IN RE HEDLUND

MEMORANDUM

This disposition is not appropriate for publication and may not be cited except when relevant under the doctrines of law of the case, res judicata, or collateral estoppel. See 9th Cir. BAP Rule 8013-1.

ALBERT RADCLIFFE, Chief Judge, Bankruptcy

Appellant, Pennsylvania Higher Education Assistance Agency, appeals the bankruptcy court's order that the student loan obligation of appellee is dischargeable, in part, under 11 U.S.C. § 523(a)(8). We REVERSE.

FACTS

Appellee obtained a law degree from Willamette University College of Law in Salem, Oregon, in 1997, and a bachelor of science degree in business administration from the University of Oregon in 1992. He financed his law school education by executing six federal Stafford student loans that were guaranteed by appellant. The loans are based on three promissory notes totaling $85,245.87. Interest continues to accrue on the loans at a rate of 4.22 percent per annum.

Following law school graduation, appellee twice failed the Oregon bar exam. On the morning of his third scheduled bar exam, he stopped for coffee, locked his keys in his car, and missed the test. Appellee has no plans or desire to retake the test again.

During appellee's summer breaks from law school, he worked in Klamath Falls, Oregon, as a law clerk for his father's law firm and for the Klamath County District Attorney's Office ("D.A.'s Office"). After law school graduation, appellee was employed with the D.A.'s Office for approximately one year. Appellee planned on working as an assistant district attorney for a couple of years, then working for his father's law firm in Klamath Falls. Because appellee did not pass the bar exam, he abandoned his plan to practice law.

Appellee is thirty-three years old, married and has a two-year old daughter. He is healthy with no physical or mental disabilities, is not on medication and has no addictions.

Appellee is currently employed as a juvenile counselor at the Klamath County Juvenile Department ("Juvenile Department") and has held that position since 1999. Appellee's current household income is approximately $40,320 per year ($3,360 per month), which represents appellee's salary of $3,200 per month and his spouse's salary of $160 per month. Appellee's salary is higher than the average wage in Oregon and is considered excellent for the Klamath Falls area.

There are three employment positions in appellee's department that are more highly compensated. Vacancies for those positions are not expected in the foreseeable future and the court found that appellee had no possibility for advancement in his current position barring unforeseen circumstances. Appellee testified that he would apply for other employment that would benefit him financially even though he is satisfied with his current job.

Appellee's spouse is employed at a flower shop only one day a week and takes care of their daughter the remainder of the time. Appellee testified that his spouse has the potential to work more than one day a week, and the bankruptcy court found that appellee's monthly household income could be increased by $320 if appellee's spouse were to work three days a week. The court also found that if appellee's spouse were to work more hours, it would impose little or no expense for day care because both appellee's and his spouse's parents live nearby and there was testimony that they would be "excited and delighted to help take care of their granddaughter."

In Schedule I of his bankruptcy schedules, appellee listed current monthly expenses of $2,450. Significant monthly expenses include: $375 for rent; $95 for cable/internet; $75 on cell phones; $150 on transportation (not including car payments); $25 on charitable contributions; $35 on a gym membership; and $125 on clothing. Appellee drives and owns outright a 1990 Chevrolet Blazer and appellee's spouse drives a 2002 Honda Accord leased for $354 per month.

After law school graduation, appellee filed for and received several extensions on his loan obligation. His reasons for requesting extensions were that he did not pass the bar exam. When appellee's extensions expired, he became delinquent in his payments and requested that his loans be consolidated. His request was denied due to his delinquent payments, and eventually appellee's wages were garnished.

The court found that appellee's monthly payments on the loans would be approximately $800 per month. The parties stipulated that appellee made one voluntary payment on his loans of $954.72, which came from part of an inheritance he received when his grandmother died, and thirty-three involuntary semi-monthly payments ($258 per month) totaling $4,272.52 that were obtained through occupational wage garnishment.

