When you are on the verge of filing bankruptcy it may seem tempting to pay down some secured debts. People fall into the trap of taking exempted funds out of retirement accounts and using those funds to pay down their secured loans. Unfortunately, this type of bankruptcy planning can backfire.
Retirement Account Exemption
Retirement accounts by in large can be exempted in the bankruptcy. This means the debtor can retain their entire retirement account (there are limits on certain retirement accounts), but once a debtor has converted the retirement funds into equity, the funds are no longer able to be exempted as a retirement account.
A chapter 7 bankruptcy filing is a liquidation. This means your assets are liquidated to pay your creditors. While the Bankruptcy Code does allow for some assets to be exempted, there are limits to those exemptions. So if you take funds out of an asset that can be exempted, like a retirement account, and put the funds towards paying off your car, you may have inadvertently created a non-exempt asset for yourself.
For example: your vehicle value is $25,000, you owe $23,000 to the lender so the equity in the car is $2,000. The equity amount is below the exemption limit, therefore the entire equity in the vehicle is exempt. Now let’s say you also have a retirement account with $30,000 in it. That is exempt as well. But, prior to filing you decide to withdraw $23,000 from the retirement account and pay off your vehicle. Now the equity in the vehicle is $25,000.
The Bankruptcy Code only allows for a portion of the equity in the vehicle to be exempt. You have just created a non-exempt asset. What this means for a bankruptcy filer is you will owe the nonexempt assets or the value of the nonexempt assets to the bankruptcy estate.
CALL NOW FOR A FREE STRATEGY SESSION FROM A MN BANKRUPTCY LAWYER AT KAIN & SCOTT
Before converting assets or paying off secured or unsecured loans, consult a bankruptcy attorney. Contact the attorneys at Kain and Scott and see us at www.kainscott.com. You will be glad you did!