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Students trapped in private loans, with no bankruptcy protection

By Michelle Singletary
Thursday, April 29, 2010; A13

Valisha Cooks assumed that the college education she financed with debt -- about half of it in expensive private student loans -- would pay off handsomely.

Cooks, like so many others, assumed wrong.

"When I took out private student loans, I had no idea that I was condemning myself to a lifetime of ruined credit, harassment by collection agencies and the hopelessness of endless debt," Cooks recently told the House Judiciary subcommittee on commercial and administrative law, which had convened to discuss legislation allowing borrowers to shed private student loans by filing for bankruptcy protection.

Many people are indeed better off financially with a college degree. It can increase their lifetime earnings potential. But too many others unwisely accumulate excess debt in pursuit of a degree, and then certain life circumstances, such as an illness or low pay, make it difficult for them to handle the crushing loans.

Cooks's testimony is not unlike many other stories that I hear, and her words of despair and defeat make a good case for allowing these loans to be wiped away for down-and-out borrowers.

Cooks, a single mother from Los Angeles, graduated with about $41,000 in federal loans and $36,000 more in private loans. The principal on the private loans had increased to $53,000 over three years, she told the subcommittee. Her payments were $1,150 a month, $750 of that for private loans. Cooks testified that her loan payments were more than half of her net monthly pay.

Cooks did what so many others do when their debts become too burdensome. She filed for bankruptcy protection -- but it was a futile move.

"This was not a decision I made lightly," she said. "Filing for bankruptcy was expensive and, most of all, humiliating. I was raised to work hard, pay my bills and be responsible." About $10,000 in other debt was erased. But not her student loans.

"Now, even though I have a good job, I can't afford to pay all my bills in any one month," Cooks told the subcommittee. "I go to food banks to feed my son, and I will never be able to afford a house." Like child support and tax debt, student loans are nearly impossible to eliminate in bankruptcy. You have to prove "undue hardship." That's a high hurdle to jump.

Before, the only loans that couldn't be canceled by filing for bankruptcy were federally backed student loans, as well as loans where nearly all the funds came from a nonprofit institution, according the National Association of Student Financial Aid Administrators. In the case of the federal loans, this made sense. The government backs the loans, and defaults are a direct hit to the federal budget, meaning we all pay for those who can't.

But in 2005, during a major overhaul of the bankruptcy code, private student loans were given an elevated status and thus couldn't be discharged. This didn't make sense. If we are going to have a fair bankruptcy system, private education loans should be treated the same as other private consumer debt. That's the risk lenders take, similar to the risk borne by providers of loans for cars, homes or other consumer purchases.

Lenders and opponents of this legislation argue that if people can erase their education debt, private loans for college will be tougher to qualify for and harder to get. There's a concern that people will get an education and immediately run to bankruptcy court to shed their loan obligations before they make big money.

I covered bankruptcy for years, and seldom did I see bankruptcy petitioners gleefully sitting in the corridors of a courthouse eagerly waiting to shirk their financial responsibility. People usually seek bankruptcy protection as a last resort. Besides, there is a test in place to prevent people from scamming the system.

There have been some attempts to pull private loans out of this special status and allow borrowers to get rid of the debt in bankruptcy, but so far they have gone nowhere. Perhaps with Congress eyeing major legislative changes this session, the time is right to correct something that should have never been done in the first place.

Using an income-based repayment program available only for federally backed student loans, Cooks was able to get her federal loan payments to $124 a month. Her private lender was unwilling to greatly reduce her payments, Cooks testified. She sends what she can. Still, her private loans are in default. Her wages may be taken from her.

Without the shield from client bankruptcies, the lender doesn't have a huge incentive to negotiate a lower payment.

"I think part of the reason why my lender refuses to help me in any way is that they know I am stuck with the loan no matter what," Cooks said.

This time, Cooks's assumption is right on the money.

Readers can write to Michelle Singletary at The Washington Post, 1150 15th St. NW, Washington, D.C. 20071.

Comments and questions are welcome, but because of the volume of mail, personal responses are not always possible. Please note that comments or questions may be used in a future column, with the writer's name, unless a specific request otherwise is indicated.

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