If your clients or their children owe student loans to private, for-profit schools that have engaged in misrepresentation, they may be able to use a little-known law to eliminate that debt. Students can use the Higher Education Act of 1965, P.L. 89-329, to appeal their loans if they attended a school that was found to have committed a "substantial misrepresentation" of its educational programs. Both the Department of Education (DOE) and the Consumer Financial Protection Bureau (CFPB) have started to recognize this method of defense, which can save students from having to pay thousands of dollars' worth of student loans.
On Oct. 28, 2016, the DOE issued final regulations to protect student loan borrowers from school closures and fraud.
In recent years, certain for-profit institutions have had to close following federal actions, leaving existing students with considerable debt but no degree. In June 2014, the DOE cut off federal financial aid to the for-profit group Corinthian Colleges. In August 2016, it barred ITT Technical Institutes from enrolling new students who receive federal financial aid. Because most current students and new enrollees could not afford the tuition and fees at these schools without loans, both schools were left without a significant source of revenue and had to close operations.
Relief is available for students who enrolled at the time of the closing or those who graduated or withdrew within 120 days of the closure. In those cases, the DOE recommends that students either apply for discharge of their debt based on a closed-school discharge or contact the school about a teach-out program: a process by which a closing school arranges for its students to complete their programs at a nearby school, with all credits transferred. (However, note that if a student is offered a teach-out program and refuses, he or she will not be eligible for a closed-school cancellation of debt.)
The hundreds of thousands of students who left these schools more than 120 days before closing can use the 1965 law to apply for a debt discharge. Student debtors who attended Corinthian College are being instructed by the DOE and the CFPB to use the law as a defense mechanism. It is expected that the same guidance will be provided to the students of ITT Technical Institute.
In addition, due to the increase in cases brought against these schools by state and federal agencies, the DOE is expected to begin streamlining the Borrower Defense to Repayment guidelines. As of this writing, the DOE is scheduled to make the discharge of student loans easily accessible beginning July 1 with clear and defined methodology on how to apply for a cancellation similar to the closed-school discharge.
Clients can access the defense to repayment form at this link. They should consider asking a CPA or another professional, such as an attorney or a student debt counselor, for assistance completing the form.
The Higher Education Act of 1965 allows students who have had their loans discharged under the closed-school process to not recognize income for tax purposes. In certain cases, including former Corinthian College and American Career Institutes students, the IRS is allowing students whose debt was discharged under the Defense to Repayment process to also not recognize gross income as a result of the process (see Rev. Procs. 2015-57 and 2017-24). For more on this, see McKinley and Zilber, "Tax Relief for Federal Student Loan Forgiveness," JofA (August 2016).
Jim Sullivan, CPA/PFS, is a board member of Consumer Debt Counselors Inc., a not-for-profit debt counseling agency. Melissa Towell is a student loan counselor for Consumer Debt Counselors Inc. To comment on this story, email associate editor Courtney Vien.
