Ninth Circuit Discharges Student Loan on Issue of First Impression

By now, we are all aware of the student debt crisis this country and the lack of relief available through bankruptcy. Borrowers have an uphill battle when it comes to meeting the undue-hardship test and qualifying for a discharge of their student loans. While the government has addressed the problem through Income Based Repayment Plans for government loans, private student loans remain an extreme economic burden for millions of people.

Although some courts seem to be loosening the standard for a showing of undue hardship, the noose remains tight. However, there is some good news. In a case of first impression, the Ninth Circuit has found a loophole, allowing for the discharge of certain student loans without a showing of undue hardship. In Institute of Imaginal Studies, dba Meridian University vs. Christoff,[1] the Ninth Circuit addresses whether tuition advanced to debtor by a for-profit college is excepted from discharge pursuant to § 523(a)(8)(A)(ii).

Debtor Tarra Nicole Christoff attended Meridian University, a private, for-profit California-licensed institution that offered studies in psychology. Meridian advanced tuition as credit to be repaid when the debtor received her degree. There was no third-party lender, and the debtor did not receive any funds directly from Meridian. The debtor signed a few promissory notes, which included interest on the unpaid balance of 9 percent per annum, compounded monthly, which was to be paid at $350 per month. After completing the program, the debtor made payments on the notes but subsequently defaulted and filed for chapter 7 bankruptcy. Meridian filed an adversary proceeding against the debtor claiming that the debt was excepted from discharge under § 523(a)(8)(A)(ii). The bankruptcy court granted the debtor’s motion for summary judgment and held that the debtor’s “loans” were not excepted from discharge under § 523(a)(8)(A)(ii). Meridian appealed, and the Ninth Circuit BAP affirmed.

The question to be answered by the BAP was, Does § 523(a)(8)(A)(ii) require that actual funds be received by a debtor, or received from a third party to a for-profit post-secondary educational college, in order for the student debt to qualify for an exception to discharge under that provision? Section 523(a)(8)(A)(ii) does not discharge a debt absent a showing of undue hardship for “an obligation to repay funds received as an educational benefit, scholarship or stipend.”[2]

Meridian argued that there need not be a physical exchange of funds for a debt to be considered “an obligation to repay funds received.” Meridian relied on McKay v. Ingleson,[3] a pre-BAPCPA case that addressed the issue of whether an agreement between the debtor and Vanderbilt University, a nonprofit institution, was a loan for purposes of § 523(a)(8)(A)(i). At the time McKay was decided, § 523(a)(8)(A)(i) was simply § 523(a)(8). This distinction becomes important in the BAP’s analysis in Christoff. In McKay, the debtor and Vanderbilt University entered into a contract wherein tuition and educational costs would be charged on an account and billed monthly. The debtor was to pay the bill at the end of each month, or a late fee would incur. The bankruptcy court found that the agreement created a “loan” as defined in § 523(a)(8)(A)(i) (formerly § 523(a)(8)). The court concluded that an actual exchange of funds was not required to deem the agreement a “loan” that qualifies for the discharge exception because the debtor was allowed to attend classes. The Ninth Circuit affirmed relying on Johnson,[4] another pre-BAPCPA case that found that it is inconsequential whether a debtor receives actual funds; an extension of credit is a “loan” under § 523(a)(8)(A)(i) and is a nondischargeable debt. The critical distinction in McKay and Johnson is that both of the universities in question were nonprofit institutions, and therefore the applicable law relating to the agreements was § 523(a)(8)(A)(i). Section 523(a)(8)(A)(i) does not discharge a debt absent a showing of undue hardship for “an educational benefit overpayment or loan made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or non-profit institution.”[5]

Meridian then argued that the term “loan” as defined in § 523(a)(8)(A)(i) is synonymous with the term “funds received” as described in § 523(a)(8)(A)(ii), and since the Ninth Circuit had already determined that funds do not need to be exchanged in order for an agreement to be considered a “loan,” Meridian’s arrangement with the debtor constitutes a dischargeable student loan.

Enter BAPCPA

Prior to BAPCPA, there was only § 523(a)(8)(A), which provided that, absent a showing of undue hardship, a discharge would not apply to a debt for “an educational benefit overpayment or loan made, insured or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit, or non-profit institution, or for an obligation to repay funds received as an educational benefit, scholarship, or stipend.” After BAPCPA, there were three distinct sections of § 523(a)(8) wherein Congress created (A)(i) and added (A)(ii) and (B). The creation of new subsections A(i) and A(ii) separated the pre-BAPCPA § 523(a)(8) language into two distinct subsections. The debtor argued that since Congress did not use the term “loan” in the newly created (A)(ii), it intended for the exception to discharge to extend to a different type of debt: one where the debtor “received funds.” Therefore, Johnson and McKay don’t apply because those cases dealt with “loans” as defined in (A)(i) and not the newly created (A)(ii), which specifically leaves out the term “loan” and instead reserves the term “funds received.”

The BAP further reviewed Ohio Univ. v. Hawkins (In re Hawkins).[6] While Hawkins was another pre-BAPCPA case, it construed the same language at issue as in Christoff. In Hawkins, Ohio University and the debtor contracted that admission to its medical school would be predicated on the debtor practicing medicine in Ohio for at least five years after licensure, otherwise she would be subject to liquidated damages. The Hawkins court determined that the agreement was not a “loan “as described in § 523(a)(8) because the agreement contained arbitrary repayment terms. The court then had to decide whether the agreement was “an obligation to repay funds received as an educational benefit” (under the second part of pre-BAPCPA § 523(a)(8), now § 523(a)(8)(A)(ii)). The court found the plain language to be clear. Funds received means funds received, and since the debtor did not receive funds, the debt did not meet the requirement for nondischargeability.

The BAP ultimately agreed with the analysis in Hawkins and further agreed with the debtor that when Congress severed § 523(a)(8), it meant to distinguish “loans” made in connection with nonprofit and government agencies from “funds received” by for-profit institutions, clearly creating a prerequisite that funds be received from a for-profit college in order to be classified as nondischargeable student debt. While this decision is sure to help many student borrowers seeking bankruptcy relief, undoubtedly the overall problem endures, as there is nearly $1.2 trillion in student loan debt nationwide. If we could just get Congress to pass Senator Durbin’s student loan bill, The Fairness for Struggling Students Act of 2015, we would be on our way to deactivating this student loan debt bomb in America.