COHEAO Annual Conference January 2013

1. COHEAO Annual ConferenceJanuary 2013 Ask An Attorney: Questions and Answers regarding legal issues impacting Higher Education David Stocker, Account Control Technology, Inc. Kevin Dreyer, General Revenue Corporation

2. Legal Disclaimer This information is not intended to be legal advice and may not be used as legal advice. Legal advice must be tailored to the specific circumstances of each case. Every effort has been made to assure that this information is up-to-date as of the date of publication. It is not intended to be a full and exhaustive explanation of the law in any area, nor should it be used to replace the advice of your own legal counsel. The views and opinions expressed by the presenters are those of the presenters and not those of COHEAO.

3. Q & A Topics: • Collection Costs • Bankruptcy • Statutes of Limitation • Student Account Litigation • Other Questions

4. What are collection costs? • Federal law created the authority for schools to assess borrowers of certain federal loans a cost of collection when they fail to repay their debts voluntarily. In the college and university situation, these loans are GSL or Perkins loans. (In the FFELP program, collection costs are also authorized. The owner/holder of the account is required by federal regulation to access such costs.) If the school lender does internal collection efforts on their Perkins loans, or they assign the account to an external or third party vendor, federal regulation requires that reasonable costs of collection be added to the balance of the Perkins Loans. • A change in the federal law, which became effective on July 1, 2008, sets the limit for collection costs which may be added to federal Perkins loans at 30% for first collection efforts, whether done internally by the school or through an external third party vendor. •  For second collection efforts or litigation accounts, the limit on costs which may be charged to the debtor is 40%.

5. Are there other limits on the amount of costs which may be charged to a debtor? • Some states have set limits on the addition of collection costs to a debtor. However, these limits do not apply to any collection costs assessed on a Federal loan; only to non-federal loans.

6. Can the school add collection costs to non federal debts such as school tuition or accounts receivable? If the debtor has signed an agreement to repay the debt, and the agreement includes the addition of collection costs, these costs may be added and collected unless prohibited by state law. An electronic signature, if done within the federal E-Sign legislation rules, can support such charges. Because some states limit recovery of collection costs or prohibit them entirely, the school should educate their staff as to these various rules. The state law in Wisconsin prohibits adding these costs even with a signed agreement from the consumer. A federal court case held that a private college violated the state law when it added costs to the borrower. In a different court ruling, the state law was held not to apply to debts owed to the state school system. This is a good example of how confusing this issue can become and how closely the law must be reviewed.

7. What is Bankruptcy? • A legislatively created process to allow individuals and businesses to discharge certain of their debts by paying amounts, including zero, as set by the Bankruptcy Code and Rules.

8. What are the common types of bankruptcy? • Chapter 7: A process of liquidation where the debtor assigns all non-exempt assets to the court to be divided among their creditors in a priority as set by the bankruptcy law and code. • Chapter 13: A process where the debtor identifies their debts and presents a plan, for creditor and court approval, to repay debts based upon type of debt owed and the bankruptcy law and code. The debtor’s disposable income, after reasonable expenses, must be paid into the court trustee for monthly distribution.

9. Chapter 11: This is a bankruptcy which is only available to businesses, although some courts have allowed student loans, a personal debt, to be included in these proceedings. A Chapter 11 operates much like a Chapter 13. The debts are paid through a court managed plan. • Chapter 12: This is a proceeding which is only available for agribusiness or “family farm” debts. As with the use of a Chapter 11-some courts have permitted individual debts to be included.

10. When I receive notice of a bankruptcy filing which involves one of my accounts, am I required to take any action? • You should immediately cease all collection activity and notify your collectors, internal or external. You should then review the effected loans and determine their potential discharge status. A proof of claim, this is a form which states the amount owed and the basis of the debt, should be filed with the court to preserve your rights in the proceeding. You can prepare and file the proof of claim, you do not need to hire an attorney.

