When the cosigner of a student loan files Chapter 13 bankruptcy such debtor will often offer to pay a portion of the student loan through the Chapter 13 plan. In the example posed in Part I, the debtor offered to pay 50% of the student loan through the Chapter 13 plan. Assuming the borrower has made no additional payments on the student loan within the duration of the debtor’s Chapter 13 bankruptcy, the remaining balance on the student loan will be $10,000 together with additional interest and charges.
Upon discharge of the Chapter 13 bankruptcy, and absent any effort of the borrower to render payments on such loan, the cosigner will have continuing liability on the remaining, unpaid portion of the student loan.
Student loans are usually place in a forbearance status within the duration of the Chapter 13 bankruptcy. Sometimes, lenders or servicers will make it difficult for borrowers or cosigners to enter IBR plans or other programs in an effort to remain current on their student loans during the pendency of the Chapter 13 bankruptcy.
The Department of Education (DOE) currently has no clear policy pertaining to student loan servicing for borrowers during the pendency of a Chapter 13 bankruptcy. A Federal Family Education Loan (FFEL) Program regulation provides that if the lender is notified that a borrower has filed a bankruptcy petition, the lender must suspend any collection efforts against the borrower outside the bankruptcy.
However, there is no policy addressing how a student loan should be serviced during the three to five year period in which a borrower is involved in a Chapter 13 bankruptcy. The policy only states that such lenders or services should file a proof of claim if the borrower is in a Chapter 13 bankruptcy. The policy does not address what the holder or servicer should do when payments are received.
Additionally, there appears to be no mention of how lenders or servicers should address the Chapter 13 debtor who is a cosigner on a student loan obligation.
Often, private student loans required cosigners, and the student loan contracts provide that the filing of the bankruptcy by the borrower or any co-borrower constitutes a default, which forces the acceleration of the student loan.
In some instances, a cosigner on a student loan who files Chapter 13 bankruptcy may discover that, absent the tendering of the appropriate student loan payment by the borrower, the lender or servicer has reported that the student loan is in default, to the credit reporting agency. A similar action may occur to the borrower on the student loan who is paying some portion of the student loan through a Chapter 13 bankruptcy.
It is the view of the writer that such negative remarks on the credit report of the cosigner who files Chapter 13 bankruptcy violate several key provisions of the Bankruptcy Code.
Section 365(e) of the Bankruptcy Code addresses whether such bankruptcy clauses are enforceable in bankruptcy. Bankruptcy Code Section 365(e) clearly provides that such clauses are not enforceable with respect to certain contracts, including executory contracts and unexpired leases, and many bankruptcy courts have further held that such clauses are not enforceable with respect to other types of debts, such as installment loans. However, some courts have determined that the Bankruptcy Code only invalidates bankruptcy clauses in contracts that are specifically addressed in Section 365(e).
While there are numerous cases addressing whether certain loans, such as automobile loans, which contain such bankruptcy clauses, are invalidated by the filing of the bankruptcy, there is no apparent case law addressing any such provisions in student loan contracts.
Secondly, 11 USC 1322(b)(5) allows debtor in a Chapter 13 bankruptcy to cure a default and maintain payments on debts on which the last payment is due after the date on which the final payments under the plan is due. This means that the if payments on certain debts, including home loans and student loans extend beyond the term of the Chapter 13 plan of typically 36 to 60 months, the debtor may claim that any default is a violation of 11 USC 1322(b)(5) of the Bankruptcy Code.
Section 1322(b)(5) applies whether the debtor has defaulted on any student loan obligation before the bankruptcy or if the student loan was not in default status at the time of the filing of the Chapter 13 bankruptcy. This means that if the student loan was in default at the time of the Chapter 13 bankruptcy filing, 1322(b)(5) will unchain the student loan from default status. Likewise, if the student loan was not in default at the time of the filing of the Chapter 13 bankruptcy, 1322(b)(5) will prevent such student loan from entering default status.
Thirdly, if a lender or servicer of a student loan refuses to process payments under a Chapter 13 bankruptcy plan in a fashion that would constitute a cure of a default, such actions are a violation of 11 USC 525 of the Bankruptcy Code, which prohibits government agencies and federal student loan creditors from discriminating against a consumer debtor based upon the filing of a Chapter 13 bankruptcy.
Finally, 11 USC 362 of the Bankruptcy Code addresses the Automatic Stay. The Automatic Stay prohibits creditor collection efforts during the pendency of a Chapter 13 bankruptcy when creditor claims are being provided for in accordance with the proposed or confirmed Chapter 13 plan. A confirmed Chapter 13 plan determines that all the disposable income possessed by the debtor has been contributed to the plan. Therefore, it is improper for a lender or servicer of a student loan debt to render the cosigner who has filed Chapter 13 bankruptcy, has received confirmation of his or her Chapter 13 plan, and is tendering payments in accordance with such confirmed plan, to be deemed in default or otherwise receive negative comments on his or her credit report during the term of the Chapter 13 bankruptcy.
The Automatic Stay again prohibits creditors from collection efforts against the cosigner of a student loan debt in such an instance as described above. Likewise, any collection efforts against the codebtor, or the borrower should be prohibited because of the codebtor stay which operates to protect the borrower or codebtor from creditor actions. The creditor may take action to seek the removal of the codebtor stay, but absent such relief from such protection, the creditor is enjoined from any collection efforts against the codebtor or borrower.
The automatic stay does not prohibit creditors from accepting payments from the borrower of the student loan. The automatic stay does not prevent the creditor or servicer from providing informational statements pertaining to the student loan account such as periodic payments statements, providing such statements are not deemed coercive or harassing. The cosigner may encourage the borrower to tender payments on the student loan in accordance with the proper contractual payments. Such effort by the borrower will likely prevent the student loan from entering default status.
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