Bankruptcy and 401(k) Loans

People facing unrelenting pressure from creditors often consider a range of options. For many, bankruptcy offers the clearest path to a fresh financial start. Another option some people consider is taking out a loan against the funds in their 401(k) retirement account. Under both Chapter 7 and Chapter 13 filings, 401(k) plans are generally protected from creditors. This means the funds are not considered part of the bankruptcy estate, allowing individuals to retain their retirement savings for future use.

It is legally permissible to borrow up to $50,000 or half the value of a 401(k) account, whichever is less. This type of loan is repaid with interest back into the individual’s retirement account over a specified period, generally up to five years. However, you should be very careful if you’re thinking of taking this step and discuss one or more of the following issues with a qualified attorney:

• Chapter 7 bankruptcy — When you take a loan prior to filing for Chapter 7 bankruptcy, those assets are no longer protected and can be used by the trustee to pay off your creditors. Some people choose to wait until after their Chapter 7 discharge to take a 401(k) loan. This means that those assets won’t be subject to liquidation, but having to pay back the loan with interest could make your situation more difficult as you work to restore your credit.
• Chapter 13 bankruptcy — A 401(k) loan can affect your repayment plan under Chapter 13 bankruptcy.  It’s critical to disclose any existing retirement plan loan, as it might impact how your disposable income is calculated and subsequently, your ability to repay creditors. Borrowing from your 401(k) during the Chapter 13 repayment schedule requires court approval, and might lead to a higher monthly payment to the trustee.
• Potential future consequences — Defaulting on a 401(k) loan can result in significant tax liabilities and penalties, depleting your retirement funds even further. Serious debt problems also make it difficult to put something away for what should be your “golden years.” While it’s very tempting to access cash now, keeping your 401(k) intact and letting it grow might be the best decision for the long run. 

You can rely on Jeff Field & Associates to help you identify the optimal debt relief solution. By working personally with each client, I give people with money problems the opportunity to explore their alternatives and take action that supports their long-term financial health. Our firm advises Georgia residents on a full range of debt relief matters, including Chapter 7 and Chapter 13 bankruptcies. To schedule a consultation, please call 404-381-1278 or contact us online. We have offices in Douglasville, Gainesville, Bogart, Lawrenceville, Marietta and Decatur.