By Katy Stech
Updated Aug. 11, 2016 7:50 p.m. ET

Sacred Heart University can keep money in bankruptcy of Steven and Lori Palladino tied to Ponzi scheme

A federal bankruptcy judge ruled that Sacred Heart University can keep roughly $65,000 in tuition money in a legal battle that’s grown more common as the cost of college rises and tuition payments become a popular target of bankruptcy trustees.

U.S. Bankruptcy Judge Melvin Hoffman ruled that Steven and Lori Palladino benefited from paying their daughter’s tuition at the private Connecticut university. The decision allows the school to avoid returning the money—paid between March 2012 and March 2014—to a court-appointed trustee who sought the money to pay debts as part of the Massachusetts couple’s 2014 bankruptcy.

“A parent can reasonably assume that paying for a child to obtain an undergraduate degree will enhance the financial well-being of the child which in turn will confer an economic benefit on the parent,” Judge Hoffman wrote in the nine-page ruling.

With his ruling on Wednesday, Judge Hoffman became the first judge in recent years to weigh in on bankruptcy trustees who sue universities—and sometimes, college students themselves—to take back tuition that had been paid by parents years before. Trustees argue that because bankrupt parents don’t benefit from paying children’s college tuition, those payments should be taken back and made available to pay the parents’ other debts. Most colleges have settled, agreeing to return a total of at least $276,434.80 since 2014, a Wall Street Journal analysis found.

Under the U.S. bankruptcy code, trustees can sue to take back money spent in the several years before a bankruptcy filing if a trustee finds the person didn’t get “reasonably equivalent value” for that expense. In the case of a child’s tuition payment, trustees argue the bankrupt parent didn’t get the value for the expenditure, but rather the child did.

In the Palladino case, bankruptcy trustee Mark DeGiacomo argued that Sacred Heart University’s tuition payments should be redirected to victims of a multimillion-dollar Ponzi scheme that Mr. Palladino orchestrated. He pleaded guilty to federal and state criminal charges, and in 2014 a Massachusetts court sentenced him to 10 years in prison, according to bankruptcy-court documents. Ms. Palladino pleaded guilty and was sentenced to five years of probation.

University lawyer Elizabeth Austin said Wednesday that Judge Hoffman’s decision speaks to “the outrage over trustees that are pursuing universities when they have provided an education to young adults that their parents pay for in good faith.”

Mr. DeGiacomo on Thursday declined to comment.

In other cases, judges have disagreed on whether the colleges should return tuition. In 2011, Marquette University lost a battle over $21,527 in tuition when U.S. Bankruptcy Judge Thomas Tucker in Detroit ruled that the value to a student’s parent wasn’t “concrete and quantifiable.”

Several federal lawmakers last year proposed to ban such lawsuits, saying it is up to a parent to decide whether to pay a child’s education instead of other bills. The measure hasn’t gained much traction.