11. Can the debtor refuse to pay my claim? • The debtor may file an objection to any claim filed, but you have the right to oppose that objection. In some situations, other creditors have the right to object to your being paid. You may oppose that action as well. You will need an attorney to conduct these proceedings. What is the “automatic stay”? • This is an order of the court which becomes effective upon the filing of the debtor’s petition. It prohibits any actions or communication involving the debtor which could be construed as a collection effort. It is sometimes possible to get permission of the court to lift this stay, but you need an attorney to file a request with the court.

12. Will I be required to go to court? • Typically, you will not be involved in the court process directly. However, if there are objections to your claim, or the debtor files for a determination of “undue hardship” your institution will need to send a witness. If the bankruptcy is filed in a court near your institution, you may choose to attend the “Meeting of Creditors”. You will not need to have an attorney with you to participate. At that meeting, also called the 341 meeting, you may interview the debtor and review their financial records.

13. How will I know the bankruptcy is over so I may resume collections? • The court will either issue a “Discharge Order” or a “Dismissal Order”. Either one ends the automatic stay and closes the proceedings. For all bankruptcies filed after October 17, 2005, unless there has been a specific determination and order for “Undue Hardship” as part of the bankruptcy, you should consider any student aid debts not discharged. For older bankruptcies filed prior to that, you will need to review the discharge rules in place at the time the petition was filed.

14. Section 523(a)(8) – Post bankruptcy reform… • With passage of the “Bankruptcy Abuse Prevention and Consumer Protection Act of 2005” (BAPCA), section 523(A)(8) has been revised to read as follows: “(8) unless excepting such debt from discharge under this paragraph would impose an undue hardship on the debtor and the debtor’s dependents, for (A)(I) an educational benefit overpayment or loan made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or a nonprofit institution; or

15. Section 523(a)(8) – Post bankruptcy reform… continued (A)(II) an obligation to repay funds received as an educational benefit, scholarship, or stipend; or (B) any other education loan that is a qualified education loan, as defined in section 221 (D)(1) of the internal revenue code of 1986, incurred by a debtor who is an individual.” • This change to section 523(A)(8) was effective beginning on October 17, 2005.

16. What changes were made to the discharge rules for student aid in the 2005 Bankruptcy Reform Act? • The most important change was the expansion of the types of student aid now protected from discharge. The reform provisions added “qualified education loans” to the protected class and incorporated the Internal Revenue Code definition of “qualified education loan” to describe the loans now added to the not discharged in bankruptcy group.

17. Bankruptcy Reform, continued • Section 221 (D)(2) of the internal revenue code defines a “qualified education loan”, as: • “The term “qualified education loan” means any indebtedness incurred by the taxpayer solely to pay qualified higher education expenses— • Which are incurred on behalf of the taxpayer, the taxpayer’s spouse, or any dependent of the taxpayer as of the time the indebtedness was incurred, • Which are paid or incurred within a reasonable period of time before or after the indebtedness is incurred, and Which are attributable to education furnished during a period during which the recipient was an eligible student.

18. Bankruptcy Reform, continued • Such term includes indebtedness used to refinance indebtedness which qualifies as a qualified education loan. The term “qualified education loan” shall not include any indebtedness owed to a person who is related (within the meaning of 26 U.S.C. §§ 267(B) or 707(B)(1)]) To the taxpayer or to any person by reason of a loan under any qualified employer plan or under any contract referred to IN 26 U.S.C. § 72(P)5)] (2) qualified higher education expenses. The term “qualified higher education expenses” means the cost of attendance (as defined in section 472 of the higher education act of 1965, 20 U.S.C. § 1087, as in effect on the day before the date of the enactment of this act [enacted June 7, 2001]) at an eligible educational institution…

19. Bankruptcy Reform, continued • For purposes of the preceding sentence the term “eligible educational institution” has the same meaning given such term by section 26 U.S.C. § 25a(F)(2), except that such term shall also include an institution conducting an internship or residency program leading to a degree or certificate awarded by an institution of higher education, a hospital, or a health care facility which offers postgraduate training.

