Treatment of 401K Loans In Bankruptcy

Retirement Loans In Bankruptcy

What are 401K Loans?

401K is an employer-sponsored retirement account.  401K loans are loans borrowed against your retirement account.  They are fairly easy to obtain as there are no credit checks and interest rates are low. Since you are borrowing from yourself, the interest you pay is generally interest that you are paying yourself.  Your are required to pay back these loans otherwise you suffer penalties and tax charges.  The IRS typically limits 401K loans to a total of $50K or half of your vested 401K loan balance.  Since you are essentially borrowing against yourself, 401K loans are not treated like typical debts.

How are 401K Loans Treated in Bankruptcy?

401K’s in general are exempt in Chapter 7 and Chapter 13.  What does exempt mean?  Just because you are filing for bankruptcy does not mean you have to sell everything you own, you are allowed to keep or exempt various items.  401K under the law is fully exempt and you can keep them when you file for bankruptcy.

401K loans are not considered debts, so you cannot file for bankruptcy to get rid of your responsibility to pay it back without suffering the consequences of penalties and tax liabilities.

401K loan repayments however are considered a deduction to your disposable income, which is a benefit when you run the Means Test.  The Means Test is what is used to determine whether or not you qualify for a Chapter 7 or a Chapter 13.

Bankruptcy is a complex process.  If you feel it is an option for you, please contact our firm and we can set up a free 30 minute consultation today.  Click here to contact our firm.

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