Retirement funds are protected from being confiscated in a bankruptcy case to pay creditors, to a point. While ERISA accounts are 100-percent exempt, the funds in non-ERISA ones like IRAs are only exempt up to $1,362,800. If you have more than that, the bankruptcy trustee will take those excess funds and apply them to your bill. However, here are two things you can do to possibly avoid that.
Use Wildcard Exemptions
Depending on how much money you have over the limit, you may be able to use wildcard exemptions to protect the cash. Bankruptcy law lets petitioners keep certain property if it falls under a prescribed amount, which varies by state.
For instance, in New York, you can keep your vehicle if the equity you have in it is $4,550 or less. For disabled people, the exemption amount increases to $11,375.
In addition to itemized categories (e.g. household goods, homestead), bankruptcy law provides a wildcard exemption that can be applied to anything the petitioner wants. Some states even let people who don't use the homestead exemption to apply some or all of it to other things.
The amounts of these exemptions vary by state, so you'll want to research the correct information for the state where you'll be filing bankruptcy and take advantage of what's available to help save your retirement funds.
Pay Non-Dischargeable Debts
If you have a significant amount of retirement funds over the limit, another way to keep the bankruptcy trustee from taking the money is to use it to pay non-dischargeable debts, such as student loans and taxes.
Generally, people are discouraged from using retirement funds to pay debts because they typically use the money on bills that would be wiped out by bankruptcy. However, debts that cannot be discharged by the court means you will still be responsible for paying them once your case is over. If you're going to lose your retirement money anyway, you might as well use it for something that will benefit you.
You have to be careful here, though. If you don't handle these payments the right way, the bankruptcy trustee could force you to get the money back from the creditors you paid and so he or she can reapply it to other debts. Additionally, the IRS will levy a 10-percent early withdrawal penalty when you take the cash from your retirement fund before you turn 59½ , so be sure to factor that in if you choose this option.
Regardless of how you decide to protect your excess retirement funds, it's best to consult with a bankruptcy attorney before doing anything to ensure what you choose to do is legal and consequence free. For help with filing bankruptcy, contact a local lawyer.