The Second Judicial District ruled that certain private student loans can be repaid under section 523 (a) (8) (A) (ii) – Insolvency / Bankruptcy / Restructuring



United States: The Second District has ruled that certain private student loans can be repaid under section 523 (a) (8) (A) (ii)

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Situation: V Homaidan vs. Sally Mae, Inc. and etc., The US Court of Appeals for the Second Circuit recently confirmed that certain types of private student loans are not “compulsory”.[s] for the payment of funds received as an education grant, scholarship or scholarship, “exempt from dismissal in the event of bankruptcy in the absence of undue hardship.”

Result: This decision aligns the Second Circuit with the Fifth and Tenth Circuits on this issue. However, neither the bankruptcy court decision below nor the Second Circuit’s appeal decision set out the circumstances under which loans may be repaid in bankruptcy pursuant to 11 USC § 523 (a) (8) (A) (i) or 523 (a) (8) (B).

Looking ahead: Private student loans may still be repaid under Section 523 (a) (8) (A) (i) or 523 (a) (8) (B) as “qualified education loans” which the court in Homaidan did not count. However, following the COVID-19 pandemic, the number of bankruptcies related to outstanding and overdue student loan debt is likely to increase, and this precedent brings the Second District into line with the Fifth and Tenth Districts and could lead to more controversy as to whether can these debts be discharged. And on August 2, 2021 FRESH START Through Bankruptcy Law 2021 was announced for submission to the Senate. The proposed law aims to help needy borrowers by amending the provisions of the Bankruptcy Code governing the payment of student loans. Market participants should continue to monitor these developments.

On July 15, 2021, a panel of three judges of the United States Court of Appeals for the Second Circuit held in St. Homaidan vs. Sally Mae, Inc. and etc. that the private student loans in question did not qualify for exemption under Section 523 (a) (8) (A) (ii) of the Bankruptcy Code for the “obligation[s] to pay the funds received as an educational allowance. ” In the bankruptcy court case below, the defendant, the creditor and the support staff (hereinafter the “creditor”) petitioned to terminate the adversarial proceedings initiated by the bankruptcy debtor under chapter 7, claiming that the creditor violated the bankruptcy ward by accepting the repayment of private student loans that were actually repaid because they covered more than qualified education costs. The defendant argued that the loans were not repayable. The bankruptcy court found the “obligation” exemption[s] to recover funds received as education grant “under section 523 (a) (8) (A) (ii) of the Bankruptcy Code and found that it” does not repay all education-related debts “, including student loans in question. Thus, he dismissed the defendant’s motion to discontinue the case. The Second District granted and confirmed the interlocutory appeal.

Second District Decision

Like the Bankruptcy Court, the Second Circuit relied heavily on the simple language of the relevant legislative text, which exempts, inter alia, “an obligation.[s] for the payment of funds received as an education grant, scholarship or scholarship ”. Solution at 9; see also 11 USC § 523 (a) (8) (A) (ii). The respondent creditor’s only claim in its dismissal motion was that the plaintiff’s private student loan was an “educational benefit” under Section 523 (a) (8) (A) (ii). However, the respondent reserved the right to consider the plaintiff’s claims that the loans were not a “qualified education loan”.[s]”pursuant to section 523 (a) (8) (B) later in the proceedings.

The Second Circuit concluded that section 523 (a) (8) (A) (ii) could not be interpreted to include “loans” if that particular word was used in the relevant provisions and, in particular, was absent from the regulation. The court also noted that it could not accept a broad interpretation of this provision by the respondent – “according to which any loan is non-repayable under section 523 (a) (8) (A) (ii) if it was used for further training” -[as it] will attract virtually all student loans within the “exemption. This, in the court’s opinion, would incorrectly make the exceptions in Section 523 (a) (8) (A) (i) and 523 (a) (8) (B) meaningless.” Thus, the phrase “education grant” was restricted by the court to reconcile with the terms “scholarship” and “scholarship” also referred to in section 523 (a) (8) (A) (ii). in satisfying the petition, the court did not come to a conclusion as to whether the plaintiff’s loan was actually repaid in his bankruptcy, and returned the case to the bankruptcy court for further consideration.

Impact on future litigation

The Second District decision does not fully clarify the rules for paying student loans. Indeed, the court did not consider whether the private student loans in question were a “qualified education loan”.[s]”and thus are not exempt from liability under section 523 (a) (8) (B). Moreover, the decision does not affect government student loans at all, which are exempt from repayment in the absence of a finding that repayment of the debt may result in the debtor having “unreasonably difficult difficulties.” Thelma G. McCoy v. United States, Plaintiff recently petitioned the US Supreme Court for an order to resolve a district dispute on an appropriate test to assess “undue hardship.” However, in June 2021, the court rejected the motion, leaving the sprawling network intact and opening the door to the continuation of the controversial decisions.

Four key takeaways

  1. Homaidan believes that the private student loans in question are not a “commitment”[s] pay … education benefits “that are not payable in the event of bankruptcy. However Homaidan did not treat the repayment of private student loans as a “qualified education loan.”[s]”in accordance with section 523 (a) (8) (B).
  2. Prospective plaintiffs may use the other provisions of 11 USC § 523 (a) (8) to argue that the education debt is payable.
  3. The decision of the Second District to align with the Fifth and Tenth Districts could result in additional debtors, including those affected by the COVID-19 pandemic, seeking repayment of their student loans.
  4. Market participants should also keep an eye on developments regarding the Bankruptcy Law 2021 Fresh Start Through Bankruptcy and any other proposed legislation that, if passed, would change the provisions of the Bankruptcy Code governing student loans.

The content of this article is intended to provide general guidance on the subject. You should seek professional advice regarding your specific circumstances.

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