Occasionally I will meet a client who desperately needs bankruptcy relief, and has done everything in his or her power to avoid filing bankruptcy for as long as possible. To stay afloat and avoid filing bankruptcy, such person may have depleted retirement accounts, such as 401(k) accounts, 403(b) accounts, Deferred Compensation accounts, Employee Stock Option Plans, Individual Retirement Accounts (IRA), and so on. The advice is usually the same I provide these folks: I wish you would have met with me before taking distributions from your retirement accounts. My reasoning is three-fold, and are addressed in more detail below.
REASONS TO SEE A BANKRUPTCY ATTORNEY BEFORE WITHDRAWING MONEY FROM RETIREMENT ACCOUNTS TO PAY DEBT
1. The most important reason to avoid withdrawing funds from retirement to pay off debt is that retirement accounts generally are protected when you file bankruptcy, meaning you will NOT lose your retirement accounts through the bankruptcy process. You can have hundreds of thousands of dollars in the retirement account and it can be protected when you file for bankruptcy relief (provided that you did not pack your retirement accounts in an effort to defraud your creditors; but normal contributions are protected). For example, a consumer pulls out thousands of dollars from his 401(k) to stay afloat and to avoid bankruptcy, only to realize that he must still file for bankruptcy relief, as his debt-load is insurmountable. The consumer sees a bankruptcy attorney, and files for bankruptcy relief (either a Chapter 7 bankruptcy case or a Chapter 13 bankruptcy case). If this consumer had filed bankruptcy first and not withdrawn funds from his retirement account, he would have been debt free and would have reserved his retirement for when he actually retired.
2. There is a tax consequence to withdrawing money from retirement accounts early. Not only will a consumer drain a precious retirement account he or she may need in the future, but that consumer will likely have to pay a tax and/or penalty for withdrawing the funds early.
3. You want to preserve your retirement for when you actually need it; that is, when you retire. Social security benefits might not be adequate to cover the life-style a consumer may be accustomed to once that consumer retires. One policy reason to protect retirement accounts when an individual files for bankruptcy relief is to ensure that this resource is available later in life for the consumer, when he or she retires (and not left destitute).
In summary: If you have mounting debt, please see a bankruptcy attorney to weigh your options before you decide to withdraw funds from your retirement.
If you would like to set up a free in-office bankruptcy consultation in Eugene to discuss how bankruptcy may improve your financial situation, please call today.