Discharging your student loans in bankruptcy is notoriously difficult. Difficult, but not impossible.
That’s the surprising message behind a new company aimed at helping consumers through the process. Reset Button, launched last week, will connect consumers who would be good candidates for discharges with attorneys who have experience handling those cases.
Nearly one in five American adults has student debt, and the total amount owed—$1.5 trillion—has ballooned since 2005, the last time the bankruptcy law was updated. The number of borrowers who are defaulting on their student loan payments has also risen, to more than seven million now.
At the start, the company will serve people who’ve declared bankruptcy but haven’t pursued a student debt discharge. About one in four of the one million Americans who declare bankruptcy each year have student loans, says Rob Hunter, CEO of Reset Button. Yet only a few hundred people each year attempt to discharge that student debt via bankruptcy, he says. That's in part because federal law requires borrowers to prove the extent of their financial struggles in order to get rid of student debt in bankruptcy, a process that has a reputation for being challenging.
In that light, Reset Button launches at a prime time—the status quo around bankruptcy and student debt is evolving. Advocates hope a recent case in which a debtor successfully discharged more than $200,000 will influence future cases. High-profile politicians are pushing for an update to the law that’d provide relief for student loan borrowers. Last year, a panel convened by the American Bankruptcy Institute also recommended that the law be updated.
After an initial evaluation with Reset Button to determine whether they'd be a good fit, users will pay a $300 monthly fee into an escrow account. That money won't actually go to their attorney unless the attorney is successful in eliminating at least half the client's balance. If so, the monthly payments will be applied to the total legal fee—12% of the amount discharged. But if the attorney is unsuccessful, the client will get their money back.
Reset Button isn’t necessarily lowering the amount consumers would pay compared to if they found an attorney on their own. They’ll likely still end up spending a minimum of $10,000 in a successful case, Hunter says. But the company allows them to bypass a hefty upfront payment, replacing that with monthly installments after a successful case.
On the other side, attorneys get a fixed amount upfront regardless of whether they win. Hunter declined to share how many attorneys are currently in Reset Button’s network—saying it's growing so quickly after news of the launch that the number would quickly be out of date—or the specifics of their financial agreements with Reset Button.
The Rules of Bankruptcy & Student Loan Discharges
Discharging your student loans in bankruptcy may not be impossible, but it is certainly harder to eliminate than any other consumer debt. Chapter 7 bankruptcy, the most common type, is basically an administrative process in the courts, says Dalié Jiménez, a law professor at the University of California-Irvine. Six to nine months later, the case is closed and you get a fresh start.
When you want to discharge student loans, though, you have to file what’s called an “adversary proceeding.” Think of it like filing a lawsuit, and you’re naming the federal government, via the Department of Education and its actors, as the defendant, Jiménez says.
Jason Iuliano, a law professor at Villanova University who helped found Reset Button, has been tracking the outcomes of those adversary proceedings for several years. When he first published his results, he found 40% of borrowers who go through an adversary proceeding are successful. In the past two years, that’s climbed to 60%, he says.
What’s more, the consumers who are successful are firmly in the middle class, with income coming in, he says. Iuliano counts a success as a discharge, partial discharge, or settlement. The average amount discharged is about $30,000, he says.
If at least half of borrowers who go through with the process are successful, why is it so commonly understood to be impossible? For one, there have been some high-profile cases in which borrowers lost, Iuliano says. But he's also seen a trend where the government is more likely to litigate cases it thinks it has a strong chance to win, and it'll settle the rest. When attorneys look for case precedent, the judicial opinions they find are the one that favor the creditor.
“The optics look like they’re losing when in fact they’re not,” he says. As a result, attorneys often tell consumers it’s not worth it to go through with attempting discharges. “It really struck me that there’s this whole gap between client needs and what the consumer bankruptcy bar is doing at the moment.”
Some of the emphasis on the need to update the existing standard has come from judges themselves, according to the Wall Street Journal. In January, Cecelia Morris, chief bankruptcy judge for the Southern District of New York, granted a full discharge in the amount of $220,000 to Kevin Rosenberg, a ruling described as "stunning." In her decision, she wrote the belief about the supposed difficulty of meeting the circumstances to have student debt discharged has become so widespread that it has reached "mythic proportions," and that her court wouldn't "participate in perpetuating these myths.”
To discharge student loans through bankruptcy, a borrower must prove what’s called an “undue hardship.” The law doesn’t define the term, so it has fallen upon judges and case precedent to do so. Most courts rely on what is known as the Brunner Test, stemming from a 30-year-old case. It requires borrowers to prove they are currently unable to repay, that their financial circumstances are likely to continue, and that they’d made an effort to repay. In other words, judges have to assess a borrower’s finances in the past and present, and predict them in the future.
Recent Cases Have Mixed Outcomes
Based on Iuliano’s research that shows those who do attempt to discharge their debt have moderate success, Reset Button's founders want to change the narrative around student debt and bankruptcy.
But in doing so, they might lead borrowers to believe it is easier than it is, says John Rao, an attorney with the National Consumer Law Center. Rao says he’s on board with the message that it’s not an impossible task. Yet after following cases closely over several years, he wants to stress that it is still difficult.
“I’m a little concerned if they’re trying to sell this to consumers as a sort of walk in the park,” he says. "This is a process that's not like simply hitting a reset button."
Trials can carry on for a long time, and the Department of Education comes at them with "scorched-earth litigation,” Rao says. When debtors are successful, an appeals case is all but guaranteed. In a case out of Philadelphia in 2017, for example, a judge ruled in favor of a single mother, cancelling her nearly $30,000, but an appeals court later overturned the decision. And the Rosenberg case, widely heralded as a boon for consumers, is set for an appeal.
Consumers should also keep in mind that your chances of success may depend in part on where you live. Last year, in what Jiménez calls the strictest decision in recent memory, an appeals court out of Texas confirmed a ruling that denied a discharge for a woman in her 60s who had trouble finding work because of a medical condition. She sought a discharge of $7,000.
On the other hand, earlier this month in New York, U.S. Bankruptcy Court Judge Michael Wiles ruled in favor of a debtor, ordering the Department of Education to reduce his $96,000 debt to an amount that'd be payable in $250 monthly installments. The attorney on that case, Natalie Jean-Baptiste, says it took about three years from her client's initial adversary proceeding to getting the judge's decision. But that's unusually long. Generally, her cases that go to trial take about 18 months.
Jean-Baptiste hadn't heard of Reset Button, but she liked the idea of raising awareness of the possibility of bankruptcy for student borrowers. She started practicing bankruptcy law seven years ago, after representing herself in her own student debt case. Everyone told her it'd be impossible or that she was wasting her time. It was hard, no doubt, but she says she was able to reduce her $156,000 in federal loans to $36,000.
"I’m like, 'why doesn’t everyone know this is an option?"
Correction: This story has been updated to clarify Reset Button's pricing structure. It also originally referred to Reset Button as an app. Users will actually access the service through a website.