Will bankruptcy get rid of a cash advance used to pay off my student loan?

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Question:

I took a cash advance on my credit card to pay off my student loan. Will bankruptcy get rid of the debt?

Answer:

In most situations, if you pay off student loans with cash advances from your credit card, the cash advance debt won't be discharged in Chapter 7 or Chapter 13 bankruptcy. Here's why.

When Credit Card Debt Might Not Be Discharged in Bankruptcy

Your bankruptcy discharge generally applies to all your credit card debt. However, in certain circumstances, your credit card company can ask the bankruptcy court to declare your debt nondischargeable. There are two main reasons for doing so:

  1. • you incurred the debt via fraud, or
  2. • you incurred the debt to pay off other debt that would normally be nondischargeable.

The question at hand has two considerations - cash advances and student loan debt.

Recent Cash Advances Before Bankruptcy

If you take out a cash advance from your credit card and then file bankruptcy, you may have to repay the debt. Bankruptcy law provides that there is a presumption of fraud if you take out cash advances that total more than $925 within 70 days before filing bankruptcy. If you do so, your credit card company can file a nondischargeability complaint and ask the court to make the debt nondischargeable; if the credit card company wins the lawsuit, you will have to repay the debt. (To learn more, see Recent Charges for Luxury Goods and Cash Advances Before Bankruptcy.)

Cash Advances With the Intent to Defraud the Credit Card Company

Even if the cash advance was more than 70 days ago, however, the creditor can still sue you for nondischargeability if it can otherwise prove fraud. If you take out a cash advance to pay off your student loans and you do so with intent to discharge the debt in bankruptcy, the credit card company can sue you regardless of when you did it. (To learn more, see Complaints for Nondischargeability in Bankruptcy.)

Student Loans Are Generally Not Discharged in Bankruptcy

Beyond the fraud issue, you cannot incur dischargeable debt to repay nondischargeable debt. Student loans are generally not dischargeable in bankruptcy. To discharge student loans, you must show extreme hardship, and the standard for a student loan hardship discharge is very high. (For details, see Student Loan Debt in Bankruptcy.)

Using a credit card (credit card debt is usually dischargeable) to repay a student loan (which is nondischargeable) is not permitted under the bankruptcy law. Even if the credit card company cannot show that you committed fraud, it can still sue for nondischargeability on the basis that you incurred the debt in order to pay off nondischargeable debt. The only way to prevail in the lawsuit would be to show that you could have discharged the student loans in your bankruptcy.

Example 1. Joe has $30,000 in student loans. He's tired of them looming over his head, so he takes out $30,000 cash from his credit card, deposits it in his bank account and pays off the student loan. He then loses his job, and three months later, he files bankruptcy. Joe is capable of working, and he's hoping to find another job soon. His credit card company can sue him to make the $30,000 debt nondischargeable. Even though he made the cash advance more than 70 days before he filed bankruptcy, he used the credit cards to pay off nondischargeable debt. Joe does not have the hardship necessary to discharge student loans, so the court will likely find against him.

Example 2. Allen has $25,000 in student loans. He takes a cash advance from his credit card and pays off the debt, because he hates having student loans. Two months later, Allen is in a horrific car crash that requires both his legs to be amputated and gives him chronic migraine headaches. Unable to work in his condition, Allen files bankruptcy. If the credit card company sues for nondischargeability, Allen has a chance, because he may be able to show that he was eligible to discharge the student loans because he had no real ability to repay them after his accident.

To learn more about creditors' lawsuits challenging the dischargeability of debts in bankruptcy, see Adversary Proceedings in Bankruptcy.

by: , Contributing Author

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