Don’t borrow too much from your 401(k) right before a bankruptcy

Generally speaking, in my bankruptcy law practice here on the Massachusetts – New Hampshire line, I advise most people not to touch their 401 (k) and other retirement accounts before filing a bankruptcy case. After all, that money is 100% protected in a bankruptcy filing. If you take it out, you get hit with taxes, plus fines and fees. So why do that?

Some people might have to do it just to pay for the bankruptcy itself. Fine, if you have to do that, then that’s what you have to do! But do try to constrain yourself to just withdrawing the amount needed to pay your attorney and the court’s filing fee.

If you take out a lot more than you need, you might be getting yourself into hot water, as you may not have enough bankruptcy exemptions to cover the excess case (which would mean you would lose it to the bankruptcy trustee, but still have to pay up to the IRS at ther end of the year. Ouch!).

If you use the extra money to pay off some bills, you are creating “preferences” that the bankruptcy trustee can un-do, and you have to answer the common sense question “why are you paying off bills right before a bankruptcy, anyway?????”

If you give the extra money to a relative for safekeeping, you are just inviting a fraud inquiry to an otherwise smooth and easy case.

So the moral of the story is simple: Don’t touch a 401 (k) right before bankruptcy, unless you absolutely have to in order to file the case!


By Doug Beaton

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