Court considers student loan discharges

Listen to this article

Washington — Can a student loan be discharged in bankruptcy without a finding of undue hardship?

That is what the U.S. Supreme Court is set to decide after hearing oral arguments in the case United Student Aid Fund v. Espinosa Tuesday.

The case involves Francisco J. Espinosa, who took out four student loans to attend an Arizona trade school. Four years later he filed bankruptcy and sought to discharge the remaining $13,250 in student loans — the only debt he claimed.

In the plan Espinosa included in his bankruptcy filings, he did not allege that failing to discharge the student loans would subject him to undue hardship.

A copy of the proposed plan was sent to the lender. Then Espinosa filed a proof of claim in the amount of $17,832. After the bankruptcy court confirmed the plan, the trustee notified the creditor about the discrepancy in the amounts, with a notice that failure to object would result in confirmation of the plan as submitted. The lender did not object.

Years later the lender began garnishing Espinosa’s income tax refunds citing failure to satisfy the unpaid portion of the student loans.

Espinosa sought to have the creditor held in contempt.

The lender argued that the order confirming the plan had been entered in violation of bankruptcy law, which required the debtor to show in an adversary proceeding that paying off the loans would result in an undue burden. That error rendered the order void, the lender claimed.

The bankruptcy court ruled in Espinosa’s favor.

A U.S. District Court reversed, but the 9th Circuit sided with Espinosa, holding that a student loan may be discharged without a showing of undue hardship if the creditor does not object before the plan is approved by the bankruptcy court.

The lender sought review from the U.S Supreme Court, which granted certiorari.

Void ruling?

At oral arguments, Madeleine C. Wanslee, an attorney in the Phoenix office of Gust Rosenfeld, argued on the lender’s behalf that student loans are non-dischargeable debts unless proven otherwise.

“Their exception from discharge is self-executing unless the debtor proves that repayment will cause an undue hardship on the debtor and the debtor’s dependents,” Wanslee said.

But even if the bankruptcy court erred in discharging the debt, Justice Sonia Sotomayor asked if the lender forfeited its right to object.

“Let’s assume the bankruptcy court judge got it wrong,” Sotomayor said. “How does that give you a right to undo that judgment seven years later? Why does something that’s in error become a void judgment?”

“It’s not mere error,” Wanslee said. “It’s in fact void because of the plain language of these particular specific statutes. They have very precise words, very precise meanings.”

When Wanslee argued that an adversarial proceeding was also necessary, Justice John Paul Stevens asked if that was always the case.

“If there’s not only an affidavit [alleging undue hardship], but an offer of proof, and then there’s no answer filed [by the lender] and nothing in response to the notice — the lender did exactly what it did here — would the case be different?” he asked.

“I don’t believe that undue hardship would be established under those facts,” Wanslee. “Our facts, of course, are a little bit easier. There was never even an allegation of undue hardship, much less proof.”

When Michael J. Meehan, an attorney in the Tucson, Ariz., office of Munger Chadwick representing Espinosa, stepped up to argue, he was quickly questioned by Justice Antonin Scalia.

“Do you acknowledge that what the bankruptcy court did here was wrong?” Scalia asked.

“I acknowledge that it did violate the statute,” Meehan said.

“Okay,” Scalia continued. “And it should not have done it, and future bankruptcy courts shouldn’t do it. It makes a big difference in how I am going to look [at] this case.”

“I hesitate [because] there are, on average, 1,000 Chapter 13 plans filed per bankruptcy judge every year,” Meehan said. “The bankruptcy judges do and are entitled to have creditors make objections.”

“But [here] it was the only debt,” Justice Ruth Bader Ginsburg said. “There was no other debt.”

“If there had been any objection raised whatsoever at any time then it would obviously have been wrong for the bankruptcy judge to confirm the plan,” Meehan said.

“Is it improper for the bankruptcy judge to say, ‘You can’t [discharge student loans] by this mechanism, you have to start an adversary proceeding’?” asked Justice Samuel Alito.

“I do not think that would be improper,” Meehan said.

“That’s not enough for me, that it’s not improper for him to do it,” said Scalia. “I want you to say that that is what he ought to do.”

A decision is expected later this term.

Questions or comments can be directed to the writer at: [email protected]