The bankruptcy process can be stressful, but for many people it is their only option when they are overwhelmed by debt. For many people, an important question they ask as they go through this process is what will happen to the retirement account that they have saved for years. Fortunately, bankruptcy law protects assets in retirement accounts such as 401(k)s and IRAs from being seized as assets to repay creditors.
This protection applies to any amount of money saved in these accounts, regardless of how much or little is saved. This provision was placed into federal bankruptcy laws to protect the livelihood of seniors. In other words, it is meant to guarantee that people who declare bankruptcy today are not in danger of spending their retirement years in poverty. For most people declaring bankruptcy, this provision of the bankruptcy law is the only real protection of their most valuable asset.
Depending on the state in which the bankruptcy is filed, a person can potentially have their cash accounts such as checking and savings accounts and other assets seized to repay their debts. These assets can include their vehicle ( although most states make provisions for vehicles that allow a person to commute to and from work), jewelry, personal property, and in some rare cases their home. Retirement accounts, however, are protected from this seizure. For this reason, it is important to carefully consider.
Withdrawing money from one of these accounts to pay off debt. Money withdrawn from these accounts before the owner turns 59 1/2 is almost always subject to tax penalties. Even without these penalties, it is important to note that the money cannot be returned to the account after it is withdrawn, meaning that the account owner will miss out on years of potential gains.
If money is taken out of a retirement account to repay debt, but the consumer still has to declare bankruptcy, they will be left with no savings of any kind. For these reasons, many financial advisors do not recommend using retirement savings to pay off debt. If a consumer chooses to do this, however, he or she should first make sure that the amount being withdrawn is enough to pay off all of the debt, plus any taxes owed on the money. He or she should also make certain that getting out of the debt will leave them in a position where they can still afford their remaining bills, even in the case of another emergency such as a job loss. Many people have made the mistake of cashing out their retirement accounts, only to find out that they still have to declare bankruptcy.