Protecting your retirement assets when debt gets out of hand

When debts get out of hand and people turn to bankruptcy for relief, they often worry about whether their assets may be at risk. The answer to this question depends on a variety of factors, including the nature of the assets and the type of bankruptcy involved, as well as the borrower's individual circumstances.

Retirement accounts are protected during bankruptcy

Understandably, retirement accounts are among the assets that people tend to worry about most when filing for bankruptcy. Particularly for those who have spent many years saving and may be approaching retirement age, the thought of losing their 401(k) accounts can be terrifying.

Fortunately, these individuals can breathe a sigh of relief - 401(k) accounts are typically protected from seizure during the bankruptcy process. However, in order to benefit from this protection, it is important to understand how it works.

The liquidation process

Chapter 7 bankruptcy is sometimes referred to as liquidation. This is because Chapter 7 bankruptcy may involve "liquidating" certain assets, or converting them to cash and using them to pay off some of the borrower's debts. Regardless of how many assets are liquidated, most or all of the unsecured debts remaining after liquidation are eliminated, meaning that the borrower is no longer required to pay them back.

While Chapter 7 bankruptcy sometimes requires borrowers to give up certain assets, many people are able to file for Chapter 7 bankruptcy without giving up any assets at all. This is because many types of property are considered "exempt" from liquidation, which means that they cannot be used to pay a person's creditors during bankruptcy.

Withdrawing funds can lead to loss

Pensions, 401(k) accounts, and most other employer-provided retirement accounts are typically considered exempt assets for purposes of liquidation bankruptcy. However, the exemption generally applies only while the funds remain in the retirement account. Thus, it is possible to convert retirement funds from exempt to non-exempt assets simply by withdrawing them from the account prior to filing for bankruptcy.

Unfortunately, this is exactly what many people do when they are overwhelmed by unmanageable debt and struggling to make ends meet. Although withdrawing money from a retirement account may seem like an effective solution in the short term, the long-term consequences can be financially devastating - especially if it only serves to delay an eventual bankruptcy filing that would have happened anyway.

Get legal advice before dipping into retirement funds

Before risking your long-term financial security by depleting your retirement savings to pay off debt, it is wise to discuss your situation with a knowledgeable bankruptcy lawyer. An attorney with broad experience in bankruptcy and consumer debt issues can help you explore your options and advise you on the best way to get out of debt while protecting your financial future.