A legal startup wants to convince more bankruptcy filers to try wiping out their student debt.
Reset Button, founded Feb. 12, plans to use automated technology to help consumer bankruptcy filers find lawyers, provide debt counseling, and pursue infrequently used legal strategies. Less than 1% of filers currently attempt to trim student loan obligations during bankruptcy.
The company’s launch comes just a month after a federal court in New York widened the possibility of discharging student debt through bankruptcy, a headline-grabbing decision that’s brought new attention to the issue. Meanwhile, the nation’s student debt level continues to balloon, now at about $1.6 trillion.
“Student loan lenders and bankruptcy lawyers have been providing false information to borrowers for years about discharging student loans in bankruptcy,” Reset Button CEO and Co-Founder Rob Hunter said. “The truth is borrowers can include student loan debts in bankruptcy and get them discharged.”
Some consumer bankruptcy reform advocates are skeptical about the extent to which debtors can use existing bankruptcy options to shed burdensome student loans.
The majority of U.S. bankruptcy courts use what’s known as the “Brunner test” to determine if an individual’s student debt imposes an “undue hardship.” Since it became standard in the 1980s, the three-factor test has developed a reputation for being strictly interpreted and nearly impossible to overcome.
But bankruptcy courts actually grant a discharge nearly half the time debtors petition for student loan relief, according to Reset Button co-founder Jason Iuliano, citing his years of research as a Harvard Law student, a research fellow, a Villanova University law professor and his own peer-reviewed study of consumer bankruptcy cases.
Reset Button aims to change people’s perception of the undue hardship test and encourage them to maximize their personal bankruptcy cases by also targeting student loans.
The key to erasing student debt in bankruptcy begins with the borrower filing an adversary proceeding—a lawsuit within a bankruptcy—against the lender or debt collector. Six out of every 10 debtors who litigate to discharge student loan debt reach a favorable settlement, which could lower the loan principal by as much as up to 80% or reduce the interest rate to 1%, Iuliano said.
Reset Button provides a consultation service for distressed student loan borrowers, including those who may benefit from filing for bankruptcy. The company analyzes a student loan debtor’s circumstances, prepares a discharge strategy and connects those individuals with bankruptcy professionals in Minnesota, Florida, Georgia and New York.
It aims to expand nationally as more lawyers learn how to litigate these types of cases, Iuliano said.
In January, Judge Cecelia Morris of the U.S. Bankruptcy Court for the Southern District of New York ruled that a Chapter 7 debtor could discharge $221,000 worth of outstanding student loan debt.
Morris said that the Brunner test has been misapplied and contorted by other courts over the past 32 years to the point where most people “believe it impossible to discharge student loans.”
Iuliano, who launched his service a month after the New York court ruling, said his research align with Morris’ conclusion that harsh interpretations of the test have created a “quasi-standard of mythic proportions.”
Consumer advocates agree more debtors should seriously consider pursuing a student loan discharge, but questioned the likelihood that settlements will be reached on a grand scale without a protracted court fight.
“Whether it’s a private lender or the government, they fight tooth and nail,” said Ed Boltz, a consumer bankruptcy lawyer and board member of the National Association of Consumer Bankruptcy Attorneys. “They want to preserve the firewall of fear that people have.”
John Rao, an attorney with the National Consumer Law Center, also said he was skeptical about the degree to which lenders agree to favorable settlements with student borrowers.
In a 2013 response to Iuliano’s research, Rao said that only 27% of the debtors in the study received a full or partial discharge by settlement, and only 25% of all of those who filed suit received a full discharge.
Rao and Boltz said Reset Button is correct to encourage more struggling student borrowers to consider bankruptcy as a tool for discharge and that the service could be useful, but legal reform is also needed to address the issue.
“Consumers really need to have their eyes open about this,” Rao said.