Two Reasons Your Retirement is Probably Safe in Bankruptcy
One of the primary concerns of those facing bankruptcy is their property. Every potential bankruptcy filer who steps into an attorney’s office for a consultation wants to understand how their assets will be affected. It is often the liquidation analysis that weighs most heavily on the bankruptcy decision. Of course, a retirement account that you’ve spent years building comes in as a top priority.
If you file bankruptcy, will you lose your retirement account?
As with so many legal answers, the question is nuanced. However, most people are able to file bankruptcy with their 401K and retirement intact.
An Exemption Introduction: Your Retirement vs. Your Ferrari
First, it is important to understand that the bankruptcy code is rooted in public policy. As a result, bankruptcy laws contemplate keeping certain property deemed fundamental to a normal, quality life. For example, most people need transportation to get to and from work; as a result, almost every state’s bankruptcy laws allow an exemption for a car.
The amount of each state’s car exemption varies, but it is a safe bet that your Honda will be protected and your Ferrari won’t be. Bankruptcy legislation recognizes the basic need for transportation, but not $300,000 luxury transportation. You get the idea. Using this framework, your retirement accounts are viewed by the code as much closer to a Honda Accord than a Ferrari. Saving for retirement is a common, necessary thing that most people do in one way or another and therefore, most retirement accounts are protected as exempt by the various bankruptcy laws. The Bankruptcy Code provides an exemption for retirement accounts (IRA’s etc.) up to one million dollars. Therefore, the first reason your retirement is probably safe in bankruptcy is because it is exempt by law, meaning the trustee can’t liquidate it to pay back your unsecured creditor
The Supreme Court Has Ruled That ERISA qualified 401(k) Accounts Are Not Part Of The Bankruptcy Estate
The minute a bankruptcy case is filed, an “estate” is created. All of the debtor’s property becomes subject to the oversight of the bankruptcy court and case trustee. In a chapter 7 case, non-exempt property is then subject to sale by the bankruptcy trustee. However, in Patterson vs. Shumate, the Supreme Court ruled that ERISA qualified 401(k) accounts are not part of the bankruptcy estate. This means that, regardless of value, your 401(k) is safe in bankruptcy assuming it is ERISA qualified. Most employer based 401(k) accounts are ERISA qualified, however, it is important to meet with a bankruptcy attorney to confirm.
Remember, the Bankruptcy Code doesn’t believe you should be able to keep your Ferrari and file for bankruptcy. You’re retirement is a different story. In most cases, individual retirement accounts are safe in bankruptcy.
SEE ALSO: How Can I Prepare for Bankruptcy?