Student Loans and Bankruptcy

Student loans are probably the most significant debt burden for people under the age of 35. The purpose of this post is to provide an comprehensive overview of the circumstances in which someone can discharge her student loan debt through the personal bankruptcy process.

The 7-Year Rule of Student Loans

The following is an excerpt from subsection 178(1) the Bankruptcy and Insolvency Act (“BIA”) that deals with the issue of how student loans are treated in a bankruptcy:

An order of discharge does not release the bankrupt from…any debt or obligation in respect of a loan made under the Canada Student Loans Act, the Canada Student Financial Assistance Act or any enactment of a province that provides for loans or guarantees of loans to students where the date of bankruptcy of the bankrupt occurred:

(i) before the date on which the bankrupt ceased to be a full- or part-time student, as the case may be, under the applicable Act or enactment, or

(ii) within seven years after the date on which the bankrupt ceased to be a full- or part-time student.

Interpreting The 7-year Rule For Student Loans

Based on a strict interpretation of the above, the completion of a bankruptcy will not release government or government-guaranteed student loans if the bankruptcy was filed when: (1) a debtor was still a student; or (2) if it was filed within 7 years after the debtor ceased being a student (either a full or part-time student).

This strict interpretation has been challenged in the courts by bankrupts seeking to be discharged from their student loans. The courts in these cases have dealt with a very common situation:

1. 1. A debtor took out student loans to attend a program (for example an undergraduate program) from which she graduated over 7 years ago.
   2. However, she subsequently returns to school a second time (for example, to attend a graduate program) but does not take out any additional student loans.
   3. She graduates from the second program within 7 years before she files for personal bankruptcy.

So the question is this: she wants to file bankruptcy and include the student loans she acquired to finance her undergraduate program. But does the 7 years run from the time she graduated from her undergraduate program or from her graduate program?

A strict interpretation of subsection 178(1) of the BIA would suggest that the student loan that arose from her undergraduate program will not be discharged in her bankruptcy proceedings because she returned to school for her graduate program within 7 years before she filed her bankruptcy.

However, the courts have taken a different approach to applying the 7-year role. We shall review some of these cases below.

How the Courts Interpret the 7-Year Rule

In the leading case of McNutt (Re), 2008 NSSC 166 (CanLII), the Court stated that:

The period for the discharge of a student loan should not be calculated from the last day on which the bankrupt last attended an education institution. Time does not start to run again when one returns to studies financed by non-government financing facilities.

The Court followed this approach in another case, Hildebrand, Re, 2010. In the Hildebrand case, a bankrupt’s older student debt was discharged based on loan dates, not by when he had last attended school.

The most recent published case that dealt with the issue of how the 7-year rule should be interpreted is the case of St. Dennis (Re), 2017 ONSC 2417 (CanLII). Here is a summary of this case:

1. 1. The applicant, Nicole Jean St. Dennis, attended post-secondary studies on two distinct occasions.
   2. In her first course of study, Ms. St. Dennis obtained student loans in the amount of $13,370 between August 1996 and April 2001 in connection with a Bachelor of Science program at Laurentian University. She graduated from Laurentian University in October 2004.
   3. In her second course of study, Ms. St. Dennis attended Cambrian College between 2006 and 2007, but did not obtain student loans. She left the program in 2007.
   4.  Ms. St. Dennis filed an assignment in bankruptcy on December 3, 2011.
   5. By virtue of the BIA, student loan debt is not discharged by a bankruptcy if the bankruptcy occurred within seven years after a person ceased being a student.
   6. This case involves a determination of when Ms. St. Dennis “ceased” to be a student for the purpose of determining whether seven years have passed.
   7. Ms. St. Dennis argues she ceased to be a student in October 2004 when she graduated from Laurentian University and therefore her student loan debt is discharged. She urged the Court to adopt the reasoning in Attorney General of Canada v. Collins, 2013 NLCA 17 (CanLII), 334 Nfld. & P.E.I.R. 318 in which the court found that the seven year delay in discharging student loan debt begins to run from the date when the debtor ceased to be a student in relation to that loan: para 22.
   8. The Ministry of Training, Colleges and Universities argues that she ceased to be a student in 2007 when she left Cambrian College and therefore her student loan debt survives the bankruptcy. It argued that the Court should adopt the reasoning in Mallory (Re), 2015 BCSC 5 (CanLII), 19 C.B.R. (6th) 195, where Gaul J. found that the correct interpretation was that there can only be one date upon which a bankrupt ceased being a student and that is the end of the bankrupt’s period of studies prior to their assignment.
   9. The Court sided with Ms. St. Dennis in this case.
   10. It held that the interpretation of Section 178(1) should be guided by the overall purpose of the BIA which is to rehabilitate and reintegrate individuals to allow for future participation in the Canadian economy.
   11. The Court provided that the bankrupt has to wait seven years to have a student loan debt discharged, however, the respondent is really asking that the bankrupt should wait ten years before the debt can be discharged. The Court noted that the multiple date approach is consistent with the legislative intent to discourage opportunistic bankruptcies.
   12. The Court held that permitting a bankrupt to discharge her debts after seven years from the date of the program to which the student loan was connected goes some distance in promoting the intent and purpose of the BIA.

Conclusion

Having reviewed the court cases above, does this imply that student loans will be automatically discharged if they relate to a program from which a debtor graduated over 7 years ago, notwithstanding that she may have returned to school within the last 7 years?

The practical answer is “no” – it is almost assured that government student loan departments will take the position that your student loan debts will not be discharged, even in light of the case law reviewed above.

Therefore, if you are a debtor in this situation contemplating bankruptcy, it is likely that you will need to retain legal counsel and make an application for relief from your student loan debt, and that application will likely be opposed by the government student loan department.

