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How Do Parent Financial Problems Affect a Student's Eligibility for Financial Aid?

Mark Kantrowitz

December 13, 2010

We the parents screwed up financially and had to file for bankruptcy and are in a Chapter 13 repayment program. The FAFSA thinks according to their estimator that we can afford to pay $10,000 a year (parent contribution) but there is no way. There is no provision for us to show that $1,500 a month goes to courts. (That’s $18,000 a year.) No one will give her a loan because she’s 17 and never had a job (very rural community) and no one will give us a loan due to bankruptcy. What do we do? What can we do? — K.O.

Your bankruptcy will have no direct impact on your daughter’s eligibility for federal student aid and federal student loans. But as you have noticed, the FAFSA does not include any questions concerning special circumstances, such as mandatory court-ordered bankruptcy payments.

Ask the college financial aid administrator for a professional judgment review. This is sometimes called a special circumstances review or financial aid appeal. Some colleges will reduce your income on the FAFSA by the amount of the mandatory court-ordered bankruptcy payments. Others will not. It is not unusual for college financial aid administrators to feel conflicted about such adjustments. You should try to provide the college financial aid administrator with information that will make him or her feel more comfortable with making an adjustment in your favor.

The philosophical basis for need analysis is to assess a portion of the family’s discretionary income. Discretionary income is defined as the difference between total income and non-discretionary expenses. Court-ordered bankruptcy payments are mandatory and so from one perspective should not be included in discretionary income. After all, these funds are not available to pay for college bills.

However, the federal need analysis methodology does not currently consider debt payments as offsetting income. So why should the need analysis formula reduce income by the amount of the debt payments just because the repayment plan is court-ordered? Allowing an adjustment for bankruptcy payments could be construed as providing the family with student aid money to help retire their debt. Also, even if the monthly payments are mandatory, the original decision to file for bankruptcy is often voluntary.

Moreover, many financial aid administrators will be reluctant to take steps that might be seen as rewarding “bad behavior” such as a bankruptcy filing after accumulating debt due to irresponsible spending. On the other hand, you filed for Chapter 13 when you could have filed for Chapter 7 to eliminate the debt entirely. A Chapter 13 filing represents an attempt to make good on your obligations. So if the college grants your appeal, they would be rewarding good behavior, not bad behavior. (But then again, college financial aid administrators are aware that some families file for bankruptcy under Chapter 13 because they are prevented from filing for Chapter 7 due to a previous Chapter 7 filing within the past six years. Also, a high percentage of Chapter 13 filings are converted to Chapter 7 cases or eventually dismissed because a debtor is unable or unwilling to continue with the Chapter 13 repayment plan.)

You are more likely to get a favorable outcome if you provide the college financial aid administrator with as much information as possible about your bankruptcy filing, especially anything that will cast it in a positive light. What is the nature of the debt that lead to the Chapter 13 filing? Was it due to a failure of a family business or family farm? Was the Chapter 13 filing forced on you by your creditors? Did the bankruptcy filing result from medical debt or a disability? Are there any other unusual circumstances affecting your family’s finances? Mention anything that might make the financial aid administrator sympathetic to your situation.


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