A government guaranteed student loan is only discharged when you file bankruptcy in Canada if, when you file bankruptcy, you have “ceased to be a student” for at least seven years prior to filing.  So, for example, if you graduated in May, 2005, you have to wait until June, 2012 before you can file bankruptcy and expect for your student loans to be automatically discharged.

There is a special rule that says that, in cases of “hardship”, the bankrupt may apply to bankruptcy court after five years to have their student loan reduced or discharged.

In addition, even if a student loan is more than seven years old, it is possible for the government to oppose the former student’s discharge and request that the bankrupt repay some or all of their student loan.

You read that sentence correctly: even if your student loan was more than seven years old when you went bankrupt, the government could object, and you could still end up being required to pay some or all of it back.

If a former student applies under the “hardship” rule for five year old student loans (section 178 (1.1)), or if a creditor opposes the discharge of a bankrupt even when the loans are more than seven years old, the student must satisfy the court of two conditions:

1. they acted in “good faith” with respect to their student loans.
2. they would experience financial difficulty if they were to try to repay the student loan.

What is “Good Faith”

In 2008 Deputy Registrar Mills in Toronto, in the case of Giera, Re, detailed four tests for “good faith”:

She said that the court is to examine whether:

1. the money was used for the purpose loaned and if the education was completed,
2. whether the Bankrupt is deriving economic benefit from the education,
3. whether there were any reasonable efforts to repay the loans and
4. whether there was any effort by the Bankrupt to take advantage of interest relief or remission options offered by the lenders.

These tests are relatively simple to understand.  If you went to a private college and the college went out of business before you graduated, it’s unlikely they will make you pay it back.  If you went to school to be a doctor, and you are currently working as a doctor, it is likely the court will make you repay the loan.

In this particular case the bankrupt had a student loan that was more than seven years old, but the government (the Attorney General) opposed her discharge.

She graduated from a dental technology programme, and got a job building orthodontic appliances, but it turned out she was allergic to the materials used in the process, so she had to quit that job and take a lesser paying job.

After graduation she did apply to defer her payments, and she did make numerous payments on her student loan until she filed her bankruptcy.

The Court concluded that the “Bankrupt lives modestly and within her financial means.” The court accepted “that she has struggled to live within her budget and she is to be commended for not turning to consumer credit to make ends meet. Although her employment appears to be stable, the Bankrupt does not earn an income commensurate with her education and is not likely to do so in the foreseeable future.”

However, despite all of this, the court concluded that the bankrupt has the ability to repay the principal amount of the student loan of $8,000, so her bankruptcy will not end until she makes full payment.

What is Hardship?

In addition to acting in good faith, the former student must also demonstrate to the court that they have and will suffer financial hardship if they are required to continue to repay some or all of their student loan.

Typically the court will review the bankrupt’s monthly income and expense statement to determine whether or not they have the resources to repay some or all of the loan.  If the bankrupt is paying $1,000 for a leased car, and living in a $5,000 per month apartment, it’s likely the court will conclude they are living beyond their means, and therefore they should cut their expenses and use the savings to repay their student loan.  If, however, they are working at a minimum wage job, and have three children to support, it’s likely the court will conclude that they don’t have the resources to repay the loan.

It should be noted that the court will consider your efforts to find work.  In a recent case the court concluded that an educated man (a computer programmer) was not trying hard enough to find work, and therefore his application to discharge his student loan was denied.

Conclusion

So what does this mean for a former student with a student loan who goes bankrupt?

First, if you have ceased to be a student for more than seven years at the time of bankruptcy your student loan will be automatically discharged, unless the government objects to your discharge, which they will do on occasion.

Second, if they do object, you will be required to prove to the court that you have acted in good faith, and that you would suffer hardship if you were required to continue to repay the loan.  If your loan was five years old and you want to apply to have it discharged you will have the same burden of proof.

Therefore, before declaring bankruptcy or filing a consumer proposal, you should consult with a bankruptcy trustee to assess the chances that the government may object to your discharge, and to confirm that you have in fact acted in good faith and would suffer hardship if you were required to repay the student loan.

Jane Smith (not her real name) had student loan debt, and other debts.  She graduated from school, and therefore “ceased to be a student” in 2001.  In 2010 she filed a consumer proposal, and since she had ceased to be a student for 9 years (which is more than 7 years), she naturally assumed her student loans would be discharged by her proposal.  The proposal was accepted by the creditors.

Here’s where the story gets interesting.  Two months after filing the proposal, and after the proposal was officially accepted by the creditors, Ms. Smith received a letter from Big Bank, that read, in part:

Big Bank has received notification that you have filed an assignment of Consumer Proposal.  As of the date of your proposal, you had an outstanding student loan debt.

In accordance with the Bankruptcy & Insolvency Act (Canada), no active collection activity can occur between now and the date you are discharged….However, since June 18, 1998, student loans are not discharged through participation in consumer proposal.  Therefore your student loan debt will survive the consumer proposal, and will not be released by an order of discharge.

