment or forbearance and are likely to default in the future. Normally, people who suffer under such massive debt can declare bankruptcy and discharge much of their debt burden, but in 2005 Congress passed bankruptcy legislation eliminating a student loan borrower’s option of last resort, discharging student loan debt in bankruptcy.

“Now, even though I have a good job, I can’t afford to pay all my bills in any one month, I go to food banks to feed my son, and I will never be able to afford a house,” Cooks said at the hearing. “I live in constant fear that the hammer will one day drop and ruin my life and the hope for my son’s future. It is a scary, hopeless feeling.”

It is to President Barack Obama’s credit that he has made student loan justice a priority so far in his presidency. The reforms he made as part of the reconciliation bill coupled with health care reform changes in March—an expanded direct lending program, more relaxed methods of repayment, and increased Pell Grants—are some of most significant changes to help students fund higher education in decades.

But the new reforms, some of which do not go into effect until 2014, do not impact any of the millions of people who have already borrowed private loans to go to college. This leaves generations of former students struggling to keep their head above water as they deal with massive student loan debt in an era where college tuition has dramatically outpaced the rate of inflation for nearly 20 years and unemployment, especially for recent college grads, is at frightening levels. The Chronicle of Higher Education recently reported that 20 percent of student loans taken out since 1995 are in default (and some argue the number is higher). Private loans in particular, which are much less flexible than federal loans with repayment schedules and deferments, are often a major reason for the high default numbers. This is why both houses of Congress have introduced legislation that would once again allow private student loans to be discharged in bankruptcy (S. 3219 and H.R. 5043).

Given that after interest and fees some students are literally hundreds for thousands of dollars in debt, bankruptcy protection is often the only way for some financially distressed borrowers to get a fresh start. But the bill in 2005 made it almost impossible to discharge student loans, and now many borrowers are suffering as a result.

“I am 56 years old, divorced and I am terrified of becoming homeless over this situation,” says Viviene Henry, in an e-mail to Campus Progress. Henry had co-signed on a pair of sizable private student loans for her son's postsecondary education and has since been struggling to meet the inflexible payment expectations of her private lender.

Clearly, some members of Congress are getting the message and are acting with a sense of urgency in Washington; the House bill is expected to go through committee markup soon and advocates say the legislation may make its way through Congress in the not-so-distant future.

“People who seek higher education to better their futures should not be dissuaded from doing so by the threat of financial ruin,” says Rep. Steve Cohen (D-Tenn), who sponsored the House version of the bill. “The bankruptcy system should work as a safety net that allows people to get the education they want with the assurance that, should their finances come under strain by layoffs, accidents, or other unforeseen life events, they will be protected.”

Advocates of such protections note that the benefits to borrowers extend beyond the ability to declare bankruptcy, a difficult choice with real consequences. Such protections could help force lenders to offer more reasonable terms for repayment and may also force colleges to slow the rapidly increasing cost of tuition.

“Bankruptcy is a critical guard against inflation, and also keeps lenders honest with regards to customer service, and in general ensures that the interests of the lender, and the interests of the borrower coincide,” says Alan Collinge, founder of StudentLoanJustice.org, an organization which advocates for the rights of student debtors, in an e-mail to Campus Progress. “Banks should be wanting borrowers to do well, and repay their loans … not the opposite.”

Critics of the plan claim that the policy would make student loans harder to obtain and allow students to abuse the system. But there was no evidence of such problems before bankruptcy protections were removed in 2005. In fact, lenders did quite well. According to StudentLoanJustice.org, between 1995 and 2005 Sallie Mae had earned $3.6 billion in stock for its employees, which amounts to more than $600,000 per employee. After 2005, profits rose to astronomical levels. Sallie Mae’s profits grew 228 percent from 2005-2008, while their loan portfolio only rose 87 percent. So while students like Valisha Cooks struggle to put food on the table, private lenders have been profiting off of her misery. It is no wonder Harvard professor and potential head of the new Consumer Financial Protection Bureau Elizabeth Warren told the Wall Street Journal that "studentloan debt collectors have power that would make a mobsterenvious.”

The good news is that there is real momentum behind this legislation. The bills in Congress have powerful sponsors, including the Senate Majority Whip Sen. Dick Durbin (D-Ill.) and at least 24 notable organizations (including the advocacy arm of Campus Progress) are supporting the bill. Even the Albany City Council unanimously passed a resolution urging Washington to allow all student loans (including federal loans) to be discharged in bankruptcy, arguing that “forgiving student loan debt would have a stimulating effect on the economy.”

A victory could drastically improve the lives for millions of Americans and their families and help keep students from shying away from education out of fear of financial ruin. It is urgent that advocates for justice in higher education push to pass this legislation in the coming months.

Michael Corcoran is a correspondent for The Boston Globe’s metro desk. He graduated from Emerson College in 2007.

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