20. Are my institutional and tuition accounts included in this new class of protected debts? • It will take time for the courts to sort out the issues around the institutional receivables discharge question. The big question is whether there is a “loan”. Most institutional receivables debt is not reduced to a contract or promissory note. Therefore, challenges to the discharge protection will revolve around that issue. A second issue which will likely be offered as a challenge is that the IRS provisions focus on interest tracking of the student “loans”. With no contract, it is problematic that institutions can or are charging interest. It will likely be argued that if there is no interest being charged, it is not a “loan” and not protected from discharge.

21. What are statutes of limitation? • A statute of limitation is a time limit created by state or federal law which sets forth the life span of a debt or other legal right.

22. How long is this time limit? • The length of a statute of limitation has many variations. The time limit varies pursuant to the federal or state law which created the limitation. Variations also occur based upon whether the legal right was created by an oral or written agreement—written agreements/contracts typically have a much longer time limit for enforcement. Finally, the time limit is impacted by the type of debt or legal right involved. (State statutes of limitation chart attached)

23. How are student aid accounts impacted by these statutes of limitation? • Collection of Federal Perkins Loans is not controlled by statutes of limitation pursuant to federal law and case decisions. Perkins loans may be collected until the account is cancelled for disability, death, bankruptcy or service to the community in specified programs such as teaching. Debts which are not federal loans must be examined on a case by case basis. Generally, non-federal debts will be controlled by the applicable statute of limitation. However, in the student loan area, an examination should be made of the following points to determine the collectability of a particular debt.

24. Is there a written contract or is the debt a bill for tuition or books? A written agreement provides for a longer period of limitation. A bill for books or tuition is considered an oral agreement and a shorter time limit to enforce is set. • Is the school involved a state or private institution? In most states, the debts due to a state institution do not have a time limitation for enforcement. Private schools will have their debts controlled by the applicable state or federal limitation.

25. If it is determined that the applicable statutes of limitation do apply to a non-federal debt and the time limit has run, what is the status of the account? Is collection barred? • Generally, the law says that debts with an expired time limit/statute of limitation can still be collected on a voluntary basis. We are permitted to ask for payment, BUT CANNOT DISCUSS OR THREATEN LITIGATION. If you encounter an account where the debtor alleges that the time limits have run, you should discuss it with your attorney.

26. Does anything stop the statute of limitation time limit from running out? • A statute of limitation may be tolled, or stopped by several factors. If the debtor signs a new agreement to pay the debt, is a minor (the time stops until they become an adult) or they are out of the state or country and unavailable for collection activity. Examples of a person being unavailable are; on active military duty, incarcerated or because they cannot be found. In some states, acknowledgment of the debt in writing or a new written promise to pay will also toll or suspend the running of the statute time.

27. Can the statute time be revived/ restarted? • Yes, signing an acknowledgement of the debt, making payments toward the account or a written repayment agreement in some states will not only toll or suspend the running of the statute, but also “revive” debts whose time limits/statutes of limitation have run.

28. Student Account Litigation – Introduction Litigation can be one of your most effective collection tools. It enables you to lower your default rate while telling your borrowers how serious you are about collecting delinquent loan accounts. Account balances of $ 500.00 or more should be considered for litigation. However, the cost effectiveness of the litigation must also be considered; i.e., court cost vs. account balance. If collection efforts fail, the school must determine at least once every 2 years whether all the conditions listed below are met. If so, the school must litigate. The conditions are:

29. The Total amount owed (including outstanding principle, interest, collection cost, and late charges) on all the borrower’s Federal Perkins Loan and NDSLs at the school is more than $500; • The borrower can be located and served with process; • The borrower either has enough assets attachable under State law to cover a major portion of the debt, or enough income that can be garnished under State law to satisfy a major portion of the debt over a reasonable period of time (defining “reasonable” is left to the school);

30. The borrower does not have a defense that will bar judgment for the school (if the school determines that the borrower has a partial defense, it must weigh the costs of litigation against the cost of recovery, based on the amount of enforceable portion of the debt); and • The expected cost of litigation (including attorneys’ fees) does not exceed the amount that can be recovered from the borrower.