Obviously this letter has numerous errors:

First, nice grammar, Big Bank!  “…you have filed an assignment of Consumer Proposal”  You file an assignment in bankruptcy, not an assignment of Consumer Proposal, since there are no assets to assign in a proposal.  Obviously the bank is using the mail merge function in their word processing software to alternate “bankruptcy” and “consumer proposal” in their letter.

Second, the letter is incorrect.  Consumer proposals are discharged in a consumer proposal.  Just like in a bankruptcy, if it’s more than 7 years since you ceased to be a student, they are discharged.  That’s it.  It doesn’t matter what Big Bank thinks; that’s the law.

Finally, in a proposal there is no such thing as an “order of discharge”.  An “order” is made by the court, and does not occur in a consumer proposal.  Instead, you receive a Certificate of Completion from your consumer proposal administrator.

I find it offensive that a big bank doesn’t know the rules, or chooses to ignore them.  Even worse, innocent debtors get these letters, and don’t know if they should believe Big Bank, or their trustee!  It’s very stressful for them.

I have reported this breach of the law to my contacts at the bank in question.  They have agreed that the letter is being sent in error, and they have pledged to “get to the bottom of this”.  I will be monitoring the situation, and will make more vociferous complaints, including publishing the name of the bank, if they continue to send these letters.

In the interim, if you have received letters like this after filing a consumer proposal, and if your student loans were older than 7 years when you filed the proposal, speak to your proposal administrator.

Recently two of the largest lenders have become more aggressive in their collection efforts.

In the first case, a number of former bankrupts got letters from a major bank regarding their student loans.  In the typical scenario, the former student went bankrupt; at the time of their bankruptcy their student loans were more than 10 years old (or seven years old under the new rules), so they assumed their student loans were automatically discharged.  After their bankruptcy finished, and they were discharged, they received a letter from the bank stating that they required a court order specifically discharging their student loans.  If the person didn’t provide a court order within 30 days, the lender threatened to turn their account over to a collection agency.

So, even though the loan was discharged in the bankruptcy, and even though the lender didn’t object to the discharge, the lender was going to bully the former student into paying their loans.

It disgusts me that a major chartered bank in Canada would do this, but I guess even large institutions can be bullies.  When we first heard of this (it happened to a number of my firm’s former bankrupts), we immediately contacted a lawyer, who sent a letter to the bank.  A few days later the bank backed down, and apologized, saying it was a mistake, and they promised to send letters of apology to the debtors impacted.

Here’s my question: how many people fell for this?  How many people started making payment arrangements?  How many people didn’t deal with a trustee that was able to contact a lawyer and sort this out?  I’m glad this problem appears to be solved, but it is a worry for the future.  They backed down now; will they try it again in the future?

I had another former bankrupt contact me to advise that the bank was pursuing her for a very old student loan.  Her proposal was completed six years ago, and at that time her student loan was not ten years old (as the rule was at the time), so it wasn’t automatically discharged.  It surprises me that it would take student loans six years to decide to pursue someone.

In the final case this past week, a debtor filed a consumer proposal, and he knew that because his student loan was only three years old, it would not be automatically discharged.  Within a few days of filing he got a letter from the lender advising that they would be happy to continue to accept payments from him.  Since the loan is not dischargeable he can continue to make payments.  Of course he is not legally required to resume payments until his proposal is finished; the letter he received didn’t explain his options in full.

So, even though you filed for bankruptcy and assume your student loans are discharged, the process may not be finished.  It’s important to choose a reputable trustee to help you through the process, so that they are there to help even after the process is finished.

Under the old rules, if their student loan was less than 10 years old at the time they filed their consumer proposal (7 years under the new rules), the student loan was not automatically discharged in the consumer proposal (or bankruptcy). The lenders don’t go after you while the proposal is running (they can’t), but as soon as it’s finished, they resume their collection activities.

These people had other debts, and since a bankruptcy would not have discharged their student loans, a consumer proposal made sense at the time; it allowed them to deal with their other debts, and “buy time”. If their job situation has improved, they may now be able to deal with their student loans.

Here was my advice to these people:

Start by asking the collection agent to send you written proof of what you owe. Explain to them that you had filed a consumer proposal and thought that you had cleared your debts. You want something in writing proving what you owe. Once you have this, your first option is to try to make a deal with the collection agency. If there is any way that you can raise some cash, then offer to pay a lump sum of what you can afford. For example, if you owe $5,000 and can borrow $2,500 from family and friends, then offer that as a settlement. A settlement often works, because many collection agents work on commission, and often they would rather get their pay from a lump sum now than have to wait by collecting small amounts monthly.

Your other option is to file for personal bankruptcy. If more than seven years has now passed since you ceased to be a student, your student loans will be automatically discharged when you file bankruptcy.

Of course bankruptcy is the last resort, so before you decide to go bankrupt you will want to discuss your situation with a trustee; a list of trustees that offer no-charge initial consultations can be found on the bankruptcy Canada web site.