The 8th Circuit Opens the Door to Partial Discharge of Student Loans and Upends the Totality of Circumstances Test

Most student loans are nondischargeable in bankruptcy unless a student can show that repayment of the loans will cause the student an "undue hardship".¹ Undue hardship is not defined in the statute, so courts have developed criteria to determine whether an undue hardship exists.  Most Circuits apply the three prongs set out in Brunner v. New York State Higher Education Services Corp².  In order to obtain a hardship discharge, a student must show:  "(1) that the debtor cannot maintain, based on current income and expenses, a "minimal" standard of living for herself and her dependents if forced to repay the loans; (2) that additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans; and (3) that the debtor has made good faith efforts to repay the loans".³  Not many students can meet this burden, and if they can, their life circumstances are not enviable.

The Eighth Circuit is the only circuit that does not apply Brunner.  Rather, it employs a "totality of the circumstances" test which "considers (1) the debtor's past, present and future financial resources; (2) the debtor's reasonable and necessary living expenses; and (3) any other relevant circumstances. The burden of proving undue hardship lies with the debtor"⁴ .

In Conway v. National Collegiate Trust (In re Conway)⁵,  the Eight Circuit seems to dismantle its own test.  Conway graduated with a B.A. in Media Communications in 2005.  She was able to secure full-time employment over the next few years; however she was laid off from both of her jobs.  Conway filed for Chapter 7 bankruptcy in 2009, obtained a discharge, and then reopened the bankruptcy in 2011 to seek a discharge of her student loans.  Although she had other student loans, the only loans considered at trial were fifteen loans owing to one private loan holder.  At the time of the trial, Conway held two part-time jobs as a server in restaurants. The bankruptcy trial court denied her a discharge, finding she had at least 30 years to establish herself in the world of work and that her future financial resources should allow her to repay her student loans.

While not disturbing the factual findings upon which the bankruptcy court found that the student will have reasonably reliable future finances to pay, the Bankruptcy Appellate Panel (BAP) reasoned differently.  Instead of looking to future possibilities, the court stressed it could not engage in speculation, and looked only to Conway's past and current earnings as evidence of what she may make in the future.⁶  

The Eighth Circuit BAP, in accordance with most other courts, acknowledged in Conway that it had no authority to grant partial discharges of student loans.  However, it found a way to do just that. The case was reversed and remanded to the bankruptcy trial court to individually determine the dischargeability of each of the fifteen student loans in light of the debtor's current yearly income.⁷ Clearly by reviewing each of the fifteen loans, the court could make the determination that some could be paid and some could not.  While requiring a review of each loan separately, the 8th Circuit BAP gave no guidelines for that review.

This is a stunning ruling. It effectively prevents a bankruptcy court in the 8th Circuit from looking at any evidence of future earning potential and focuses on a student's past and current income.  Although the court did not overturn the "totality of circumstances" test, how can a bankruptcy court apply the first prong requiring consideration of the debtor's past, present and future financial resources?  If it cannot speculate, the court reasons, then the only evidence of earnings is past and present.  But, isn’t the court speculating that the debtor will never improve her finances in the future?  She could win the lottery, come into an inheritance, or get a full-time job that pays well within her field of study. 

So, if a highly trained professional chooses to work part-time in a low-paying job and establishes a pattern of low earnings, is the court only going to look at those earnings to determine a future ability to earn and pay student loans? Can future income potential still be part of the "totality of circumstances" test?

To the extreme, Conway may also be read to overturn student loan non-dischargeability set forth in 523(a)(8).  The mere filing of schedules I and J, showing a student's income is insufficient to pay student loans, could arguably establish they should be discharged.  It is unlikely that a court would extend the reasoning this far, but the decision gives bankruptcy courts more leeway to find loans dischargeable.

Will other courts in other circuits start to relax their analysis of the undue hardship test in Brunner?