One of my pet peeves as a Pittsburgh bankruptcy attorney is not using one’s retirement funds to pay off debts.
My big objection is that those funds are supposed to be used for your retirement, not for your supposedly productive earning years. I can, however, understand that people can have financial problems and that a 401k loan could possibly help overcome a specific problem.
Generally however, your retirement plan, (and this would have to be a tax-qualified retirement plan, such as a 401k plan or IRA), is going to be protected from your creditors. In Pennsylvania, this is going to be the case whether you file for bankruptcy relief or not.
So, once you borrow from your 401k to pay your creditors, here are the five likely things that will happen:
- you are probably going to “throw good money after bad”. In other words, you won’t be able to pay your debts in full from your retirement funds;
- you will be left without any retirement plan at all, or at least, a greatly-reduced one;
- to reconcile your 401k plan, you will have to either begin to repay the loan within 60 days, and I never cease to be amazed at how expensive the repayment terms are, or
- if you fail to repay the 401k loan, then you will have to pay taxes on the amount of disbursed funds. So, make sure to save some money to pay those taxes! You may have simply bought yourself a future problem with the IRS.
- you’re going to get a headache when you realize that you could have protected your entire retirement plan in the event that you filed bankruptcy. Specifically, Section 522(d)(12) of the Bankruptcy Code gives you the right to protect qualified tax accounts. If you have other questions or concerns, please contact my office to discuss.