A $221,385.49 problem

Before the Founding Fathers agreed on enumerating the right to free speech in the Constitution, or religion, or the right to bear arms, they agreed on something else: the establishment of federal bankruptcy law.

  • Article I, Section 8 of the Constitution, ratified by the 13 original colonies between 1787 and 1790, says Congress has the power to establish “uniform laws on the subject of bankruptcies throughout the United States.”

  • However, the Bill of Rights, including the individual rights we take for granted as Americans today, wasn’t fully ratified until 1791, a full year later.

I've always found it interesting that they did this first. My understanding is that it wasn’t because they were particularly fond of debtors who might have to file for bankruptcy.

Rather, they didn’t want individual states to pass their own bankruptcy laws that might actually be more pro-debtor.

Regardless, they took it for granted: there has to be a system of bankruptcy, because sometimes it’s the only way for people in debt to move on and rebuild.

Okay, now let’s fast-forward to 2020, and talk about a debt that 44.7 million Americans owe: student loans.

It adds up to $1.6 trillion, in fact, and it’s become one of the biggest political issues in the country. It’s also a significant part of why many millennials and members of Generation Z believe they've fallen behind earlier generations.

If you have (or had) student loans, you probably remember a key piece of conventional wisdom. Unlike almost every other kind of debt, you supposedly can't get rid of them by filing for bankruptcy.

But hold that thought.

This never made any sense to me—not because we want to encourage people to be irresponsible about student debt (versus any other kind of debt), but because the risk of a debtor defaulting is supposed to be baked into the terms of a student loan to begin with.

In other words, if I lend lots of people money and charge say, 5 percent interest, part of the interest is supposed to cover the risk that some of the people ultimately won’t repay.

About 250,000 student loan borrowers file for bankruptcy each year, but only about 400 of them bother trying to get rid of their student loans in court, perhaps because of the perception that doing so is impossible.

However, a new federal ruling casts some doubt on the idea that student loans should be in this special category—immortal, no matter what.

Judge Cecelia G. Morris, a federal bankruptcy judge in Poughkeepsie, N.Y., issued the ruling last week: discharging $221,385.49 in student loans that a Navy veteran with a law degree had accrued before filing for Chapter 7 bankruptcy.

“What I found most fascinating, and I think heartening,” Jason Iuliano, an assistant professor of law at Villanova University and an expert on bankruptcy, told Yahoo Finance afterward, “is the very strong language that the judge used to call out … this ‘quasi-mythic status of student loan non-dischargeability.’”

I don't think anybody actually wants to file for personal bankruptcy if they can avoid it. The stigma is real, and the damage to personal credit is significant.

Sometimes, however, it's the only way debtors can restart theirs lives.

Now, admittedly, if I were trying to recruit a sympathetic person to bring this bankruptcy petition and try to get this kind of ruling, I don't think I would have chosen the petitioner in this case to be the poster child.

Kevin J. Rosenberg, 46, of Beacon, N.Y., is a former naval officer who ran up his debt largely while attending law school.

After passing the bar exam in both New York and New Jersey, and working in a law firm, he said he decided practicing law simply wasn't for him.

Without a law firm salary, he had almost no chance of paying off his debt, and the judge agreed that was largely enough, applying a three part analysis called the Brunner test that asks:

  • Can the debtor maintain a “minimal” standard of living with the loans in place?

  • Is the situation likely to persist?

  • Has the debtor has made good faith efforts to repay the loans before bankruptcy?

There will certainly be an appeal in this case. But some law professors suggested that decisions like this one could suggest a light at end of the tunnel for student borrowers who can’t see any other way out.

Whether you like the ruling or not, just remember: the Founding Fathers agreed enough to write it right into the Constitution.

7 other things worth a click

  1. How can we miss you if you won’t stay away? The former CEO of Away, who stepped down a few weeks ago after complaints about her culture and style, announced she’s coming back. (Gizmodo)

  2. These high school textbooks have the same titles, and even the same listed authors, but the text inside (aka, the actual history) is different based on whether you buy them in California or Texas. (The New York Times).

  3. How companies track the ROI on giving away free snacks in the office. (Digiday)

  4. Luke Skywalker quit Facebook. (Twitter)

  5. Americans are drinking less wine, for the first time in 25 years. (The Wall Street Journal)

  6. Not to get too deep into the royal family drama, but this compendium of how tabloids covered Kate Middleton, versus how they covered Meghan Markel, is pretty stunning. (BuzzFeedNews)

  7. America’s new favorite “restaurants” are convenience stores like Wawa and 7-Eleven. (CNN)

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