Appellee testified that he could afford the $258 per month that was being garnished. The court found that appellee's household income and expenses could be adjusted to allow for payments of $225 per month.

The parties stipulated that appellant offered appellee three different repayment options designed to lower his monthly payments to pay the loan over a thirty-year amortized period of time. Appellee did not apply for the William D. Ford Income Contingent Repayment Program ("ICRP") despite having been informed by appellant of that option, because he believed he would not qualify for the program.

Option 1: $417.67 for 359 months; 1 payment of $414.79.

Option 2: $307.43 for 24 months; 335 payments of $432.56; 1 payment of $430.88

Option 3: $307.43 for 24 months; $374.11 for 36 months; $446.11 for 299 months; $444.31 for 1 month.

The court did not consider the reamortization offer to be the equivalent of the ICRP.

The bankruptcy court issued an oral ruling on December 15, 2003, and found that appellee met the three-part test underBrunner v. New York State Higher Educ. Servs. Corp. (In re Brunner), 46 B.R. 752, 756 (S.D.N.Y. 1985) aff'd 831 F.2d 395 (2d Cir. 1987), which has been adopted by the Ninth Circuit inUnited States Student Aid Funds, Inc. v. Pena (In re Pena), 155 F.3d 1108, 1112 (9th Cir. 1998).

The court found that any debt above $30,000 would be an "undue hardship" on appellee and ordered the debt partially discharged. The court ruled that appellee's loan obligation of $30,000 would not create an "undue hardship" and denied discharge of that amount pursuant to 11 U.S.C. § 523(a)(8).

This appeal ensued.

At the conclusion of trial, appellee proposed to the bankruptcy court that $28,000 of his student loan obligations to appellant be declared non-dischargeable.

JURISDICTION

The bankruptcy court had jurisdiction via 28 U.S.C. §§ 1334 and 157(b)(1). We have jurisdiction under 28 U.S.C. § 158(a)(1).

ISSUE

Whether the bankruptcy court erred in finding appellee met his burden of showing that repayment of his student loans would impose an undue hardship on him or his family.

STANDARD OF REVIEW

The bankruptcy court's findings of fact are reviewed for clear error, and the application of the legal standard in determining whether a student loan debt is dischargeable as an undue hardship is reviewed de novo as implicating a mixed question of law and fact. Rifino v. United States (In re Rifino), 245 F.3d 1083, 1088 (9th Cir. 2001); Pa. Higher Educ. Assistance Agency v. Birrane (In re Birrane), 287 B.R. 490, 494 (9th Cir. BAP 2002);United Student Aid Funds, Inc. v. Nascimento (In re Nascimento), 241 B.R. 440, 444 (9th Cir. BAP 1999).

DISCUSSION

Appellant argues that the court erred when it ruled that a healthy thirty-three year old male making approximately $40,000 per year, married with one child, with an undergraduate degree in business administration and a law degree, with no physical or mental disabilities, and with the potential to add additional household income is entitled to discharge $55,245.87 of his $85,245.87 in student loans as an undue hardship under § 523(a)(8).

A government guaranteed student loan is nondischargeable "unless excepting such debt from discharge . . . will impose an undue hardship on the debtor and the debtor's dependants[.]" 11 U.S.C. § 523(a)(8). The debtor carries the burden to prove by a preponderance of the evidence that he or she is entitled to a discharge of the student loan. Nys v. Educ. Credit Mgmt. Corp. (In re Nys), 308 B.R. 436, 441 (9th Cir. BAP 2004).

Undue hardship is not defined in the Bankruptcy Code, but it involves more than a "garden variety hardship." Id. Only in cases where the debtor proves real and sustained hardship may the court grant a discharge. Id.

