A medical graduate with more than $440,000 in student debt recently saw nearly 99% of his loans cancelled by a bankruptcy court in California, highlighting the growing trend of certain student loans being dischargeable.
San Diego-based Seth Koeut was born to Cambodian refugees who came to the U.S. when he was a child and later pursued a medical degree in hopes of becoming a doctor.
After he failed to obtain a residency role — a required part of the transition from medical school graduate to licensed medical professional — Koeut ended up working menial jobs for before filing for chapter 7 bankruptcy in May 2012 while holding $440,465.66 in federally-backed student debt. (As many as 10,000 medical school graduates in the U.S. are not matched with residency programs, according to a recent New York Times report.)
In 2015, Koeut filed an adversary proceeding to discharge his student loans as part of his bankruptcy. After the adversary proceeding was dismissed, Koeut filed an appeal in 2018. In October 2020, arguing against a discharge of the loans, the Department of Education (ED) contended that he had “not given his best effort to find better employment."
In December 2020, the U.S. Bankruptcy Court for the Southern District of California ruled in Koeut's favor, granting a discharge of 98.9% of his debt balance — leaving him with $8,291.67 at an interest rate of 0.11%.
The ED did not appeal the ruling, and the agency is reviewing its handling of these kinds of cases and others.
“Our new leadership team is currently conducting a review of ongoing litigation to understand the positions the agency has taken and identify areas where we may or may not want to take a different posture,” an ED spokesperson told Yahoo Finance. “This includes bankruptcy cases as well as many others.”
The case contributes to a growing number of student loan debtors obtaining relief through personal bankruptcy, further dispelling the notion that student loans are exempt from court-ordered discharge.
'Koeut deserves a break'
Born in a Cambodian refugee camp in Thailand, Koeut came to America in the 1980s.
His family "lived in extreme poverty," the filing stated, "collecting cans from the trash to supplement the family income." Koeut did well in school and earned a bachelor’s in marine biology and Spanish from Duke University in 2002 before moving to Bangkok to study clinical tropical medicine.
He did not earn a formal degree and began working part-time jobs in retail before attending the for-profit Ponce School of Medicine in Puerto Rico, finishing in 2010 and passing all the medical board exams. However, over the next five years, Koeut was unable to secure a residency placement.
The loans he took to finance medical school, meanwhile, started coming due. Koeut selected an income-driven (IDR) program in October 2010 with a monthly payment of $0, according to an ED loan analyst who testified in his case. He also went back to working retail, including jobs at Bloomingdale's, Crate & Barrel, Banana Republic, and even as a dishwasher in a Mexican restaurant.
Koeut repeatedly deferred payments while unsuccessfully attempting to obtain a spot in residency. As of 2020, according to court filings, Koeut claimed that his total assets amounted to less than $5,000.
Mr. Koeut's attorneys, Ahren Tiller and Brett Bodie, argued to the court that Koeut had applied to 5,000 jobs after graduating from medical school, trying in different fields using his language skills and even working unpaid jobs at universities and other organizations to improve his resume while living in his parent’s kitchen to avoid paying rent.
And while ED contended he did not try hard enough to find employment, the court stated: “A medical school graduate who works as a parking attendant and dishwasher cannot be described as lazy.”
Generally in personal bankruptcy cases involving student debt, the judge applies the Brunner test — a three-pronged test applied to student loan borrowers who filed adversary proceedings seeking to discharge educational debt — to determine if specific student loans caused a borrower to suffer undue hardship.
“It's now become this almost impossible test to meet now, … [and] honestly arbitrarily just become the gold standard,” Tiller, who works at the California-based Bankruptcy Law Center, told Yahoo Finance when asked about the Brunner test. “No one would doubt this is an undue hardship that this client of ours will never pay.”
The judge agreed that Koeut's circumstances met the threshold for undue hardship.
“Koeut's current income and expenses do not support a minimal standard of living, even without making loan payments. … [and his] inability to repay his full loan balance will persist over his remaining expected working life to an extent that he can only make partial payments without enduring undue hardship,” the judge wrote in a decision. “Koeut deserves a break.”
'The student loan program is really a house of cards'
When student borrowers go to bankruptcy court seeking debt relief, courts will often reject requests for a discharge and place the borrower on an IDR plan.
In Koeut's case, if his job prospects did not improve, he would have to pay $0 a month and be on track forgiveness after 20 years. However, at the end of the IDR program, borrowers would still be stuck with a tax bill. John Brooks, professor of law at Georgetown University Law Center, estimated that Koeut's tax bill for his loans could be as much as $100,000 if it were forgiven through an IDR program.
“It’s really twisted because the reason that the loan is getting forgiven at that point is because the person doesn’t have a financial capacity to pay it,” Brooks told Yahoo Finance. “So to then say, well, we're now going to also slap you with a hundred thousand dollar tax bill — it's trying to get blood out of a stone.”
Furthermore, the promise of forgiveness after 20 years of on-time repayment hasn't really panned out: The National Consumer Law Center's Persis Yu, using a public records request to the ED, found that less than 20 IDR participants total were slated to get forgiveness by the end of 2019.
“The shockingly low rate of cancellation of these borrowers’ loans foreshadows the widespread problems affecting millions of low-income borrowers,” Yu asserted in a recent paper, “and is emblematic of the failure of the Department’s [IDR] programs to deliver the relief Congress intended for struggling borrowers when it passed the enabling statutes for these programs.”
Koeut rejected the income-driven repayment option ED presented, according to the court filings, “since he justifiably believes an [IDR] will continue to depress his credit score and hinder his employment opportunities and financial stability." Furthermore, in any case, he wouldn't be able to make any more than minimal payments on his loans.
The court agreed that Koeut would “never earn sufficient income” to fully repay his $440,000 debt burden and estimated how much he could in fact pay back based on how much he can reasonably earn in the 17 years he had left as a working adult: $8,291.67. Furthermore. he wouldn't have to make the first payment until 2031.
"Even if Koeut eventually maximizes his potential, his salary will still be insufficient to enable him to make any more than minimal payments on his student loans," the court ruled. "Since Koeut cannot in good faith be expected to pay more than he will ever afford without suffering an undue hardship, the student loan balance he cannot pay will be discharged and he will be required to pay the rest."
Jason Iuliano, an assistant professor of law at Villanova University and an expert on bankruptcy who co-founded student debt startup Lexria, told Yahoo Finance that the court's response seems to be “part of a broader trend” of courts recognizing that IDR plans — and the inevitable tax bill — are sometimes “not a viable solution for debtors."
Consequently, as more student debt is discharged through personal bankruptcy proceedings, a fundamental part of the U.S. student loan system is being challenged.
"The student loan program is really a house of cards,” Richard Fossey, a professor at the University of Louisiana at Lafayette, told Yahoo Finance. “And if the bankruptcy courts loosened the standard and started discharging this debt, the whole house of cards would unravel. … it would be the end of a program [that] higher education institutions now rely on.”
Aarthi is a reporter for Yahoo Finance. She can be reached at firstname.lastname@example.org. Follow her on Twitter @aarthiswami.