Using the Claims Objection Process in Chapter 13 to Resolve Student Loan Disputes

With student loan debt going back years, if not decades, having to disprove a billing error can be a daunting task.   Old payments on older student loans can become important only after assignment to a new servicer when a problem first comes to light.  Even if a borrower finds old canceled checks, how those payments were applied to a particular loan when a servicer is handling more than one is far from transparent.  The new servicer rarely has a payment history, making it difficult to resolve disputes.  Trying to extricate oneself from this morass can become a Kafkaesque task.  The Department of Education’s (“ED”) business model for student loan collection now relies on private debt collectors paid by commission. One collector at the Educational Credit Management Corporation (“ECMC”) earned $454,000 in commissions in one year, more than double the salary of the Commissioner of the Department of Education.  Businessweek (May 15, 2012).  ED awarded almost $1 billion in commissions in 2011.  Bloomberg News (May 26, 2012).  ED offers cash prizes to its top collectors.  A National Consumer Law Center (“NCLC”) study found private collectors to be abysmal at resolving consumer complaints.  Borrowers on Hold: Student Loan Collection Agency Complaint Systems Need Massive Improvement, (NCLC May, 2012).  An audit by the Department of Education acknowledged collectors were ignoring verbal complaints, failing to pass them on to ED for action.  Incentivized by commissions and unencumbered by the fiduciary obligations expected of a government agency by its citizens, this is hardly surprising.  In May, 2014, NCLC filed a federal lawsuit under FOIA  for refusing to disclose incentives ED provides to private student loan collectors.   The Consumerist (May 23, 2014).

One alternative to resolving a student loan dispute is through chapter 13.  Besides the obvious advantage of the automatic stay stopping a collection lawsuit, it can also provide access to more favorable burden of proof rules. When an old student loan makes it difficult for both parties to find relevant documents, which side has the burden of proof can be dispositive.  Most state courts will require a debtor defending a collection lawsuit by alleging payment to prove all those payments as an affirmative defense.  See Jenkins v. Sallie Mae, 649 S.E.2d 802 (Ga. 2007).  The burden of proof rules in Bankruptcy Court can be more flexible.

By filing a Proof Claim, a student lender submits to the jurisdiction of the Bankruptcy Court.  Langemkamp v. Culp, 111 S.Ct. 330 (1990).  When a chapter 13 is filed, the bankruptcy court sends creditors a notice informing them of the right to file a Proof of Claim.  11 USC 341.  A Proof of Claim is the means by which a creditor alleges how much it believes is owed on the date of the bankruptcy filing. 11 USC 501.  A claim is allowed unless a party in interest objects.  11 USC 502(a).  A valid Proof of Claim is prima facie evidence of the validity and amount of the claim.  Fed.R.Bankr.P. 3001(f); 3007.  Once a prima facie case is established, the burden of proof shifts to the debtor to produce substantial evidence to rebut the claim.  In re: Lambeth Corp., 227 B.R. 1, 3 (BAP 1st Cir. 1998); In re Long, 353 B.R. 1, 13 (Bankr. Mass.2006).  If a debtor produces substantial evidence to rebut the claim, the burden then shifts back to the student lender to establish its claim by a preponderance of the evidenceId.   This shifting burden of proof is an advantage for debtors in Bankruptcy Court because it requires a response from a student lender as long as the evidence offered is significant enough.   One ground for disallowing a claim is where it is  “unenforceable against the debtor … under any agreement or applicable law.”  11 USC 502(b)(1).  That a claim has already been paid is a valid ground for objection and disallowance.  Hann v. ECMC, 711 F.3d 235 (1st Cir. 2013); In re Girard, 243 B.R. 894 (M.D.Ala. 1999).

That U.S. Bankruptcy judges may issue orders affecting student loan debt is hardly a radical notion. An order on a Proof of Claim — even on nondischargeable debt – can have res judicata effect.  Id.  Whether an order will have preclusive effect depends on whether the claims objection is well documented or not.  A claims objection raising procedural issues without more will not have res judicata effect. In re Klassen, 227 B.R. 187, 190 (Bankr.D.Kan.1998) (questioning illegible attachments to a Proof of Claim did  not meet the burden of substantial evidence).  Student loan servicers like ECMC have argued a “claims order” can never discharge student loan debt and, therefore, it may continue to collect the full amount it believes owed after the bankruptcy closes.  Outside the 11th Circuit, most courts have rejected this position as a ‘red herring,’ finding that if there is no student loan debt owed, there is nothing left to discharge.  Hann v. ECMC, supra;  In re Girard, supraCf. In re: Bell, 236 B.R. 426 (Bank.N.D.Ala. 1999).

One case I litigated in New Hampshire Bankruptcy Court provides a good example of how the claims objection procedure can resolve a student loan dispute.  Debtor believed his ex-wife forged his name to $100,000 of private student loans when she moved back into the marital home after a long separation.  Kempton v. Discover Bank, Bk# 12-12592 (April 9, 2014); Kempton v. Sallie Mae, Bk# 12-12592 (May 28, 2014).  Her return did not signal a reconciliation, but occurred as a result of a bail order on charges against her for embezzling $1,300,000 from her employer.   There was a startling similarity between some of the charges and how she accessed private information to forge the student loans.  Although she admitted  to a police officer she affixed his electronic signature to a Sallie Mae note, she claimed he authorized it, resulting in the police to regard it as a civil matter and refuse to prosecute.   Sallie Mae and Discover closed their file without any substantive investigation even though debtor submitted documentation he was in the hospital at the time of the forgery without access to a computer.  Debtor used this information to document a claims objection after Sallie Mae and Discover filed Proof of Claims in his chapter 13 bankruptcy.  When both failed to meet their burden of proof by filing a response, the Court issued orders finding debtor owed nothing to Sallie Mae and Discover.

One federal Court of Appeals has held that the: “[a]llowance or disallowance of a ‘claim in bankruptcy is binding and conclusive on all parties or their privies, and being in the nature of a final judgment, furnishes a basis for a plea of res judicata.’” Siegel v. Fed. Home Loan Mortgage Corp., 143 F.3d 525, 528-31 (9th Cir. 1998).  Another court upheld an order on a Proof of Claim finding a student loan to be $0.00.  In re Goldberg, 297 B.R. 465 (Bank. W.D.N.C. 2003).  There, the Court found ECMC’s claim to be fraudulent and precluded ECMC from collecting on it. In disallowing ECMC’s Proof of Claim, the Court stated:

“There is nothing more basic to the role of the bankruptcy court than to determine the validity of a claim. … There is a failure of consideration and therefore no obligation of the debtor to ECMC.”

In re Goldberg, 297 B.R. at 467.