401k and Bankruptcy
Bankruptcy is still considered by most people to be a last resort, and I don't necessarily disagree, but thinking that way can result in a big mistake.
In an effort to avoid bankruptcy, the honest, hardworking, debtor sees his or her 401k as a way to stay afloat in the hope that things will turn around. Funds are borrowed from the account initially and then it is often just cashed out. Penalties and tax are withheld and the remainder goes to living expenses and debt payments.
The problem becomes apparent when things haven't turned around and the 401k money is gone. The debt still exists, a lawsuit or two is filed and thoughts of bankruptcy loom large.
When the Debtor visits with the Bankruptcy Attorney, he learns, often for the first time, that the funds in the 401k account were safe from creditors the entire time and would have been safe from the Bankruptcy Trustee had the filing been done with the 401k still intact.
In fact, funds in a 401k are not even property of the Bankruptcy Estate. The Supreme Court has held that most retirement plans that contain enforceable “anti-alienation” clauses, aren't property of the bankruptcy estate and aren't subject to the jurisdiction of the Bankruptcy Court.
In 2005, this protection was extended to include a very large portion of Individual Retirement Accounts (IRA) as a result of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 or BAPCPA.
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