31. Even if all the above conditions are not met, the school may sue if it chooses. Section 484A(a) of Higher Education Amendments of 1992 (P.L. 102-325) permanently eliminated any Federal or State statute of limitations that would have applied formerly to enforcement actions to collect Federal Perkins Loans or NSDL’s.

32. The school must attempt to recover from the borrower all litigation costs, including attorney’s fee, court costs and other related costs, to the extent, permitted by applicable state law. The school is also required to try and recover all cost previously incurred in the collection of overdue payments, if these collection costs have not been paid by the borrower; a percentage of these unrecoverable costs may be charged to the Fund.

33. Where to File? A court must have personal jurisdiction over the debtor before the court may render a judgment or in any way affect the debtor’s rights or property. Failure to file where the property is located forces a transfer of the judgment. However, a Defendant must generally be sued where they live.

34. Litigation: Promissory Notes The use of promissory notes creates a written contract between the creditor and the borrower. Accordingly, when the borrower fails or refuses to repay the loan under the terms and conditions of a promissory note, a breach of contract occurs. This, in turn, means that if the creditor resorts to judicial process to collect on the promissory note, the proper cause of action is one of breach of written contract. The creditor becomes a plaintiff and the borrower becomes a defendant.

35. Student Loan Litigation There are several phases of the litigation process. • Before Complaint • Since the borrower has previously received telephone calls and letters demanding payment, it is imperative that the complaint be filed immediately upon receipt of the account. • Note: It is extremely important to file a notice of appearance immediately. This will avoid hearing notices and other documents being sent to the wrong location.

36. After complaint, before judgment • The complaint has been filed. Therefore, it will be necessary to obtain judgment through agreed entry, default entry, summary judgment, trial, etc. • Often, student loan suits can be resolved by the parties filing an agreed entry. • After Judgment • After judgment is obtained, the account is ready for execution on the judgment. • It is important to make certain the certificate of judgment is filed.

37. Garnishment • On October 6, 1993, President Clinton signed into law P.L.103-94, which allows for wage garnishment of Federal employees. Please note that federal employees who work in states that do not allow wage garnishment (NC, SC, PA, TX) will remain exempt from garnishment. It is not yet clear which state law will control the percentage of wages, when an employee lives and works in one state, but is paid from the agency’s payroll department in another state. • On October 1, 1994 the U.S. Post office issued final rules for the garnishment of U.S. Postal Service employees.

38. Common Defenses/Rebuttals • Deferment • A borrower is not entitled to a deferment after default. 34 CFR 682.210, 34 CFR 674.37. • The borrower must have requested the deferment and provided the lender with all documentation required to establish eligibility for the deferment. Therefore, unless the borrower has requested, prepared and sent the form to the lender prior to default, it is irrelevant that the borrower was otherwise eligible for deferment. 34 CFR 682.210(a)(4), 34 CFR 674.37(a)(1). • Deferments may still be granted after default on either Stafford or Perkins loans if specific conditions are met. These are the responsibilities of the borrower to pursue.

39. Statute of Limitations • A generally worded statute of limitations does not run against the state. See, e.g., Department of Transportation v. Sullivan, 38 Ohio St. 3d 137 (1988) • In addition, the decision contains language which suggests the defenses of lached, waiver, and estoppel may also not be available against the state. • This approach can be used for non-federal accounts for a state school.

40. Discharge in Bankruptcy • Many borrowers and some attorneys fail to realize that student loans are generally non-dischargeable in bankruptcy. Therefore, many student loans have not been discharged despite a prior discharge order issued in the bankruptcy court. These orders specifically state that all “dischargeable” debts are discharged. • Occasionally a debtor will file bankruptcy but will fail to list the promissory notes in the bankruptcy schedules. If this occurs the debtor will not be discharged.

41. Infancy • The federal government has formalized in 20 USC 1091(A)(b)(2), the concept that being a minor at the time of a loan agreement was made, is not a defense to repaying a federal student loan. • On non-Federal loans, an approach to take is that the student ratified the contract when they become of age by continuing to accept the benefits of the loan and/or attend school. • An additional approach that has had some success, is to argue that parents are liable for “necessary” expenses of their minor children.