Whether a student loan is dischargeable under § 523(a)(8) entails the application of the three-part Brunner test. Pena, 155 F.3d at 1111-14. Under that test, the debtor must prove:

(1) that he cannot maintain, based on current income and expenses, a "minimal" standard of living for himself and his dependents if forced to repay the loans;

(2) that additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans;

(3) that the debtor has made good faith efforts to repay the loans. Id.

The bankruptcy court found that appellee met his burden of proving all three prongs. We will review each prong in turn and, for those issues subject to de novo review, are entitled to substitute our judgment for that of the trial judge.

1. Minimal Standard of Living

The first prong of the Brunner test requires a debtor to prove more than simply tight finances. Nascimento, 241 B.R. at 445. "The proper inquiry is whether it would be `unconscionable' to require the debtor to take steps to earn more income or reduce her expenses." Id. Courts require more than temporary financial adversity, typically stopping short of utter hopelessness. Id.

In analyzing this element, the bankruptcy court did not focus upon unconscionability, but rather applied a "disposable income test" generally used to confirm chapter 13 plans.

The court stated that the standard the District of Oregon follows under the first Brunner element is the chapter 13 disposable income test. Sequeira v. Sallie Mae Servicing Corp. (In re Sequeira), 278 B.R. 861 (Bankr. D. Or. 2001). In applying that test, the court found that monthly payments on the debt are approximately $800, and that even though appellee's "expenses could be reduced without imposing an undue hardship," they "could not be reduced to any number that would be even close to allowing an $800-per-month loan payment." Id. at 16. The court then concluded, without making any findings regarding appellee's current income or expenses, that he met his burden of proving this first Brunner prong. Id.

Appellant argues that the court's use of the disposable income test was erroneous because the inquiry should be on determining if repayment of his loans would put him below the minimum amount necessary to support his family.

Appellee's schedules show net monthly income of $2,449, and monthly expenses of $2,450, leaving no disposable income. Appellant argues that an examination of appellee's expenses show that repayment of the loan would not cause him to slip below a minimal standard of living because his budget contains unnecessary items such as cable television, internet services, cell phones, a gym membership, charitable contributions, a new car, and $150 a month on transportation costs when both appellee and his spouse live and work in Klamath Falls.

Appellee testified that the cable, internet, cell phones, and new car expenses were all obtained during and after the time that appellee's wages were being garnished at a rate of $258 per month. Such expenses have led other courts to decline to discharge student loan debt. See, e.g., Rifino, 245 F.3d at 1088.

While the chapter 13 disposable income test informs the analysis (and would be controlling for the life of a chapter 13 plan), the fact that student loans are not dischargeable in chapter 13 cases without proof of undue hardship means that the ultimate standard is more stringent that the disposable income test. Thus, we have looked to whether it would be unconscionable for debtors to take steps to reduce expenses or earn more income.Nascimento, 241 B.R. at 445.

When we reexamine de novo appellee's monthly income minus expenses, we reach a different conclusion than the trial court.

Appellee's cable, internet, cell phones, gym membership, and new car payment all warrant adjustment, as a debtor who would show "undue hardship" must "adjust [his] lifestyle to allow [him] to make the payments on [his] student loan." Nascimento, 241 B.R. at 446.

In our view, it would not be unconscionable for appellee to eliminate those expenses, totaling approximately $559, from his monthly budget. Furthermore, the court found, and we agree, that appellee's spouse could work more than one day a week. Increasing appellee's spouse's work schedule would not cause significant child care expenses because both sets of grandparents are "excited and delighted" to help watch their granddaughter. The court found that an increase in appellee's spouse's hours could bring an additional $320 to their monthly budget.

Trimming $559 and adding $320 per month would provide monthly income of approximately $2,769, and monthly expenses of $1,891, leaving an extra $878.

To be sure, adding a student loan payment to those expenses would cause "tight finances," but it would not be unconscionable.

Thus, in our de novo review we conclude that appellee did not carry his burden of meeting the first Brunner prong.

