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Better Understand the Law

Saving Your Retirement in Bankruptcy

We know people don’t want to file for bankruptcy. Even if their financial situation is not of their own doing, many folks find bankruptcy to be embarrassing and feel filing bankruptcy means they’ve failed. If this sounds like you, it will serve you well to keep in mind that America’s Founding Fathers included provisions for our current bankruptcy laws in the United States Constitution. They recognized that we all may need a fresh start from time to time.

Current bankruptcy laws protect retirement dollars from bankruptcy creditors; this means that you DO NOT need to drain retirement accounts to pay your creditors – and – it’s just not a good thing to do for many reasons.

Do Not Drain Retirement Accounts to Avoid or Delay Bankruptcy

If you need to take money out of your retirement accounts to feed yourself and your family and you’ve exhausted all other resources, then go ahead and use your retirement account assets to purchase food.

However, DO NOT, use retirement assets to pay for credit card debts, medical bills, or personal loans. If you are thinking of taking money out of your retirement account, bankruptcy is likely inevitable and the withdrawal will only delay filing for a few months.

If you even consider using retirement funds to pay your bills, consult with a qualified bankruptcy attorney before doing so.

  • Retirement accounts are protected under bankruptcy exemptions and can’t be taken by your creditors. This means that you can keep your retirement funds AND receive bankruptcy protection.
  • Bankruptcy law recognizes that you’ll need those retirement funds later in life. You may not always be able to work because of your health and/or age. The law protects your retirement funds because you’ll need them.
  • Using pre-tax retirement funds before retirement age will cause a 10% penalty andordinary income tax. For each dollar you withdraw from a 401(k), 403(b), traditional IRA, or any other non-taxed retirement fund, you’ll have to pay ordinary income tax at your top rate – as high as 36.9% plus a 10% early withdrawal penalty – that means you lose about 47% to taxes and won’t have that money to pay creditors – or for your future.
    • Even if your income tax rate is 28%, you still have the 10% early withdrawal costs – and – you would lose about 40% of the amount withdrawn – for each $1.00 withdrawn, 40 cents goes to taxes, not to pay off your creditors.
    • For example, if you withdraw $10,000 in hopes of paying down credit card debt, you’ll have to pay $4,000 in taxes and only have $6,000 left to pay the credit card company.

      And if you withdraw, $20,000 to pay down credit card debt, about $8,000 will go to taxes with only $12,000 going to the credit card company.

  • In addition, traditional retirement accounts grow tax deferred, meaning no taxes are paid until the money is withdrawn. Tax deferral allows your assets to grow faster than taxable (non-retirement) accounts.

    What you think is a “measly” $50,000 and won’t make a lot of difference in your future may become $150,000 over the rest of your lifetime; $100,000 may become $300,000.

    • That $50,000 can become about $30,000 to pay off creditors OR it can become $150,000 over your lifetime (depending on your age and your investments).
    • That $100,000 can become about $60,000 to pay off your creditors OR may become $300,000 over your lifetime (depending on your age and your investments).
  • Credit card debt is totally eliminated in Chapter 7 bankruptcy and can be reduced with reduced payments in a Chapter 13 bankruptcy.
  • Withdrawals from retirement accounts usually signal that bankruptcy is inevitable. If you end up filing bankruptcy later, you still have the negative consequences of bankruptcy plus reduced or no retirement savings to prevent future financial disaster.

Please Consult with a Bankruptcy Attorney

Even if you’re not sure whether bankruptcy is right for you, please consult with a bankruptcy attorney BEFORE you withdraw money from your retirement accounts to pay off creditors. You may end up having to file bankruptcy anyway and you’ll be trapped without the security of a retirement fund if you withdraw those assets.

For a free consultation contact one of the attorneys listed on These case evaluations are free – private – and confidential. If you prefer, you can call the bar association for a list of bankruptcy lawyers or ask a friend for a referral.

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