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How does bankruptcy affect a 401(k)?

When credit card debts mount and it becomes difficult to make monthly payments, some Wisconsin residents may wonder whether it would benefit them to file for bankruptcy. Consumers who are retired may wonder whether filing for bankruptcy to eliminate credit card debt would affect retirement accounts, such as a 401(k).

A consumer has the ability to file for Chapter 7 bankruptcy to eliminate unsecured debts, such as credit card debt. Non-protected assets may be used to pay off debts in this scenario. However, retirement accounts cannot be taken in a bankruptcy proceeding. This is true even if there would be enough money in the 401(k) to pay off the debts completely.

The key to protecting funds held in a retirement account is leaving it in the 401(k) or other retirement account where the money is protected. Once funds are removed from the 401(k) and placed into a regular bank account to pay daily expenses, the money becomes available to pay debts. Checking and savings accounts do not receive the same protection as retirement accounts, so a person who withdraws all of the money from a 401(k) prior to filing for bankruptcy may be required to use the money to pay debts.

When debts become overwhelming, an experienced bankruptcy attorney may be able to help. In some cases, an attorney might be able to review the different types of bankruptcy to determine which will be most beneficial. Consulting with an attorney prior to moving assets can help avoid mistakes, such as moving protected assets into an unprotected checking account. An attorney might be able to help ensure that consumers get the full benefit of the protections provided by bankruptcy laws. When the time comes, an attorney may also file the paperwork.

Source: Fox Business, "Will my 401(k) be Safe if I File for Bankruptcy?", Justin Harelik, June 19, 2013

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