2. Additional Circumstances

The second prong of the Brunner test requires a debtor to prove that "additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans." Brunner, 831 F.2d at 396. This prong is intended to effect congressional intent to make the discharge of student loans more difficult than that of other nonexcepted debt. Rifino, 245 F.3d at 1088-89;Birrane, 287 B.R. at 497.

We recently held in Nys (after the bankruptcy court had decided this case) that:

`additional circumstances' under the second prong of the Brunner test must be indicia of a debtor's inability to repay the loan in the future. Such circumstances need not be `exceptional,' except in the sense that they are tenacious and demonstrate insurmountable barriers to the debtor's financial recovery and ability to pay for a significant portion of the repayment period. This approach gives the courts the appropriate flexibility to do justice in each unique case.

Nys, 308 B.R. at 446.

We then set forth the following nonexhaustive list of matters for a court to consider when determining what constitutes "additional factors":

1. Serious mental or physical disability of the debtor or the debtor's dependents which prevents employment or advancement;

2. The debtor's obligations to care for dependents;

3. Lack of, or severely limited education;

4. Poor quality of education;

5. Lack of usable or marketable job skills;

6. Underemployment;

7. Maximized income potential in the chosen educational field, and no other more lucrative job skills;

8. Limited number of years remaining in work life to allow payment of the loan;

9. Age or other factors that prevent retraining or relocation as a means for payment of the loan;

10. Lack of assets, whether or not exempt, which could be used to pay the loan;

11. Potentially increasing expenses that outweigh any potential appreciation in the value of the debtor's assets and/or likely increases in the debtor's income; 12. Lack of better financial options elsewhere.

Nys, 308 B.R. at 446-47.

Applying the facts as found by the bankruptcy court to theNys considerations leads us to conclude that appellee's circumstances do not rise to the level necessary to satisfy the second Brunner prong.

Neither appellee nor his spouse suffer from a serious mental or physical disability, nor does their daughter; appellee's spouse cares for their daughter, and both appellee's and his spouse's parents are able and willing to watch her as well; appellee is well educated, having both a business degree and a law degree; appellee received a good quality education; appellee has usable and marketable job skills; he is employed full-time, from 9:00 a.m. to 5:00 p.m. with weekends off, and has the ability to seek additional part-time work, plus his spouse is capable of working more than one day a week. Furthermore, although the court found that appellee will soon meet his "maximized income potential" in his current job, appellee still has the ability to retake the bar exam again, which, if he passed, would allow him to seek higher paying employment in his "chosen educational field." Moreover, appellee is only thirty-three years old and has many more productive years ahead of him to work and pay off his educational loans.

To be sure, appellee and his spouse own no significant assets. They rent a two-bedroom duplex from appellee's parents on favorable terms. Further, appellee testified that he and his spouse plan on having more children and will need a larger residence. Finally, appellee testified, and the court found, that even though appellee could apply for higher paying jobs in other counties, they would encounter a higher cost of living and doing so would impose child care costs because neither set of grandparents would be nearby.

The present lack of assets that could be used to pay back the loan, the potential for increased expenses, and the lack of better financial options elsewhere are not of a magnitude sufficient to support a conclusion that "additional circumstances" warrant a finding of undue hardship under the second Brunner prong. To the contrary, we are persuaded that appellee has a potential for a bright future.

3. Good faith effort

The third prong of the Brunner test requires that a debtor demonstrate a good faith effort to repay the loans. Nys, 308 B.R. at 447. In evaluating good faith we consider: (1) the debtor's effort to obtain employment, maximize income and minimize expenses, and (2) debtor's efforts to negotiate a payment plan. Birrane, 287 B.R. at 499.

The bankruptcy court found this third prong to be the most troublesome, calling it a "close case." The bankruptcy court considered appellee's repayment record, whether his failure to repay the loans was due to factors beyond his reasonable control, whether appellee had realistically used efforts to maximize his financial potential and minimize expenses, the length of time after appellee's loan obligation went into repayment mode that he filed for bankruptcy, the percentage of his student loan debt in relation to his other debts, and whether appellee obtained any tangible benefit from the student loan obligations.

