Her parents went bankrupt. Should her college pay the debt collector?

Bankruptcy experts say this type of case didn't exist several years ago

After a student's parents went bankrupt, a debt collector is trying to reclaim the student's tuition money from Sacred Heart University—but New England colleges are banding together to try and stop it, Katy Stech reports for the Wall Street Journal.

Bankruptcy experts say the lawsuit is part of a new, growing trend—partly spurred by the rising cost of college tuition. Most other cases have been settled out of court.

Lawsuit details

The trustee is trying to collect $66,275.18 to pay off debt incurred by Steven and Lori Palladino, a couple who filed for bankruptcy in 2014. Their daughter is to graduate from Sacred Heart this year.

The trustee says that tuition money should instead be directed to victims of Steven Palladino's Ponzi scheme run through the Viking Financial Group.

"The money they paid to Sacred Heart University was with stolen funds," says Ashley Whyman, the trustee's lawyer.

Judge Melvin Hoffman, who is handling the case, said he needs more details before ruling because he can imagine situations in which the money should be returned and others in which it would be protected.

What the colleges say

The university groups argue federal and state laws protect the financial relationships between children and their parents. Parents generally pay 37% of the cost of attendance, according to the groups.

The Internal Revenue Service allows taxpayers to claim student children up to the age of 24 as dependents; people under 21 have limited access to borrowed money; and FAFSA requires information about students' parents.

"The federal government has built an entire system of incentives around the expectation that parents will pay for their children's college," the university groups say.

Ruling consequences

If Sacred Heart must return the money, Nicole would be delinquent on her student account "as if the tuition ... had never been paid," the groups wrote in their 13-page brief. She may face a registration hold, loss of campus privileges, delayed graduation, or loss of credits (Stech, "Bankruptcy Beat," Wall Street Journal, 9/9).

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