Applying to Court for a discharge of student loans

Now, if a debtor’s student loan debts aren’t discharged when she has completed her bankruptcy because she had filed her bankruptcy within 7 years of ceasing to be a student, she can still seek relief from the Court.

Subsection 178(1) of the BIA continues to state that:

At any time after five years after the day on which a bankrupt who has a debt referred to in paragraph (1)(g) [i.e., student loans] ceases to be a full- or part-time student ….the court may, on application, order that subsection (1) does not apply to the debt if the court is satisfied that

(a) the bankrupt has acted in good faith in connection with the bankrupt’s liabilities under the debt; and

(b) the bankrupt has and will continue to experience financial difficulty to such an extent that the bankrupt will be unable to pay the debt.

So if a bankrupt has been discharged from bankruptcy but still has undischarged student loans, she can apply to Court to be discharged from those loans once she’s been out of school for 5 years.

Note the keywords emphasised in the above excerpt – in order for such an application to be successful, the bankrupt has acted in good faith in attempting to service her student loan debts and she will continue to experience financial difficulty and will be unable to pay her student loans.

We shall now examine some court cases which provide some specific guidance on assessing whether a debtor was acting in good faith and will continue to undergo financial hardship.

Acting in Good Faith With Student loans

In the leading case of Swann (Trustee of), 2001 BCSC 1175 (“Swann”),  Master McCallum outlined the factors to be considered in determining whether a bankrupt has acted in good faith:

1. 1. Was the money used for the purpose loaned?
   2. Did the applicant complete the education or make an honest effort to do so?
   3. Did the applicant derive benefit from the education in the sense of gaining employment in an area directly related to the education?
   4. Did the applicant make reasonable efforts to pay the loan or did the applicant make an immediate assignment into bankruptcy?
   5. Did the applicant take advantage of other options with respect to the loan such as interest relief or loan remission?
   6. Was the applicant extravagant or irresponsible with her finances?
   7. Did the applicant fairly disclose her circumstances on the application for the loan in the sense of acting with an honest intention?

Moreover, in another leading case of Kelly, Re, 2000 CanLII 22497 (ON SC), Registrar Sproat added the following factors:

1. 1. What was the timing of the bankruptcy?
   2. Did the  student loans form a significant part of the bankrupt’s overall indebtedness as of the date of bankruptcy ?

Please note that this is a non-exhaustive list. If a bankrupt is making such a court application, the Court may look at additional factors that may be particular to the bankrupt’s circumstances in order to determine whether she’s been acting in good faith.

Continued Financial Hardship Servicing Student Loans

The BIA does not provide any guidance to the court as to the appropriate duration of time into the future wherein a bankrupt must experience financial difficulty in repaying her student loans. Whether someone will continue to experience financial difficulty will be dependent upon the facts of a particular case.

With that being said, court cases have examined the following situational factors:

1. 1. Whether the bankrupt is currently employed and if not, her prospects for employment.
   2. A historical analysis of the bankrupt’s income and that of her household along with their living expenses to determine if there has been any extravagance in spending

Conclusion

If a bankrupt meets both the criteria of good faith and the hardship test, the Court will generally grant relief from student loan debts.

However, it should be noted that even if a bankrupt meets the good faith and financial hardship test, the Court still has the discretion to deny a bankrupt the relief sought in her application.

Non-Government Student Loans

Now, what if you borrowed money for your studies outside of a government student loan program – for example, a student line of credit with a bank?  Will such a debt be extinguished once you receive your discharge from bankruptcy?

The general answer is “yes”. Such a “student loan” is a private loan and would be treated no differently than credit card debt or any other bank loan. Here is an excerpt from the leading case of Boyle (Bankruptcy), Re, 2005 CanLII 28174 (ON SC), paragraphs 9 through 12 that explains why non-government student loans are not treated the same way as government student loans:

[9] I feel it is important to make the distinction between the Canada Student Loan Program and non-government student loans. Government loans are made in application to a Program that is available to all students who meet the established criteria without reference to credit or to any capacity to reimburse. They are of public interest. Abuses reflect on the integrity of the Student Loan Program. Non-government student loans are business decisions made according to the policy and at the discretion of some particular granters; they are made to borrowers who can establish that they will be able to reimburse. These loans are of private interest. Abuses reflect on the integrity of the insolvency system.

[10] The main difference between both kinds of claims is related to public policy and public interest. Courts, consistently, wanted to protect the Canada Student Loan Program because it didn’t seem right to allow a bankrupt to be discharged without conditions when he or she has acquired a life-time asset “largely at public expense”, as Justice Orsborn mentioned in Re Coffey (2004) 2004 NLSCTD 22 (CanLII), 2 C.B.R. (5th) 121 (Nfld S.C.).

[11] For these reasons, it is clear in my view – and with full deference for contrary views – that the special treatment given to claims for student loans was associated with government student loans only. I fail to see how non-government student loans should share the same treatment as government loans while they don’t share the same features.

[12] I conclude that, in this case, the claim of TERI should fall within the same category of any non-governmental student loan.

A major exception to this rule of thumb is debt incurred to finance professional studies such as law school or medical school.

For example, if a medical student borrows money privately from a bank, current case law states that she will be required to repay all of the loan proceeds to the bank via her trustee. The reasoning behind this decision by the bankruptcy courts is that the loan money was used to finance the student’s medical studies. The knowledge she acquired in medical school is an “asset” – she will earn substantial income in the future once she graduates from medical school and obtains her license. Therefore, the trustee is required to “realize” on this asset by requiring the debtor repay the debt.