The court found that even though appellee only made one voluntary payment on his loans, he attempted to negotiate for lower monthly payments and offered to pay $5000 good faith money, which he was going to receive from his parents, but was turned down. The court then noted:

[a]s to whether or not the hardship is beyond his reasonable control, this debtor may not be as sympathetic as some who have come before the Court in the sense that he does not have physical or mental disabilities, he's not handicapped in any fashion. Here, I guess, the hardship of disability would have to be referred to as the failure to pass the bar exam. While there's no guarantee that he would be making more money even if he had passed the bar exam, I do note that the debtor attempted to take the bar exam twice, failed the exam twice. I'm willing to infer that he did not intend to fail the exam. Hence, it would appear that his hardship, to the extent it exists, is caused by factors beyond his reasonable control.

The court also found that appellee has attempted to maximize his financial potential and that he can minimize expenses to make room in the family's budget for some loan payments, especially if appellee's spouse were to work more hours a week. Furthermore, the court found that appellee waited four and a half years after his repayment period commenced before filing bankruptcy, and that he received a tangible benefit from the student loan obligations.

Regarding appellant's offered payment plan options, the court found:

[i]t was represented to the Court that [the amortized repayment plan] is a replacement for ICRP. The Court respectfully disagrees, . . . [The plan] is simply a proposal to amortize the loan over 30 years. So, first of all, it lasts five years longer [than the ICRP] and involves full payment of the obligation. Secondly, the [ICRP] involves, as I understand it, an analysis of the debtor's income each and every year to determine what the monthly payments will be that year. There is no such evaluation under [this plan]. There are several different options that can be selected, and once selected the monthly payments are fixed.

So, the Court disagrees and would not conclude that [the plan] is a replacement for ICRP in any event; and further, as will become apparent, the Court concludes that the debtor could not make the payments under [the plan] without undue hardship because the debtor does not have sufficient funds available to make the upwards of $300 per month payments required.

Based on a review of all the above factors, the court concluded that appellee made a good faith effort to repay the loan and therefore satisfied all three Brunner prongs. That being the case, the court concluded that appellee has room in his budget, with his spouse working more hours, for $225 a month to go towards his student loan payments. The court then discharged all but $30,000 of appellee's student loan debt.

Appellant argues that appellee exhibited a lack of good faith by not negotiating a repayment plan that provided for only $49.43 more than what he testified that he could afford. Specifically, appellee testified that he could afford to pay $258 a month, and two of the three monthly payment options that appellant offered to appellee started as low as $307.43, leaving a difference of $49.43. Appellant contends that the court erred in finding good faith especially when the court found that appellee's budget provided for excess income if appellee's spouse were to work more than one day a week.

Appellant also argues that the court erred when it found that appellee's failure to pass the bar exam was a hardship beyond his reasonable control, especially in light of the third episode.

We agree with appellant that the bankruptcy court was too charitable. As previously discussed, appellee and his spouse have taken no steps to maximize their income, nor minimize their expenses. If they were to eliminate from their budget luxury items such as cable television, internet and cell phone services, the gym membership, the new car payment, and recreation expenses, they would have room in their budget for loan payments of $307.43. That is even more of a possibility if appellee's spouse worked more hours and appellee got a part-time job.

We agree with the bankruptcy court that the fact that appellee only made one voluntary payment on his loan obligation is not dispositive. Birrane, 287 B.R. at 499. Nevertheless, appellee's circumstances did not satisfy the Brunner test in a manner sufficient to justify partially discharging the student loan debt.

CONCLUSION

Concluding that appellee satisfied none of the three essential elements of the Brunner test, the partial discharge of appellee's student loan debt was not adequately supported. REVERSED.