Struggling with debt? Leave your retirement assets alone

Using retirement assets to repay debts in lieu of filing bankruptcy is not well advised in most cases.

When many people are faced with unmanageable debt, they often look for other means of paying their bills in order to avoid bankruptcy. Many people look at their retirement accounts as a means of paying down debt such as medical bills or credit cards or avoiding foreclosure. Unfortunately, many people think that the avoidance of bankruptcy is of paramount importance and that they are doing the right thing by raiding their retirement accounts.

However, this belief is misguided, as it leads to a weaker financial position instantly. People that use their retirement accounts to pay off debt find themselves hit with early withdrawal penalties and tax consequences that eat away at what they have worked their whole lives to save.

In addition to the financial penalties, many people do not understand that using retirement accounts to stave off bankruptcy is generally a foolish idea, since most retirement accounts are exempt during bankruptcy. Since the accounts are exempt, creditors may not use the funds contained within them to satisfy outstanding debts during bankruptcy. Under the law, the following types of accounts are exempt:

• 401(k)s

• Profit-sharing plans

• Retirement and pension plans

• IRAs (Roth and traditional are limited to $1,245,475 per person)

• Keoghs

• 403(b)s

• Defined benefit plans

Due to their exempt status, these retirement accounts remain intact throughout bankruptcy, allowing individuals to keep their hard-earned savings. In addition, the bankruptcy process will wipe out most debts that the retirement savings would have been used to pay off, allowing the filer a new financial start (but still able to keep his or her retirement accounts).

Since retirement accounts are largely preserved throughout the bankruptcy process, many people believe that they can preserve their cash by transferring it into their retirement accounts before they file bankruptcy. However, this is a fallacy. Once a bankruptcy is filed, the bankruptcy trustee routinely examines financial transfers that were made several months before the filing date. If it is discovered that the filer attempted to defraud their creditors by using their retirement accounts as a shelter, the exempt status of the accounts may be revoked. This allows the account's funds to be used to pay off debts during the bankruptcy.

An attorney can help

If you are struggling with debt that you cannot afford, you may be tempted to go to drastic means to pay it back. Fortunately, the bankruptcy laws make this largely unnecessary. An experienced bankruptcy attorney can review your debt-relief options with you and recommend one that will allow you to keep what you have worked hard throughout your life to obtain.

Keywords: bankruptcy exemptions, retirement plans