WSJ: Bill Proposes Ban on Tuition Clawbacks in Bankruptcy

A federal lawmaker is proposing to ban bankruptcy trustees from trying to claw back tuition money from universities and, in some cases, college students themselves—a legal maneuver that can arise in a parent’s bankruptcy case.

Rep. Chris Collins (R., N.Y.) Tuesday introduced a bill that would block bankruptcy trustees from filing lawsuits against universities and college students to recover tuition money that had been paid years before.

Parents who file for bankruptcy after paying for their children’s college tuition can face scrutiny from court-appointed bankruptcy trustees who argue that the money should have been spent on their own growing debts.

But with his bill, Rep. Collins said it is up to parents to decide to prioritize a child’s education over other bills like credit card or medical debt.

“That’s a personal decision on the bills you pay and bills you don’t pay,” he said. “Families all over America today, when tuition comes due, are tightening their belts and paying the tuition because it’s the future for their kids.”

Rep. Blake Farenthold (R., Texas) has also signed onto the bill, which is called the Protecting All College Tuition Act of 2015.

Consumer bankruptcy experts who say the trend was nonexistent several years ago predict that the number of tuition-related lawsuits to rise alongside the cost of tuition. A Wall Street Journal search of public filings across the country turned up at least 25 colleges that have been asked to return money in recent years. More than a dozen complied.

When a person files for bankruptcy protection, past financial moves can be examined by court-appointed trustees who have a duty to recover as much money as possible to repay creditors.

Under the U.S. bankruptcy code, trustees can sue to take back money that a bankrupt person spent several years (up to six years in some states) before filing for protection if a trustee finds that the person didn’t get “reasonably equivalent value” for that expense. That typically leads a trustee to look for homes, cars or cash that a person gave to family members or friends before declaring bankruptcy.

But in the case of a parent filing for bankruptcy after paying for a child’s tuition, the parent didn’t get the value for the expenditure—the child did. That wrinkle permits trustees to recover those funds.

Specifically, the bill from Rep. Collins would exclude tuition payments from the list of financial transfers that can be clawed back.

This isn’t the first time lawmakers have been riled up before over bankruptcy law’s clawback mechanisms. When multimillion-dollar Ponzi schemes were exposed in Minnesota and Florida, trustees successfully went after money the architects of the schemes had donated to charities in their effort to recover money for the scheme’s victims.

State lawmakers, angered by the suits, passed rules in both states that made it harder for lawyers to take back that money by putting older donations out of reach.

“Lawmakers came to the rescue of the charities that were getting sued,” said California bankruptcy lawyer Kathy Bazoian Phelps, who wrote a book on Ponzi schemes.

Rep. Collins said he first read about the tuition lawsuits in last week’s Wall Street Journal, which published a story about the growing trend on its front page.

“Some things just hit you as wrong,” said Rep. Collins, who has two children at undergraduate and law school programs right now.

Since he was elected in November 2012, Rep. Collins introduced another piece of bankruptcy-related bill that would enable financially struggling gun owners to keep their guns—instead of selling them at a trustee’s request—after filing for protection. (Some states already have this protection.) That measure is called the Protecting Gun Owners in Bankruptcy Act of 2015.