Thousands of college graduates are facing a student loan crisis.
The job market is shrinking, and the sour economy is preventing employers, parents and relatives from helping those who are behind on payments.
Student loan defaults are at their highest rate since 1998, and likely will go higher. And though federal student loans offer some payment modification options, private loans are far more onerous, because even filing for bankruptcy rarely wipes out the debt.
Congress might tackle bankruptcy law reform again this year, but it decided as recently as last year not to allow student loans to be easily discharged through bankruptcy filings.
Without such an option, many college grads are saddled with debt and unable to buy a home or obtain other credit. That can leave them in some cases unable to pursue the careers they studied for because they must take low-paying jobs just to try to keep up.
But lawmakers should move carefully on any reform, banking industry officials say.
"If private student debt can be discharged in bankruptcy, that creates risk, and the result will increase the cost of tuition," says Scott Talbott, chief lobbyist for the Financial Services Roundtable.
Helping gamblers, not students
The cost of going to college or graduate school is rising. On average, the public college experience costs a student $6,585 annually, up 6.4% from a year prior. Private tuition costs $25,143 annually on average, up 5.9%.
FinAid.org, a financial aid information source, says that two-thirds of four-year undergraduates leave college with debt. Graduate and professional students borrow between $27,000 and $114,000.
Bankruptcy law allows for discharges of credit card debt, car loans and even gambling debt, but not student loans.
A student loan debtor must try to claim an "undue hardship" to seek bankruptcy protection — a claim that is successful at best about 50% of the time. Unlike a traditional bankruptcy filing, a hardship filing requires debtors to file a lawsuit against creditors. That pits the student against corporate lawyers and defense teams, and often requires an expert witness, which can cost the graduate thousands of dollars to arrange.
"We're talking about people who are in bankruptcy because they don't have money," says Rafael Pardo, associate professor of law at Seattle University and co-author of a recent research report about undue hardship litigation. "Yet we're asking them, 'If you want relief, you have to find a way to pay for a full-blown lawsuit.' "
Renee Marie French wanted to file for an undue hardship claim in 2006 when she stopped working so she could care for her mother, who had cancer, in Albany, N.Y. As an unmarried parent of one child, French was unable to pay for a lawyer. But Thomas Califano, a bankruptcy attorney, agreed to provide pro bono service.
Even though French was able to go through the process, a judge ruled against her.
The whole process is unfair and extremely difficult, Califano says. Since then, French's student loan has risen from $14,000 to $44,000 because of interest and penalties. And her life is more difficult. Her mother died, as has her stepfather. She works as a registered nurse and earns $20 an hour.
"I pay $1,000 in child care, so I don't make enough to pay for my bills," says French. "I pay $25 a month to the collection agency."
Law toughened in 2005
Discharging student debt used to be easier.
"When I first started practicing bankruptcy law 22 years ago, you could wipe away student loans that were more than 5 years old," says Nora Raum, a bankruptcy attorney in Virginia.
Gradually, bankruptcy law changed. In 1998, Congress ruled that federal student loans were not allowed to be discharged except under the undue hardship provision. In 2005, private loans, which can carry terms up to 25 years, came under the same regulations.
Student loans more than doubled in the past 10 years, from $41 billion to $85 billion, according a 2008 report by the College Board, a non-profit organization of colleges, universities and other educational institutions. During the same period, private loans soared from 7% of student loans to 23%.
"Many students are borrowing from both federal and private loans," says Sandy Baum, senior policy analyst at the College Board. "I think we're going to start to hear a lot about how those people are unemployed and can't pay back those loans. And nobody is going to help them with that."
Federal loans offer financially distressed borrowers options, such as forbearance, extended terms and alternate repayment. But there is no escaping the loan altogether: the federal lender can pursue repayment forever because the debt statute of limitation does not apply.
It does for private loans, but they can be costlier and offer fewer relief options. Lenders often fail to offer relief to the neediest borrowers, says a report issued last month by the National Consumer Law Center.
"I feel like it's a real shame that people like me are coming out of college, weighed down by all this debt," says Austin Light, 24, a journalist for The Mecklenburg Times in Charlotte. He and his wife have $100,000 in student loans. "My dream is to be full-time children's book author and illustrator, and if I wasn't shackled with this debt, I would be pursuing that."
Kim Prewitt of Baltimore is in worse financial distress.
She graduated from law school with about $140,000 in student loan debt and no job offers from her field. To get by, she started working at a bank. But she recently lost that job.
Prewitt is allowed to temporarily stop making payments on her federal loans, although the interest continues to pile up. About one-third of her debt is from private loans, so she must continue making payments.
"I do not know which way to turn," she says. "Even once I have that full-time job so I can make the monthly payments, I am looking at 15 to 30 years to pay this off."
Trying to turn back the clock
President Obama wants to reform the student loan system, but even if his plan is approved by Congress, it won't help the graduates who already are underwater.
Sen. Dick Durbin, D-Ill., says he plans to re-introduce a bill that stayed in the Judiciary Committee last year. It would turn back the 2005 change in bankruptcy law and allow private student loans to be discharged.
"The sky-high interest rates on private loans combined with questionable practices by lenders and the exponential growth of the private student loan market over the past decade have resulted in mountains of debt that can follow students from graduation to the grave," Durbin says.
Rep. Danny Davis, D-Ill., also plans to keep pushing for a change in the bankruptcy law. He introduced a bill that was voted down last year.
"I think the purpose of bankruptcy is to provide some sense of release for people when they've gotten totally overwhelmed," he says. "It's difficult for me to understand why we can't treat student loans the way we treat some other indebtedness."
Since the law stopped allowing private student loans to be discharged, loans are not any cheaper, says Lauren Asher, acting president of the Institute for College Access and Success. So the argument that reform will cause increased college costs doesn't hold, she says.
But not everyone thinks that bankruptcy is the best option.
"I don't support it, but I don't have a solution," says Peter Mazareas, vice chairman of the College Savings Foundation, a non-profit advocacy group for college savings plans.
"It is going to be a generational challenge in terms of the current students who are maxing out on their loan indebtedness, now realizing that they will have to pay $1,500 to $2,000 a month for the next 10 to 15 years," Mazareas says.
It is apparently on many people's minds.
In January, Robert Applebaum, a 35-year-old lawyer, launched a Facebook campaign called Cancel Student Loan Debt to Stimulate the Economy. He was furious that billions of dollars were going to help the banking industry, but not the middle class.
"I just wanted to get my thoughts out, and I posted it in a Facebook group," he says. "I never had the expectation of more than 10 people reading it."
Now 188,000 people are members of the group.
Applebaum, who still owes $96,000 in student loans, has launched a non-profit organization and website.
His aim is to expose inequities and unfairness in the student loan industry: "Students are graduating with incredible amounts of debt, so they are starting out with their hands tied behind their back."