Should I pay off creditors with a 401k loan prior to bankruptcy?

Taking out a 401k loan prior to bankruptcy is almost never a good idea. Here's why.

Question

I am considering bankruptcy. However, I have funds in my 401k account. Should I take out a loan against my 401k account in order to pay off some creditors prior to filing for bankrupty?

Answer

If you are considering bankruptcy, you probably feel overwhelmed by creditors who are demanding payment. Although it may be tempting to borrow from your 401k or other retirement account in order to pay off certain creditors, this is generally a bad idea. Here’s why.

Your Retirement Account Is Protected From Creditors

Generally, in a Chapter 7 or Chapter 13 bankruptcy case, your retirement account is a protected asset. This is because most retirement accounts are "exempt" in bankruptcy -- which means the bankruptcy trustee cannot take the money to repay creditors. In addition, even if you don't file for bankruptcy, most retirement accounts are exempt from collection by creditors. (For more on retirement accounts as exempt property, see  Your Retirement Account in Bankruptcy.)

Borrowing From Your 401k Can Endanger Your Fresh Start

If you file a bankruptcy case, you are still responsible for repaying the retirement account loan according to the retirement plan’s rules. This may leave you without the necessary funds to meet your household expenses or to continue saving towards retirement. Moreover, if you are less than 59

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