Generally speaking, retirement accounts are afforded a great deal of protection. If you file bankruptcy, creditors cannot go after your retirement savings. This includes individual retirement accounts of all types as well as employer-sponsored plans like 401(k)s.
The type of protection each type of account receives differs because they are protected by different laws. And there are exceptions. To some extent, the amount of protection you have may depend on which accounts you have and how much money is in them.
[Read: How to Take a 401(k) Loan]
ERISA Protects Employer-Sponsored Plans
The Employee Retirement Income Security Act of 1974 is a federal law that addresses workplace retirement benefits. In addition to setting operating requirements for employer-provided plans, ERISA provides bankruptcy protection to participants.
Plans covered under ERISA, also commonly referred to as “qualified plans” are fully protected up to any dollar amount. This is a key distinction. Creditors cannot make a claim against money held within an ERISA plan when you file for bankruptcy.
Common examples of ERISA-qualified plans are 401(k)s, some 403(b)s and profit-sharing plans.
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BAPCPA Protects IRAs
ERISA coverage does not extend to IRAs. One reason often given for leaving your money in a workplace retirement plan — rather than rolling it over to an IRA — is that qualified plans are protected from creditors and IRAs are not.
However, that isn’t completely true. First, money rolled over from a qualified plan retains ERISA protection. Second, IRAs are covered another way.
While it is true that ERISA does not cover traditional and Roth IRAs, these accounts are protected in bankruptcy by a different law: The Bankruptcy Abuse Prevention and Consumer Protections Act of 2005, or BAPCPA.
A key difference between the protection the two laws provide is the dollar amount. ERISA protects the entire amount held in qualified plans with no maximum dollar limit. BAPCPA, on the other hand, caps the value. For 2024, the protection extends to account values up to $1,512,350. This adjusts every three years for inflation. Any amount above that limit is subject to creditor claims in bankruptcy.
Another difference is that ERISA provides protection from creditor claims in both bankruptcy and non-bankruptcy. BAPCPA only addresses bankruptcy, and state law determines how IRAs are treated outside of bankruptcy.
[Read: How to Find an Old 401(k) Account.]
Some IRAs Are Covered by ERISA
To avoid potential confusion, it’s worth clarifying that some types of IRAs are covered by ERISA during bankruptcy claims. SEP IRAs and SIMPLE IRAs are workplace plans, rather than standard traditional or Roth IRAs that you open on your own, and are therefore subject to ERISA. This means they are covered by the unlimited bankruptcy protection of ERISA, too.
Like with traditional and Roth IRAs, however, state laws dictate how they are treated in non-bankruptcy situations.
Remember: Money rolled into an IRA from a qualified plan retains its ERISA coverage as well.
These Protections Specifically Apply to Bankruptcy and Certain Legal Claims
The protections offered by ERISA and BAPCPA are limited to bankruptcy and certain legal claims. They don’t protect your retirement accounts from all types of claims or judgments in every situation. Specifically, you may still lose a portion of your retirement funds in these cases:
— A judge orders a split of your retirement account in divorce proceedings or a judgment related to child support or alimony. If this happens, you’ll receive a domestic relations order outlining how the account is to be divided.
— The IRS levies your account for unpaid back taxes.
— You owe fines or penalties related to federal crimes or civil judgments.
What Happens to My Retirement Accounts if I Declare Bankruptcy?
In most cases, your retirement accounts are safe if you file for bankruptcy. Accounts that are part of an ERISA plan have unlimited bankruptcy protection while individual IRAs are protected up to a certain amount.
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Ask a Financial Pro: What Happens to My Retirement Accounts If I Declare Bankruptcy? originally appeared on usnews.com
