Why I ... believe more students will opt for bankruptcy despite efforts to stop them

December 12, 2003

From April, the option of bankruptcy will suddenly become much more attractive to students looking for a way out of their debts, when new legislation comes into force aimed at helping entrepreneurs.

In practice, the Enterprise Act will allow bankrupts to wipe the slate clean after a matter of months, rather than the three years it currently takes to be discharged.

For a foretaste of what effect this might have, you only have to look at the US, where similar liberalisation saw the number of bankruptcies soar by 59 per cent. Students were able to default on government loans, landing the taxpayer with huge bills. The US authorities were so alarmed that the pendulum has now swung the other way and the loophole on student loans was effectively closed in 1998.

Although the UK doesn't have anything like the level of student bankruptcy seen in the US, it is rising. The latest figures suggest that more than 900 students have had debts written off by filing for bankruptcy, and it is likely that this figure will soar when the Enterprise Act comes into force.

Ministers have pledged to exempt student loans from bankruptcy, but while this loophole remains, it continues to be exploited.

My firm, Bond Pearce, which acts for a number of UK universities, has been chasing more than £1.5 million-worth of bad debts from students over the past 12 months, and the figure is rising.

The real issue is that whereas the government views the Enterprise Act as an essential tool for fostering entrepreneurial Britain by trying to reduce the stigma of bankruptcy, students see it as a consumer product.

Despite the ramifications - including poor credit ratings when applying for mortgages and other loans, and not being able to pursue a number of careers such as law or accountancy while undischarged - students see bankruptcy as a get-out-of-debt-free card.

And even when the government finally closes the loophole (probably next year), students will turn to commercial lenders, whose loans can still be written off.

But someone has to pay for all those bad debts, and the cost will be spread through the rest of the credit industry, which means you and me will foot the bill. Banks will be increasingly wary of lending to students, putting further strain on student finances.

We have been advising university clients on measures they can take to mitigate the potential impact of the Enterprise Act. Some insist that students clear all debts - from accommodation and catering charges to library fines - before they start a new term, while others refuse to allow students to graduate until they have settled their accounts.

Some of these measures divide opinion in the higher education sector, but more and more institutions are using them to lessen their exposure to debtors, especially those from overseas. The government has acknowledged that recouping top-up fees from overseas students, who are not part of the UK tax system, is an unresolved problem.

But there are other practical steps universities can take, such as educating students about the pitfalls of bankruptcy. Credit reference agencies will keep a bankruptcy order on file for six years and, if students are deemed to have been especially profligate, with no intention of repaying, they may face a bankruptcy restriction order that could curb their borrowing for up to 15 years. Alternatives to bankruptcy, such as university hardship funds, are also being promoted.

Returning to the American experience, there is still a wealth of advice available in the US for students looking at the bankruptcy option, despite a tightening of the law. One website has a section called "Eliminating students loans", where you can "file for bankruptcy from just $124.95!" - and pay by credit card.

Gareth Kagan
Partner and head of debt recovery, Bond Pearce

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